Bears Bears Run Away...My Little Bernanke (Sorry Yellen) Wants to Play...

” The noble title of "dissident" must be earned rather than claimed; it connotes sacrifice and risk rather than mere disagreement.”

Christopher Hitchens, Polemicist (Marketed by O Ashuji....)

Its time to run....when the most intense bears turn bulls (after several years of up move)

O Ashuji...

Markets advance over last few months (barring recent correction) have made most notable bears into bulls. (Hugh Hendry of Electica, Paul Farell of Marketwatch, Nouriel Roubini of RGE Monitor,etc). Joining them NOW is extreme bear Charles Nenner. Charles Nenner is Executive Director at Charles Nenner Research Centre. He is well known technical and market cycle analyst. He has been extremely bearish with only competition from Robert Prechter. Almost every year since 2010 he has called for market tops and finally in 2014 he sees market going higher by 10%. Such is the nature of price that it makes you do things that you otherwise wouldn't do. Below is time line of his calls since 2010 and last being on 1st Feb 2014.  

2 Feb 2010 - Interview with Forbes (excerpts)

Technical Analyst to the Stars Charles Nenner Calls Market Top

"At the Friday close, technical analyst to the hedge fund stars, Charles Nenner, put out his long awaited sell signal on the S&P 500, with the market’s definitive break of the crucial 1,125 support level. From here you sell into the rallies."

"Farther out, Nenner sees a new major bear market beginning in 2013 that will take both stocks and bonds to new lows."

(Link - http://www.forbes.com/sites/streettalk/2010/02/09/technical-analyst-to-the-stars-charles-nenner-calls-market-top/)

March 2011 Interview 

Nenner still thinks deflationary pressures will lower the Dow to 5,000 - along with a major war by end of 2012 into 2013.

(Link to the video - http://www.youtube.com/watch?v=7vcTm4XE4EA)

March 2012 Interview with Forbes

An Interview With Technical Analyst Charles Nenner (Forbes)...Excerpts

Navin: You’re on record as setting 1449 on the S&P 500 Futures as a target price from which a significant sell-off may begin. You’ve mentioned that the second quarter of 2012 year may be the time frame. Is that correct?

Nenner: Yes, John. The cycle work points to April 19th as the target date for a peak in stock prices.

Navin: What sectors do you expect to be the weakest after your April cycle date high?

Nenner: I expect it’ll be like last year, 2011. The economy seemed strong at the beginning of the year, and then became weak. Incidentally, my economic indicator cycles predicted that as well. We should see the same type of progression this year. The materials sector, in particular, seems weak. The financials are okay, and will basically trade with the market. I would expect that the technology stocks will neither outperform nor underperform.

Navin: The readership of Forbes is largely oriented toward fundamental analysis. What would you say that could persuade them that the study of price patterns is useful?

Nenner: Well, first, let me say that people think too much in terms of price and not enough in time. Cycles are about time. What has occurred in the past in a recurring pattern can be projected into the future. That’s the nature of cycles – which comes from the Greek word for circle. In 2007, we saw a crash coming and mentioned it to our clients, and we published economic indicators at the end of 2008, showing that a low would be reached in March of 2009. This shows that cycles and technical analysis works. I disagree with fundamentalists when they say things are not based on the past. I use a joke to explain this. When the first Dodge vans rolled out of the plant, I was standing with someone who commented to his friend, a Wall Street executive, that he saw a new type of car coming. His friend said to him, “you are a fundamental analyst”. I pulled out a yellow pad, and starting noticing that the vans came out every hour in different colors, and starting charting them. The friend said to me:”you are a technical analyst!”

By the way, I do not call it technical analysis, I call it visualizing.

Navin: Anything else?

Nenner: Yes, this type of cycle analysis also works extremely well for months-in-advance kinds of decisions, in addition to analyses for the next 3 or 4 days, or weeks. My work is used by big institutions, family offices, hedge funds, traders, and brokers all over the world. We don’t manage money, nor are we brokers – so we can give what we can consider to be honest, scientific, unbiased advice.(If money is on line....humility can come naturally not otherwise) So-called “fundamentals” have nothing to do with it. In fact, we consider cycles to be quite fundamental in the truest sense of the word, since they work across all data series – stocks, bonds, commodities, currencies, and economic indicators.

(Link - http://www.forbes.com/sites/johnnavin/2012/03/25/an-interview-with-technical-analyst-charles-nenner/)

August 2013 Interview with Moneynews....

Charles Nenner to Moneynews: US Headed for Recession and It's 'Going to Be Bad'

"We had a target of 1,720 on the S&P, so once we were [at] about 1,700 we sold all the stocks," he said. "The sentiment [is] too extreme. The market is very risky, so we don't go in anymore. We've been out now for the last three, four months and we're just standing aside."

(Link - http://www.moneynews.com/StreetTalk/charles-nenner-recession-economy-united-states/2013/08/19/id/521167)

Feb 2014 Interview with Financial Sense Newshour (www.financialsense.com)

Technician Charles Nenner: This Is Not a Major Correction

"Charles sees some risk to the markets into early February, but does not believe this is the start of a major correction. He believes the stock market should do well in the first half of 2014. Charles also doesn’t see the stock market as overvalued at the moment, but it would be if it rises another 10%."

(Link - http://www.financialsense.com/financial-sense-newshour/charles-nenner/this-not-major-correction) 

Market volatility always increases, when opinions and views are loaded. As we enter 2014, views are increasingly getting loaded. Direction apart, market moves will be large. 

2014 - BIG BINARY YEAR FOR NIFTY (INDIA)

Forecasting prices may be dangerous, but one can estimate odds of price swings (or price volatility) 
O Ashuji....

Role of luck is least appreciated in stock market where it plays the largest role. It plays the largest role in fundamental analysis (it is no way to say that analyzing financial statements is not needed but linking that with price outcome of stock can be dangerous). In past, I had put a blog as to why analyzing stock price movement fundamentally is very difficult. (Blog - Analyzing Price Moves Fundamentally is The Most Difficult Thing.....dated - 17th March, 2013, Link -   http://speculationanart.blogspot.in/2013/03/analyzing-price-moves-fundamentally-is.html). In his latest memo, Howard Marks does great job in explaining the role of luck in investing. Excerpt from the Memo...

The point is that we assemble our portfolios, and future events determine whether our performance will be rewarded or punished. People whose expectations are borne out generally make money, and those whose aren't lose. That process sounds very fact-based, meritocratic and luck-free, and thus dependable. But that’s only the case on average and in the longest-term sense.

1) Sometimes, even though an investor’s projections may be far too optimistic relative to what he should have expected – a.k.a. “wrong” – the investor is bailed out by unforeseeable positive developments, or even by non-fundamentally based price appreciation. Either way, the stock rises and the investor is applauded. I’d say he was “right for the wrong reason” (or "lucky).

2) Alternatively, a prudent, skillful investor may formulate a reasonable view of the future, only to see the world go off the rails and his investments fail. He might be described as “wrong for the wrong reason”(or  "unlucky”).

3) An investor may take an appropriately cautious stance – let’s say toward tech stocks in 1997 or residential mortgage backed securities in 2005 –  only to see an irrationally overpriced market  become more so, as prices soar for years. He looks terrible, a victim of the old adage that “being too far ahead of your time is indistinguishable from being wrong.”

4) Further, in a special case of being wrong as to timing although perhaps not fundamentals, an investor may take a concentrated position in a laughably underpriced stock, using a huge amount of borrowed money. But before the expected appreciation can take place, a market crash brings on a margin call, and he’s wiped out. As John Maynard Keynes said, “The market can remain irrational longer than you can remain solvent.” 

Stock prices are subject outcome based on wide range of issues, only thing constant is that they will move. Forecasting of stock prices is thus very difficult if not impossible job. Odds of price swings can be estimated due to nature of price clustering. Again we are only talking about Odds.

2014 - BIG BINARY YEAR FOR NIFTY (INDIA)

Before we get into numbers, I will once again put certain points about nature of price move in stock market. 

Markets are Risky – Extreme price swings are the norm in financial markets. Price movements do not follow the well-mannered bell curve assumed in modern finance; they follow more violent curve that makes and investor’s ride much bumpier.

·     1) Trouble runs in streaks – Market turbulence tends to cluster.

·    2) Markets have a personality – Prices are not driven solely by real world events, news and people.    When investors, speculators, industrialists, and bankers come together in a real marketplace, a  special, new kind of dynamic emerges – greater than, and different from, the sum of the parts.  Fundamental process by which prices react to news does not change. Mandelbrot analysis of cotton  price over the past century shows the same broad pattern of price variability at the turn of last  century when prices were unregulated, as there was in the 1930’s when prices were regulated as part  of the New Deal.

·    3) Markets mislead – Patterns are the fool’s gold of financial markets. The power of chance suffices  to create spurious patterns and pseudo-cycles that, for the entire world, appear predictable and  bankable. But a financial market is especially prone to such statistical mirages.  Bubbles and crashes  are inherent to markets. They are the inevitable consequence of the human need to find patterns in  the pattern less.

·  4) The size of price changes clearly clusters together. Big changes often come together in rapid  succession, and then come long stretches of minor price changes. (Trouble runs in streaks)

Price levels/changes exhibit some kind of irregularity regularly. The charts sometimes rise or fall in long waves, or with small waves superimposed on bigger waves. But none of this phenomenon – clusters of volatility, or irregular trends – resembles any of the cycles, waves, or other patterns that characterise those aspects of nature controlled through well-established science. There are no familiar sine or cosine waves, with regular periods.  These peculiar patterns cannot be predicted; and so humans who bet on them often lose. Yet there clearly is a system to them. It is as if the charts have a memory of past. If the price changes start to cluster, or the prices themselves start to rise, they have a slight tendency to keep doing so for a while – and then, without warning, the stop. They may even flip to opposite trend. 

(Source - The (Mis)Behavior of Markets - Benoit Mandelbrot)

Let the Data Talk....

One can try to estimate odds of price swings based on how price swings has been. Compressed price movement will be followed by wider swings in prices. Just like spring,when its compressed or stretched, the force it exerts is proportional to its change in length. Compression/Expansion of price moves can be measured through price swings based on various time frames (daily, weekly, monthly, yearly). 

Daily Compression

Table 1- Number of days with more than 3% move (Nifty)

 1) 2012 was historic with none trading days having more than 3% move in a single day. 

2) Last 4 years 2010-2013 have been relatively compressed as can be seen from lesser number days with move greater than 3%. 

Weekly Compression

Table 2 - Number of weeks with more than 4% move (Nifty)

Extreme compression in this data point in last 2 years. 2013 had just one week with more than 4% move. 

Monthly Compression

Table 3 - Absolute % Move on Monthly Basis and Cumulative Score 

Very low score for last 4 years (2010-13) as can be seen from last column. 

Yearly Compression 

1) 2013 most compressed year in terms of high low range. 2012 and 2013 were back-to-back compressed years. 

2) Extremely ranged market for last 4 years given the returns. 

Conclusions

1) Data is largely self explanatory in terms of compressed markets. 

2) Market's range (excluding years when bull market started or ended - 2000, 2001, 2003, 2008 & 2009) is typically 40%+. This is range not returns. Even if one were to apply 30% range for market for 2014, Outcome of Nifty could be very different than what most expect. There could be 4 scenarios - Trending market on upside or downside, Choppy market with move up and then down or other way round. Under all 4 scenarios with 30% range, Nifty levels would take most by surprise. 30% range is relatively modest (lower than typical range and coming out of compressed years). 

3) Best way to play such scenario is buying out of the money options. Since Indian markets are not liquid beyond one month, one can play straddles (3-5% pair) in a step up way till a month which clicks in a big way. 

Nifty (India) - Towards New High With Significantly Worse Internals.....

Returns in Bull Market are determined by leverage, while in a Bear Market skill plays a larger role. 
O Ashuji....

Nifty has been in the range of 6.2% since 1st November 2013 (when it breached 6300 after gap of 3 years). Thus for last 2.5 months (52 trading days), Nifty has been very compressed. Nifty breached its all time high on 9th December 2013. Thus, its been long consolidation for last 2-3 months. Are market internals telling different story ??

Nifty (India) - Towards New High With Significantly Worse Internals.....
In blog titled - "Bank Nifty and Massive Dispersion in Nifty Raising Red Flags....." (dated 24th July, 2013,

Link - http://speculationanart.blogspot.in/2013/07/bank-nifty-and-massive-dispersion-in.html), I had elaborated on 2 aspect that usually flashes warning signs. 

1) Dispersion within Nifty components 

2) Diverging Performance between Nifty and Bank Nifty

What happened to market post that post is history. 

Nifty once again is flashing warning as it approaches all time high yet again. We will compare market internals between 9th December, 2013 high and now.

9th December 2013 High Vs Now...

1) 18 stocks (36% of Nifty) outperformed Nifty, with gains largely coming from IT Stocks. While other gainers were largely Pharma. 

2) Massive Damage in Bank Nifty and other Momentum Stocks namely JPA, Larsen, IDFC, Metals, etc as can be seen from the losers. 14 stocks (or 28% of Nifty) had double digit losses since 9th December high. 

3) Bank Nifty is down 8% since 9th December high while Nifty is largely flat (down 0.7%). Such divergence in performance is usually not healthy. 

4) Break out towards or after new highs are usually not so weak internally. 

Nifty's Internal Deteriorates....

Markets may lie but never deceive, Market Strategists (aka Brokers) tell truth and always deceive....
O Ashuji

2013 so far has been the most compressed year in terms of high low range for Nifty (other compressed years were 1994 and 2012, both with 28% range) being 20%. With back to back compressed years, 2014 certainly looks break out year (up or down). There has been lot of excitement with Nifty breaking all time highs in December. However post December 9 highs, markets fell 4% and has been slowly grinding back. Lets look at Nifty's internals to understand sustainability of the up move. Markets on surface may lie but market internals never deceive.  

Nifty's Internal Deteriorates....

1) Dec highs is 9th December while November Lows is 13th November. 

2) Rally going into December high was momentum driven as can be seen from quality of stocks leading the rally (JPA, BHEL, AXIS, LARSEN, ICICI, etc) 

3) Rally from recent December lows (17th December) till now is largely defensive driven by IT and Pharma. 

4) There has large correction in momentum stocks (banks - ICICIB, IDFC, LARSEN, etc) from Dec Highs (9th December), while IT and Pharma have significantly out performed as can be seen from 1st column.  

5) Nifty is clearly losing momentum. 

Nifty RSI losing momentum with newer highs.....

Markets and "The Science Of Availability"

Only field that matters to markets is Psychology....Perception of Reality is the only Reality..

O Ashuji...

In markets, we often use the term recency bias to describe how we often tend to paint current understanding of events based on recent history or pricing of stocks based on recent events. The same concept has been beautifully explained in the book "Thinking Fast and Slow" - Daniel Kahenman (Chapter 12 - The Science of Availability). Ability of market participants to extrapolate recent events into the future is very natural because it gives sense of control over events. Assets gets priced accordingly, while future is invariably very different and hence asset prices in future is very different. I will quote part of text from the chapter "The Science of Availability" and then understand how same can be applied to option pricing. 

Markets and "The Science Of Availability"

"We defined the availability heuristic as the process of judging frequency by the - ease with which instances come to mind." -  "Thinking Fast and Slow" - Daniel Kahenman (Chapter 12 - The Science of Availability)

Similarly in markets recent price performance will be extrapolated and in most cases results will be very different. Few examples from the book "Thinking Fast and Slow" on "The Science of Availability"

1) A salient event that attracts your attention will be easily retrieved from memory. Divorces among Hollywood celebrities and sex scandals among politicians attract much more attention, and instances will come easily to mind. You are therefore likely to exaggerate the frequency of both Hollywood divorces and political sex scandals. 

2) A dramatic event temporarily increases the availability of its category. A plane crash that attracts media coverage will temporarily alter you feelings about the safety of flying. Accidents are on your mind, for a while, after you see a car burning at the side of the road, and the world is for a while a more dangerous place. 

3) Personal experiences, pictures, and vivid examples are more available than incidents that happened to others, ore mere words, or statistics. A judicial error that affects you will undermine your faith in the justice system more than a similar incident you read about in a newspaper. 

Similar examples one can be applied to markets and same gets priced into options accordingly. 

Options Value (primarily through higher implied volatility) will tend to rise going into major economic/monetary events. Market participants tend to exaggerate expected market movement. Actual market movement post event in most cases is very muted compared to implied by option prices. Apply this to Obama re-election event, Fed Meetings, RBI Meetings, Infosys Results, etc. Most of the time option prices will exaggerate expected price movement. Implied volatility plays very crucial role in option pricing. 

In past, I have written extensively about compression of prices and how the same affects option pricing. 

1) Why Options are best way to play "Central Banks" dominated markets.....(29 May 2013)

Link - http://speculationanart.blogspot.in/2013/05/why-options-are-best-way-to-play.html

2) August 2013....Setting up for BIG MOVE in Equity Markets...!!  (23 July 2013)

Link - http://speculationanart.blogspot.in/2013/07/august-2013setting-up-for-big-move-in.html

3) Market Compression Reaches Extreme !!! (26 December 2012)

Link - http://speculationanart.blogspot.in/2012/12/market-compression-reaches-extreme.html

4) Is Nifty's Implied Volatility Under Pricing Actual Volatility.....? (4 July 2013) 

Link - http://speculationanart.blogspot.in/2013/07/is-niftys-implied-volatility-under.html

Options can become very cheap due to...

1) trending markets

2) perceived risk is smaller than actual risk (when major events are out of way)

3) market moves are very subdued (small ranges, lower volatility etc) 

Very Favorable Entry Point in Buying Straddle or Puts for January 2014 for Nifty...

Indian Market (Nifty) Internals still fails to point healthy market (will try to discuss in some other blog)..Though entry point is not as good as in late July 2013 (Pls refer to blog dated 23 July 2013), but still very favorable. 

Subdued December (and major event out of way - RBI and Fed Taper) is getting priced into option markets through sharp fall in IVs. Actual risk is higher when perceived risk falls. 

Large number of trading days and lower IVs for Jan 2014 provides very favorable entry point for option buyers (more so put buyers)

Being Right Is Not Enough In Markets....

Large part of effort is spent on getting direction of market right...little is spent on how to play that direction right....

O Ashuji...

Most in financial markets (I refer to traders not brokers...brokers are as their name implies BROKERS) spend most of their time getting the direction right on markets. It may based on studying macros, price movement, inter market relationship, volatility, cycles, etc. But most of the time results are very different even though one may be right on the direction of markets. This is due to SIZING OF TRADES. In this blog, I will not get into how to size but why sizing of trades is important. 

Being Right Is Not Enough In Markets....(Why Sizing of Trades Matter)

Stock Price Moves are Compressed

Stock market returns are compressed (Price Moves are compressed, Large part of moves occur in very brief period of time). Since moves are compressed, wrong sizing of trades and frequent trades can drain you out before large moves set in. Trading is boring and Investing is even more boring because moves are compressed. If trading becomes exciting then its largely broker who is enjoying. Leverage should differ across times. If its kept constant then basic principle of price move (compression of price) is not respected and results will be very poor. One has to be active only during 20% of time (because 80% of price move occurs in 20% of time) and its only during this time sizing of trade matters. If sizing is poor during this time then at worst of the time sizing will be increased to compensate for the missed move. 

Extent of Volatility is Difficult to Know

Call on market direction may be right but extent of volatility could be very different which can drain out mental capital in the market. "I got the general direction of the market right, but I did not allow for volatility. As a consequence, I took on positions that were too big to withstand the swings caused by volatility, and several times I was forced to reduce my positions at the wrong time in order to limit my risk. I would have done better if I had taken smaller positions and stuck with them." - George Soros (Book - The Soros Lecture). Basically with reduced size of trade volatility can be played much better. 

Mental Capital is More Important Than Economic Capital

Wrong sizing of trade kills not only economic capital but also mental capital. Mental capital is far more important than economic capital. Being right on trend/trade and not making money or making very little money is very painful. One might not lose economic capital here but mental capital will be exhausted to capture future opportunities. 

Most of the biggest traders made largest part of their fortune in the smallest amount of time in their career. Trading is very different (compared to other businesses) and should be treated differently. Its not annuity game, its a barbell game. 

Bubble Talks (All Around)....

Asset Bubbles are formed when "This Time is Different"....

O Ashuji...

Asset Bubbles have been widely discussed topic. Many have devoted large amount of research to the same. I will not get into definition aspect of the same. One of the most important requirement of bubble is lack of discussion on bubbles. Bubbles are born and flourishes when "This Time is Different". 

Bubble Talks....All Around..

S&P 500 rally has been one of the most hated one because it has take most by surprise and continues to do so. Rally has been relentless on top deteriorating economic data. Most traditional "valuation" tools used by experts are flashing red flags (Unless belief is such high profitability and margins are sustainable). But Price action is supreme than opinions. Opinions are cheap and meaningless if they don't catch up with price action. S&P's price action continues to be strong among growing bubble talks which indicates - we could be in early part of big bubble formation. Market Frothiness can correct with time and price but when bubble is so widely discussed sustainable fall in asset prices is unlikely. I have never come across bubble discussion so much with market touching new highs. Most Discussions are centered around how Fed is fueling asset bubbles. 

Recent Bubble Talks...(I will not quote any blogs which reflects more of personal opinions)

Bubble fears as US stocks break records (20 November, 2013) - Financial Times

Link - http://www.ft.com/intl/cms/s/0/3375bc64-4e17-11e3-8fa5-00144feabdc0.html#axzz2lJFTgpvN

Why Stocks Are Undoubtedly Experiencing A Massive Bubble (8 October, 2013) - Forbes

Link - http://www.forbes.com/sites/jessecolombo/2013/10/08/why-stocks-are-undoubtedly-experiencing-a-massive-bubble/

Are We Headed for a Tech Stock Bubble? (18 November, 2013) - USA NEWS

Link - http://www.usnews.com/news/articles/2013/11/18/are-we-headed-for-a-tech-stock-bubble

As market bubbles form, investors may want to take cover (18 November, 2013) - Reuters

Link - http://www.reuters.com/article/2013/11/18/us-markets-bubble-analysis-idUSBRE9AH10J20131118

Bubble Trouble? (16 November, 2013) - Barrons

Link - http://online.barrons.com/article/SB50001424053111904227604579194121510134080.html?mod=BOL_twm_ls#articleTabs_article%3D1

I could go on and on with further links. Idea is to understand mood of market participants. Even during Janet Yellen (New Fed Chairwoman) First Senate Testimony, many senators asked her about stock market bubble. 

When price moves are stronger than ability to comprehend then those moves have a long way to go. Its only when sky is clear, trouble begins. This "Bubble" will burst only when confidence in Fed is lost (which will get reflected in bond and currency markets).