Deploying Cash for a Slight Upward Market Bias

There’s little to do when one is wrong but admit, find a lesson, and move on. In that spirit, my decision to trim the majority of the Petrobras (PBR) position in the Secular Trends Portfolio was ill-timed, to say the least. I was concerned about several straight weeks of rising crude inventories, and I didn’t like the company’s leveraged position to crude futures in that light. As mentioned in my previous post:

I’ll be looking to re-beef the PBR position as soon as crude inventories stop shooting to the moon…

Well, this week the EIA showed a surprise drop in crude inventories of 8.4 million barrels, a metric I was quite shocked to see after weeks of surprising on the upside. As a result, crude has rallied more than 7% since the release, while PBR has risen more than 5%.

I was tempted to rebuild the position Friday before the close, but I’m a believer in the not-so-famous axiom of “one metric could be anything, but two can set a trend” (copyright pending). So I’ll wait it out until next Wednesday’s report to see if there’s a real drain on supplies happening, or if this week’s report was just an aberration. In the meantime I’ll lick my wounds and gaze fondly at the attractive chart for Petrobras.

Mr. Market on a Confusing Diet of Uppers & Downers

Despite my constant attempts to cancel out the diverging data and anecdotes, I confess that I just can’t peg the next 10% move in the equity markets. My slight hedge is towards up, but I can’t remember a time when there were so many crosscurrents swirling around a single economy. With options expiration Friday and volume remaining extremely thin, there’s not a lot of conviction to be found despite the direction of the proverbial tape.

One thing that stands out to these restless eyes is that our government’s stimulus, both via direct legislation and indirect monetary means, is having a delayed effect. Meanwhile, the cost-cutting (leading to margin-boosting) efforts of Corporate America have been occurring in a parallel process, which implies some built up gunpowder going into the remainder of the year. The market anticipates this already, which is the only reason why the S&P 500 dismissed 950 so easily and shuttled its way past 1000.

Helping this process along has been the ratcheting up of 2009 S&P operating earnings estimates by nearly every macro guru, putting the market’s run-rate P/E in the range of 13-16x, depending on who you believe and at whom you scoff.

Portfolio Update

The Secular Trends Portfolio has been holding its gains steady against the broad market, but I’ve been disappointed with the near-term performance of names such as Safeway (SWY), Costco (COST), and Electronic Arts (ERTS). The cash position is a little top-heavy at 10%, so I’ll be looking to add another healthcare name in addition to possibly cutting Goldman Sachs (GS) and Peabody Energy (BTU).

As the one year mark since the Portfolio’s inception nears, I have a very base desire to crack the 35% outperformance barrier over my benchmark S&P 500. I don’t know why 35% feels so much more “validative” than the 30% I sit at now, but 35 points of alpha is my goal, and I’ve got just under a month to get there. To that end I’ll be employing all the cash on Monday, in line with my slight hedge toward an upward market bias and the fact that there’s just a few stocks out there that look ultra-attractive.

Disclosure: Author does not hold personal stakes in the companies mentioned.

Comments

[BullnBear:]

I understand your thoughts here; the market is very much on a diet of uppers and downers and is throwing mixed signals on a regular basis.

I have gone flat almost daily looking for confirmed signals before moving on just about everything. I was confident that oil would pull back this week and was able to sidestep most of the damage when it went the other way.

I tend to believe that this past weeks EIA oil data was lacking something but I’m not sure what and so like you I’ll probably wait and see what we are dealing with unless of course enlightenment arrives earlier than Wednesday.

Aug 23 01:05 AM

[axelrod608:]

Indeed, mixed signals abound, and whatever conclusions one reaches one day must be reconsidered the next day in this market.

One difference when using OOM - one's own money - rather than OPM - other people;s money - is that losses are personal. Looking at how far the market has come and how fast, there IS a correction coming. So I am at about 95% cash now. I know I may be missing out on the last bit of gain, but I can afford that more than an(other) substantial loss.

I don't know when the correction is coming ( best guess 3rd week of September) or how big it will be, but I plan on having plenty of cash ready to jump back in when nobody else wants to.

Aug 23 09:36 AM

[Inflatormouse:]

This blog is very interesting, although it seems like it follows weekly / monthly movements closely and is more geared to cyclical rather than secular trends.

Aug 23 10:54 AM

[thotdoc:]

I agree.It's difficult to sit and watch stocks I've made a lot of money on go up after I've gotten out due to risk management. ISRG, RTP, X, VE, several China plays, etc. But rationality prevails

So, I'm 90% cash. But holding and making money on specific plays that should continue to go up due to where things are going, eg FCEL, XIDE, SIRI, etc. I guess you could call these special circumstance stocks. Each has a story. So, in writing this, maybe it's OK to buy stock that are low and that have a reasonable story. Or, maybe I'm just convincing myself to play because playing the market is as much of an addiction that any other that appeals to adrenelin junkies.




On Aug 23 09:36 AM axelrod608 wrote:

> Indeed, mixed signals abound, and whatever conclusions one reaches
> one day must be reconsidered the next day in this market.
>
> One difference when using OOM - one's own money - rather than OPM
> - other people;s money - is that losses are personal. Looking at
> how far the market has come and how fast, there IS a correction coming.
> So I am at about 95% cash now. I know I may be missing out on the
> last bit of gain, but I can afford that more than an(other) substantial
> loss.
>
> I don't know when the correction is coming ( best guess 3rd week
> of September) or how big it will be, but I plan on having plenty
> of cash ready to jump back in when nobody else wants to.

Aug 23 12:00 PM

[Tao Man:]

Just curious, what is your definition of the market when nobody wants to jump in?


On Aug 23 09:36 AM axelrod608 wrote:

> Indeed, mixed signals abound, and whatever conclusions one reaches
> one day must be reconsidered the next day in this market.
>
> One difference when using OOM - one's own money - rather than OPM
> - other people;s money - is that losses are personal. Looking at
> how far the market has come and how fast, there IS a correction coming.
> So I am at about 95% cash now. I know I may be missing out on the
> last bit of gain, but I can afford that more than an(other) substantial
> loss.
>
> I don't know when the correction is coming ( best guess 3rd week
> of September) or how big it will be, but I plan on having plenty
> of cash ready to jump back in when nobody else wants to.

Aug 23 12:38 PM

[Jonathan Ch...:]

Just some thoughts about how I look at the Petroleum Market and crude prices.

There are several forces acting on the market simultaneously, and short term prices bounce around based on those forces, in the same way particles in a liquid bounce around due to Brownian Motion, flicking one way or another as hit by incoming atoms.

In the case of oil prices we have the following:

1. Current production
2. Current consumption
3, Expected production
4. Expected consumption
5. Permanent storage (tanks)
6. Transient storage (tankers on voyages)
7. Temporary storage (tankers with cargo - Contango)
8. Current overseas value of the dollar
9. Expected overseas value of the dollar.

Recent prices (6 weeks or so ago) were low because current consumption was low, expected production was low, the value of the dollar was high, and excess oil production, (which had been going into Contango, but was no longer going there since many tankers were full), was high. At the same time the oil put into contango months ago was being delivered, creating excess supply.

Now, the dollar looks week going forward (In July the FEDs spent $330 Billion but had an income of only $150 Billion), this is creating a lot of dollars. Like bananas, when you have too many of them, the price goes down, and eventually, they go bad. In addition there seems to be some feeling that China and the US will be increasing usage of Crude.

The increasing price of future oil delivers is set to create a new round of contango, as the cost of oil storage, loosely calculated at $0.40 per day, is less than the price of oil for guaranteed delivery in the future including the cost of storage.

The result is upward pressure on oil prices as increasingly bad dollars are attempting to buy Oil.

Aug 24 08:11 AM