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The Mother of All Short Squeezes


Market participants do not appreciate how much this short squeeze dynamic is at play, or how much downside it presents.

Now I'm not going to pretend that I have called this market with absolute precision, but I was also providing early warnings in 2011 that went unheeded. It's not as much timing the turn that's as important as realizing what driving underlying market dynamic is not sustainable and therefore a suggesting a reversal is in the offing. This way you can be better prepared to take advantage of dislocation ex ante without succumbing to all the reactionary melodrama. I am happy to miss out on the short term wiggles in order to catch the long term trend.

I do believe I have the nature of trade correct, whether short outright or in terms of net market exposure. And just like 2011, once this position gets fully flushed, there will be a violent reversal. However from a technical perspective, unlike 2011 where the market was recognizing long term pivots now that we are at new highs, there is no such reference. This makes identifying a spot for a final flush and subsequent turn much trickier. For my money the best technical tools at your disposal are regression and momentum, and by these measures the market has extended into a zone where at a minimum a reversion to the mean should be expected.

S&P Daily RSI Regression

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S&P Weekly RSI

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S&P Monthly RSI

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Typically when I try to identify a swing, I line up the RSI (relative strength index) on different time frames. For example, when the daily and 60-minute reach overbought levels, I look for the market to work off these overbought conditions in order to generate the energy for further gains. Last week the S&P accomplished what I have been waiting on for months. The weekly and monthly RSI both exceeded the overbought level at the same time. This is a rare occurrence in history. Obviously markets can stay overbought for a long time, and this is by no means a recommendation to blindly short the market, but putting new cash to work with these two long term timeframes in overbought territory is not prudent money management, regardless of whether you are bullish or bearish.

S&P Vs. PCE YoY Growth Rate

Don't make this too complicated. There is a lot of pressure to jump aboard this squeeze from financial advisors, strategists and yahoos in the media. Be mindful these same participants were the same ones freaking out in 2011. What could possibly be responsible for this newfound bullishness? It's certainly not fundamental improvement. Every tier-one data point that I follow -- employment, ISM, nominal GDP, and personal consumption -- are all materially weaker than this time in 2011. The only thing responsible for this excessive bullishness is price and confirmation bias. There is no doubt about it.

This is not one of your perma bears talking. I call it like I see it, and I don't think participants appreciate how much this short squeeze dynamic is at play or how much downside it presents. I may be wrong, but I want to see the market prove it to me. A parabolic rally that no one can explain reeks of desperation and lends more credence to my thesis, which continues to play out. In fact this may go down in history as the mother of all short squeezes.

See also: This Bull Has Further to Run, but Markets Look Vulnerable in July or August.

Twitter: @exantefactor
No positions in stocks mentioned.

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