"A reversal is just anything that's a surprise. It's a way of keeping the audience interested." - Tony Gilroy
It was an absolutely wild November as investors and traders sent equities all over the place following Hurricane Sandy, the Presidential elections, and doubt/resolution over the next round of Greek aid in Europe. If you would have closed your eyes at the end of October and opened them up today, it would have seemed like an uneventful month for stocks. Yet, a "vicious V" in the S&P 500 (SPY) occurred as Noveaux Bulls got shaken out of risk markets, only to see them rally back in a stunning way.
Back on September 26, I began arguing that following the Summer Surprise/end to the end of the world trade, a period of "corrective hesitation" would occur, after which the "Fall Catalyst of 2012" would take place. Throughout my dated writings and the various media appearances Ed Dempsey and I have made since then, we have argued that another mini-correction similar to the April-May period was likely. It appears the bottom of that mini-correction occurred mid-November. The Bear Paradox has indeed prevented a more meaningful collapse in equities, as bond yields got back to panic lows in the face of stock dividend yields which look comparatively more attractive.
The Fall Catalyst of 2012 is the idea that price itself will cause money to chase equities higher. I have stated throughout the decline that I believed the Dow could hit new all-time highs by end of year. Many seemed to have been under the mistaken notion that calling for a mini-correction and new highs was inconsistent. They were simply two different time frames, and if the late September-mid-November period was indeed like the mini-correction of earlier this year, we may yet see another "melt-up" like move in stocks similar to the post June 4 period. With December from a seasonality standpoint being on average the best month of the year for stocks, it seems that history is on the side of the bulls.
But what about the Fiscal Cliff? As I said in an interview for the Wall Street Journal Live, the Fiscal Cliff is bullish. Any form of spending cuts lowers the issuance of debt, shrinking supply as the Fed continues its own bond buying. This in turn puts even more pressure on yields, once again making stocks more attractive as an income alternative to fixed income. In many ways, the fact that there are countdowns for the Fiscal Cliff suggests that this is the perfect made-for-TV drama as my partner Ed Dempsey puts it. This alone means it is no where near as scary as the pundits on TV think.
Our ATAC models used for managing our mutual fund and separate accounts got confirmation last week, rotating out of bonds and into stocks. The premise behind our ATAC strategies is to identify the conditions under which stocks or bonds outperform each other using various intermarket trends to get a sense of crowd expectations. This is the first time we have been back in equities since late September, as we were able to avoid the up and down volatility and risks stocks were experiencing post QE3. Generally when such a wholesale change is made to our portfolios based on our buy and rotate ATAC approach, it takes a bit of time to see if conditions hold to signal the move is real. However, given various intermarket trends, the belief by many to short the vicious V, and the resiliency of stocks, the potential very much exists for the Fall Catalyst/new all-time highs to take place by the end of the month.
If conditions very suddenly deteriorate again, our models likely would rotate back into bonds again. This seems like a low probability scenario given recent stock market action. The reflation trade appears to be back, driven by the resiliency of the equity markets themselves. With the S&P 500 on track for its 3rd best year in a decade following 2003 and 2009, we could be on the verge of one helluva run into the end of year.
How does one play this? As I mentioned on CNBC last Friday, if reflation has indeed suddenly returned, anything that is leveraged tends to perform well. Those areas likely are small-cap names, junk debt (JNK), and Financials (XLF). It will be an interesting December.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Additional disclosure: This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.