OK. So maybe I was a bit too alarmist in my last post. It’s a bad habit, but just how patient should we be with this market before we get out?
The truth is, not very.
Bulls have made money in this market for 9 straight years. 9 years without a bear market! And now the Fed has loudly and specifically turned hostile to asset price inflation. It told us that it would pull the punchbowl. Then it told us that it is pulling the punchbowl. Then it started to pull the punchbowl. Now it is continuing to pull the punchbowl at an ever-increasing rate. And the US Treasury is exacerbating that by doubling the amount of supply it is bringing to market.
As I said on Wednesday — it just does not get any more bearish than that.
Let’s look at Thursday’s rally in context….and make some money, while we’re at it.
Mr. Mnuchin’s “Piggy Bank Raid” Drove The Rally – But It Won’t Be A Long Ride
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First of all, the narrative behind this rally was just a coincidence. Supposedly it was about great tech earnings. But as always when the market rallies, the cause was an increase in liquidity. In this case it’s a very short term increase.
Last week I told you about all the cash that the US Treasury had poured back into the accounts of dealers and institutions. That happens every April when tax collections roll in. The Treasury has so much cash that it uses it to pay down a few maturing T-bills, notes, and bonds.
It happens every year and it gives the market a temporary boost. That maturing debt is held by dealers and institutions. They get their money back. It burns a hole in their pockets, so they redeploy it. Some of it goes to buy other bonds, notes and bills, temporarily pushing down rates and yields. And they use some of it to buy stocks. Invariably stocks rally in April and often into mid May.
As of April 19, the net paydowns since April 5 had totaled $125 billion. I thought they were done. But (Gomer Pyle voice) Surprise, Surprise, Surprise! Just for extra measure, the Treasury piled on a little bit yesterday (April 26). It paid down another $8 billion in outstanding Treasury bills. That brought April’s total paydowns to $133 billion.
You know the old story. A billion here, a billion there, and pretty soon we’re talkin’ real money. Well, make no mistake, $133 billion in a few weeks is enough to move the market, big time. And it did.
In 2017, the paydowns came later, from April 17 to May 1 and totaled a “mere” $100 billion. This year, Mr. Mnuchin (Gezundheit!) raided the Treasury’s piggy bank and started those paydowns early, beginning on April 5. He used that piggy bank coin to goose the markets.
You don’t suppose that he did that because on both March 23, and April 2 it appeared that the market was on the verge of crashing through the February lows, do you? No, they wouldn’t manipulate the markets that way just to forestall a crash? Would they?
Hey, I just ask questions. I’ll leave it up to you to decide for yourself whether it might be the case. I’ll just try to give you the facts so that you know what to look for.
In any case, in this instance, $133 billion over the space of a few weeks was more than enough cash to burn a hole in the pockets of those dealers and investors who received it. Along with the cash raised in Tuesday’s market selloff, it provided plenty of monetary fuel to drive a spirited rally in both stocks and bonds on Thursday.
Remember, this isn’t just some money that amorphously and mysteriously happened to find its way into the stock market. This was cash that the US Treasury PUMPED DIRECTLY into the trading and investment accounts of dealers and other investing institutions. There’s no mystery here. This is cause and effect.
But it works in two directions, and this is where the gravy train ends. On Monday, April 30, the Treasury settles its usual end of month note and bond offerings. It will suck nearly $20 billion right back out of those accounts into which they just injected the $133 billion.
Clearly, most of that $133 billion has already been deployed. The April rally is clear evidence of that. But it ran out of gas on April 19, despite $43 billion in paydowns settling that day. Dealers and institutions can and do place buy orders in advance of receiving the cash from these paydowns. In the 3 days before receiving that cash the SPX rallied 41 points.
And look what happened the week before that. There was a mammoth $64 billion paydown on April 12. The players holding the paper that was due to be paid off knew that cash was coming. From April 6-12, the SPX rallied 60 points. It sure looks like every billion in Treasury paydowns is worth an SPX point, doesn’t it?
Now that the paydown game is over, will the market fall 1 point per billion of new debt issuance? Given the TBAC’s published issuance schedule, and the fact that we know that the budget deficit run $100 billion per month on average for years, it will only take 27 months for the S&P 500 to get to zero.
OK, so that won’t happen, but under the circumstances, the odds favor something big and bad, this way will come. This is no time to be complacent.
Let’s tie all this to the technical analysis. Here’s one of the technical cycle charts that I publish weekly in the Wall Street Examiner Pro Trader market updates. It’s busy and complicated because it is a picture of lots of data. I won’t go into all the detail here. I just will point out a couple of keys that I’m watching.
This Chart Shows What Spooked Mnuchin (And Why He’s Right to Be Scared)
First, note just how close the selloff on April 2 came to breaking the low. The closing SPX was just 0.88 above the February 8 close. No doubt that spurred Maestro Mnuchin into action. The money flowed like a mighty river. Ex Wall Streeter, now Treasury Secretary Mnuchin was the wizard behind the curtain.
The fact that that money was coming was no surprise to dealers and institutions, of course. The Treasury posts its auction schedule every Thursday for bills and in the week before mid month and end of month for notes and bonds. The dealers also have the TBAC schedule which I report to you regularly. Heck, they’re the ones who draw it up.
So, everybody knew that big paydowns were coming. But luckily, we have that information too. Moreover, the April paydown rally has been a fixture of the market for years. So I had given you a heads up that it was coming.
The difference this year was that the Treasury kicked it off early by robbing its piggy bank. And no doubt they will rob it again to goose the market again, just not this week. We have the Treasury issuance schedule for the end of the month, and the TBAC estimates for the rest of the second quarter. We know that there will be net borrowing starting Monday. And more in May and more in June, and so on, ad infinitum as the budget deficit soars. The supply pressure on all investment markets will only grow from here.
The Market Likely Won’t Clear Resistance, So Here Are Our Shorts
So here’s where the TA comes in. The target of this stock market rally should be the mid March peak of 2717. That is also resistance. The market had plenty of cash to attack that level and got a bit more yesterday (April 26). But now those cash flows will run in reverse. Therefore, the market should have a hard time clearing that level. The Treasury starts withdrawing cash from the market as it goes back to being a net issuer, again next week. That means that cash that could have flowed into stocks will be sucked up by the Treasuries.
The S&P has trend resistance just above between 2725 and 2750. So even if they manage to forge beyond that 2717 level, the going will be tougher from there on. And there will be less and less cash available to fuel demand. Let’s not forget that the Fed is also pulling $30 billion per month out of the market.
Finally, let’s look back up at the 10-12 month cycle indicators at the top of the chart. The momentum line has stabilized but it has not exceeded its mid March peak. If it does so, concurrent with a price breakout through 2750, then there might be something more to this rally. If that happens we will come up with some long side picks for a trade to take advantage of that, but only a trade.
I think that that’s a long shot, but I never rule anything out. There can always be something that I didn’t think of or follow that can upset a forecast. So I try to stay flexible if the unexpected happens.
If the rally fails to get through that 2717-2750, area, or worse, if it fails to get there at all, then Katy bar the door. Barring another pump job by the master market manipulator Mnuchin (remember, a former Wall Street wiseguy), the market would probably break down on the next test of the February low.
All in all, I see nothing here to change my recommendation to be out of stocks to the greatest extent you can manage, and to short rallies at resistance by shorting the SPY or holding the REIT ETF RWR as a set it and forget it short.