If the last couple of years we had a retail mania on the upside, we now appear to have a mania on the downside.
Here’s Bloomberg on the state of the markets these days:
It’s quite a change in tactics for retail traders. Enticed by the sharp equity rally and bolstered by stimulus checks during the pandemic, small-time investors flocked to open trading accounts and poured cash into stocks. Now, as many flee the slumping market, others are using short positions in an attempt to claw back some of the losses of the past several months.
Connor Furlan, a 29-year-old consultant in Chicago, had never shorted anything until this year, when he noticed how inflation and the war in Europe were rattling markets. Last year, all of his portfolio was in long positions. Now, he’s got about 50% in short positions — mostly through the ProShares Short S&P500 ETF (SH) and the Direxion Daily S&P 500 Bear 3X Shares ETF (SPXS) — combined with 25% cash in money-market funds and 25% in value-oriented equities.
He is like the guy in Vegas who — upon making a small fortune at the poker table — believes he’s found the elixir of life. Instead, all he’s found is a gateway drug to impoverishment. Just like with shorting, the house has the odds. And it is only a matter of time before the house cleans him up.
TO SHORT… OR NOT TO SHORT?
On the topic of shorting, we’re not big fans of it. Always struck us as a tough gig.
Instead, we prefer to find an asset class that benefits as a consequence and go long.
You see, shorting holds a couple of problems that few bother to talk about. One is time frame. If you’re short directly you really need to watch and manage that position daily. Do you want to do that? Do you know when it’s over — if it comes? How do you position size your short? And what if some pointy shoe gets it into his thick head to unleash a wave of “stimulus” (not like it’s never happened before)?
And if you’re using futures you’re playing with fire — literally. Now, don’t get us wrong. There is nothing wrong with using futures. But it’s a bit like asking one of us to drive a formula 1 car. Sure, we could probably drive it, but we have a much greater chance of wrapping it around a pole than someone who actually knows how to handle the thing. So you’ve gotta ask yourself the question: are you the proverbial Lewis Hamilton?
The second way to short (our favoured one) is using options. Why? Simple! We can limit our known downside and thus exposure. Note: we never write options. The issue here is that if we’re using US option markets, we’re limited to a 2-year timeframe, which is rather inconsistent with our overall strategy. Over in Europe, where option markets are far more advanced and frankly, much better, we will occasionally go pick up some juicy multi-year options — either long or short. But — and this is the most important part — rarely as a consequence of a short-term recessionary fear (like today).
The best way (in our opinion) is to simply buy logical deep value situations and use intelligent risk management (position sizing) to mitigate risks. And, if you’re terrified, just go to cash with whatever you’re comfortable with.
ALL THINGS TRANSITORY…
Feels like a lifetime ago, when — back in February 2020 — we started warning that lockdowns will bring about inflation and shortages. Fast forward to today, and this pesky stuff is now part of our daily lives. We recently set up a dedicated inflation channel in our Insider private forum, where members can share their own experiences with all things “transitory”.
This week, we have an energy update from Moldova from Insider member Vitalie:
After another natural gas price hike for household users, we’ll be paying 29,27 MDL for 1m3 in October (with USD now at about 19.32 that’s about $1.52/m3). Last year we were paying 4.64 MDL, which works out to 531% increase in national currency.
While my household uses only a few m3 of gas a month (cooking only, since we’re on central heating), many people use gas for heating their homes/apartments (even in centrally heated buildings as they converted years ago to be able to control the heating process). That’s the inflation part.
For the shortage part, all our gas comes from Russia via a pipeline through Ukraine. There is an alternative pipeline from Romania, but it’s smaller and not yet operational I believe. We’ve had Russian gas cut several times in the past 30 years (mostly for political reasons by Russia), but none of those happened in the middle of winter.
Truly wild times we live in!
COMMODITIES: A DIFFERENT PERSPECTIVE
We have seen commentary suggesting commodities are in a bear market.
Below is the Thomson Reuters/CoreCommodity CRB Index, which tracks the movements of 19 different commodities. It’s down about -20% from its recent highs.
Keep in mind that the above chart is priced in US dollars.
That said, to us a true “bear market” is weakness in commodities against a basket of currencies. We wrote a long essay on the topic in the recent Insider Newsletter issue, but in the interest of not making this missive even longer, let’s for now look at commodities priced in three different currencies.
First, in GBP:
Or in JPY:
Or how about gold:
We could, of course, be wrong. But it appears that commodities aren’t in a bear market. Instead, they remain very strong against a basket of currencies/financial assets. This is rather remarkable given all the talk about recession and consequent commodity weakness being bantered about by the press of popular opinion.
Some food for thought…
CHRISTMAS IS COMING!
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Have a great week!
– The Team at Capitalist Exploits