Jeff Saut Presents: By Popular Demand
...history indeed suggests that a lot of weird things tend to occur on/around the Autumnal Equinox.
Editor's Note: The following article was written by Raymond James Chief Investment Strategist, Jeff Saut. It has been reproduced with permission for the benefit of the Minyanville community.
Much to my firm's chagrin, we had so many requests for last Thursday's verbal strategy comments that we decided to reiterate those comments in text form this morning. To wit:
The date, near September 22nd in the northern hemisphere, when night and day are nearly the same length and the sun crosses the celestial equator moving southward, marks the Autumnal Equinox, or the beginning of autumn. This year the Autumnal Equinox was at 12:03 a.m. EDT on September 23rd. We celebrated the event as usual by staying up late and screaming at the top of our lungs at the passing of summer.
This year's celebration was particularly important, for as the former Wall Street Journal columnist Michael Drusnin describes prophecies from the Bible, "The world war will begin in the Hebrew year of 5766," which is the year of 2006 ending on September 22nd! Whether World War III began this year is debatable, but history indeed suggests that a lot of weird things tend to occur on/around the Autumnal Equinox. As money manager Paul Montgomery notes:
"The legendary trader W.D. Gann reportedly claimed that capital and commodity markets tend to top on or around September 22nd more often than any other day of the year. There is no apparently economic logic behind this reported observation... but... in as much as September 22nd happens to be the usual date of the Autumnal Equinox ... Initially, we never took such notions seriously... however... we have experienced first hand the October Massacre of 1978; the October Massacre of 1987; the October 'Crashette' of 1989; the 1997 Asian collapse; the 1998 Long Term Capital sell-off, etc. And remember the Great Gold Boom of the 1970s. While bullion peaked on January 21, 1980, the gold and silver stocks made their all time bull market highs on September 22, 1980. This day also saw the major peak in many oil stocks, which were enjoying a parallel bull market at the time. Also prior to the Great Crash of 1929, the last stock market index to make its then all time peak, the Dow Jones Utility Index, did so on September 21, 1929. Even as far back as 1873, such absolute panic struck, that the NYSE voted, on September 21st to temporarily close its doors.
On rare occasions, markets bottom on the Autumnal Equinox. Soybeans made a major bottom on September 21st, 1984; and more recently, the market low after the infamous terrorists' attack on our country occurred on September 22, 2001..."
Consequently, we have a great deal of respect for the time around the Autumnal Equinox. Clearly, however, most investors showed "no fear" last Wednesday as they "bid" the DJIA to within 109 points of its all-time closing high (11722). Lost in the revelry, however, was the fact the DJ Transportation Average (DJTA) barely closed positive on the day despite another swoon in crude oil prices to below $60 per barrel. Manifestly, while the DJIA has bettered its May reaction price highs, the DJTA has not. And, these continuing upside non-confirmations between the DJIA and the DJTA are worrisome, as are similar upside non-confirmations by the S&P Mid-Cap Index, the S&P Small-Cap Index, and the Operating Companies Only Advance/Decline Line, which can be seen in the nearby charts.
Speaking to the recent commodity crashette, it is worth nothing that over the past month the CRB index has experienced a near-record 14.3% decline for a three standard deviation event last seen in 1974. My firm thinks said decline is in its final throes that should lead to at least some kind of dead-cat bounce and perhaps more. Reinforcing those views is the fact that last week investors even "gave up" on energy-centric yield-oriented names. Ladies and gentlemen, if past is prelude, when this occurs you are typically in the final throes of a decline if for nothing more than a "throwback rally" in something like the Energy Spyders (XLE). Also bolstering our sense that a near-term energy bottom is at hand was the news from Amaranth that puked-up nearly $4 billion worth of natural gas futures' contracts last week, again the type of news you see at bottoms.
Interestingly, none other than J.P. Morgan (JPM) bought most of those distressed natural gas positions, adding to Morgan's burgeoning derivatives book. Listen to this from Rob Kirby's "Everyone Loves a Parade!":
"5.5 trillions worth of business sure isn't what it used to be. I mean, where I come from people normally celebrate, hold news conferences or a ticker tape parade perhaps – on occasions such as conducting a record $5.5 trillion new business in one quarter! But no, not the humble guys and gals over at J.P. Morgan; they accomplish this Houdiniesque feat, and their accomplishment get buried in what amounts to the 'minutes' of a two bit obscure publication of the Office of the Comptroller of the Currency?... According to the Office of the Comptroller of the Currency for the U.S.A. in their Quarterly Derivative Fact Sheet claim that J.P. Morgan Chase's derivatives book grew from $48.26 trillion notional at 4Q '05 to $53.76 trillion at 1Q '06."
Warren Buffet has called derivatives, "Financial weapons of mass destruction." Whether that proves to be true or not, it is undeniable that "fast money," using leveraged derivatives, has tended to accentuate price movements. Clearly that was the case earlier this year in the metals/energy markets given their parabolic price peaks. Consequently, we contemplated derivatives while marveling at last week's "crash" in yields. Indeed, the 10-year T'Note's yield fell from 4.85% to 4.59%, leaving the benchmark Treasury's yield an amazing 66 basis points below its early July high of 5.25%. That begs the question, "Is the bond market telegraphing a sharp economic slowdown or has the fast money rotated out of the metal/energy complexes and piled into the Treasury market, pushing prices higher and yields lower (speculators are now 'long' 473,000 bond contracts in the futures markets)?" This is not an unimportant question, to which we currently have no answer.
Nevertheless, another Autumnal Equinox event worthy of comment was last week's coup in Thailand. The last time such Thai consternations occurred was during the Thai Baht currency collapse of 1997 and Thailand was a "buy!" We think this may be a similar opportunity, which is why we are considering beginning a one-third tranche (read: purchase) of the Thai Fund (TTF), and/or the Thai Capital Fund (TF). As reprised in a Reuters' news story by Vithoon Amorn, "Thai coup may clear path out of economic gridlock," which was followed by another Reuters' news story titled, "Funds Say Not Selling on Thailand Coup, May Buy." As always, the terms and details for both of these closed-end funds should be checked before purchase.
Unsurprisingly, our phones lit up over the past few weeks with callers wanting to "buy" something. Isn't it funny, only on Wall Street do participants want to "buy" when prices are high and when prices are low they let stocks "go." Case in point, we were unwaveringly bullish back in mid-June recommending the purchase of stocks and indexes. At the time most participants were afraid to follow that strategy. Now, after nearly a 1000-point Dow rally, they want to buy. Clearly, weakening economic news, continuing yield curve inversions, slumping housing markets, worsening wars, a Smoot-Hawley bill (read: Schumer-Graham) that looks like it will pass the Senate, potential shifts in control of Congress, etc. has caused participants to "bid" the Dow higher as the basic footings for bull markets have been forgotten. As stated over the past few weeks, the current environment reminds us very much of December 1972/January 1973 when the fundamentals were deteriorating while the Dow traded higher, although we are not forecasting a similar 1973/1974 Dow debacle. We are, however, counseling for caution given the over-bought nature of the equity markets, as well as the aforementioned upside non-confirmations.
Consistent with these thoughts, my firm continues to like the strategy of buying the "flops" in fundamentally sound companies for the investment account. In past missives, we have recommended the buying of the "flops" in names like RFID player Intermec (IN), in the low $2s, as well as United Healthcare (UNH) in the mid/low $40s. Currently, we like the idea of buying 9%-yielding Trinidad Drilling Trust (TDGNF), and Chesapeake's (CHK) 4.8%-yielding convertible preferred "D" shares, both of which are near their yearly lows. We believe a strategy of scale-buying such special situations, during tax-loss selling season, will prove to be a "relative" winning strategy in 2007. We also think you can buy the various long/short mutual funds often mentioned in these reports (DIAMX and IOLIX). Moreover, since large-cap growth is cheaper than large-cap value for the first time in two decades, we have slanted portfolios toward large cap growth stocks this year. Verily, value stocks have produced a trailing total return of at least twice the total return of growth stocks over the one-, three-, five-, and 10-year periods ending 8/31/06 (source: Russell). If you believe, as we believe, in mean reverting markets, then buying large-cap growth names like Sprint Nextel (S), during their respective tax-loss selling-season "flops," makes sense to us.
The call for this week: The World Index (DJWORLD) has potentially made a double-top, as has the S&P 500 (SPX). According to the Lowry's service (9/20/06), "The market staged an impressive (upside) follow-through advance to yesterday's rally. At the same time, the Short Term Trading Index, the % stocks above their 10-DMA, and the 14-day Stochastic, etc., all remain well below their early September highs and continue their recent failure to confirm the highs reached in the price indexes. Lagging breadth and demand are not signs of a healthy rally." Meanwhile, we still can't shake the feeling that the DJIA is going to trade-out to a new all-time high totally unconfirmed by most of the other indexes.
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