Street Needs to Trash Algos….and “THINK” about Recession/Bear Market

Street Needs to Trash the Algos….and “THINK”
about a Recession Bear Market

first – Daily edge before the open
DJIA: 25,490
S&P 500: 2,822
Nasdaq Comp.:7,628
Russell 2000:1,501
Friday, May 24, 2019
   9:18 a.m.
The thing a lot of investors and professionals on the Street know is that bad stuff happens, the market takes a hit then recovers.  What they don’t know (or remember) is that bad  stuff can keep happening relentlessly pounding stocks down beyond the ouch point to the “I can’t stand it anymore point” where everyone is afraid to buy or worse yet just sell out, thinking the market will go lower.
        It has been a long time since the last bear market (2007 – 2009) when  the S&P500 dropped 58% in face of a global meltdown.
Since then, a lot of the Street’s decision process has been relegated to computer algorithms.  While that reduces human emotions from the process, it removes the ability of people to anticipate and respond to changing events here and abroad.
Bad stuff CAN continue to happen.  There were four recessions and four  bear markets between 1970 and 1981 a period that was marred by Mid-East war, the OPEC Oil Embargo, the energy crisis, stagflation (low growth/high inflation, double digit interest rates, military coups, AND the Watergate scandal resulting in the resignation of President Nixon.
Anyone paying attention has to realize we are currently faced with the potential for more than one debilitating event to happen.  President Trump is at risk of impeachment (or resignation), governance of our country is chaotic with a number of constitutional crises likely, war with Iran is possible, an extension of our 10 year old economy/bull market is  unlikely, and individual, corporate and government debt is a precarious levels.
I think we are in a bear market and on the cusp of a recession. I also think we are mired in a political crisis that will be highly disruptive.
Depending on how all these things unwind, we could be face with one huge
recession/bear market, or several mini recession/bear markets.
Expect the administration to release whatever it can scrounge up to stabilize the stock market. The most likely one would be a positive outlook about tariffs.  Don’t buy it.  Even if tariffs were abandoned, there are plenty of problems. The Street needs to trash the algos and “think” about what is happening now and what could happen in the future. That can’t be programmed in a computer.
Minor Support: DJIA:25,251;S&P 500:2,776;Nasdaq Comp.:7,517
Minor Resistance: DJIA;25,553; S&P 500:2,831 ; Nasdaq Comp.:7,643

Thursday (May 23)

Flash Crash ? Bulls Must Step in or It’s 1,200 DJIA Points Down Just for Openers.
      I said it yesterday (read below), The Street is oblivious to risk, spoiled by 10 years of Fed-fueled bull market.  We are looking at a greenstick fracture that only needs a nudge to trigger a vertical plunge to DJIA 23,500 (S&P500: 2,600 by fall.
According to A. Gary Shilling’s June INSIGHT, a recession has already started, even though housing is getting a boost from the fed-induced drop in interest rates.  Shilling is one of the nation’s most highly respected economists with a host of great calls on the economy, bond and stock market.
His 28-page INSIGHT is difficult to summarize here, just so packed with supporting analysis, charts, and graphs.
Included briefly his reasons for being bearish on the economy: the deflationary impact of tariffs, the slippage in consumer spending, a recession signal by the N.Y. Federal Reserve recession model, declines in capacity utilization, industrial production and commercial and industrial loans, an inverted yield curve,  the bubble (a peak) in the employment, unemployment numbers, the prospect for a sharp drop in Q2 and Q3 GDP, and DEBT (individual, corporate and government).
Shilling refers to the Fed’s Financial Stability Report than points to the vulnerability of corporate balance sheets “reminiscent of the subprime mortgage meltdown in the mid-2000s.”
Risks emphasized by Shilling include: a high level of complacency created by a decade of risk-taking and corporate borrowing through junk and BBB credits, as well as junk bonds and leveraged loans, extended to firms with poor credit profiles.
The ratio of debt to assets for all publicly owned nonfinancial firms, including speculative-grade and unrated firms is close to the highest levels over 20 years.
Then too, there is the disruption and devastation of the trade wars, war in the Mid-East and a disastrous fiscal policy caused by the 2017 Tax cuts that gave corporations a 40% tax cut vs. a insignificant cut for individuals in and around 1%.
Big losers in April include: auto dealers, clothing stores, health and personal care, electronics and appliance.
OK, that’s a brief summary that should open eyes.
CONCLUSION: No one likes a bear, but warnings are necessary to help investors avoid taking big hits to their portfolios.
We are on the threshold of a nasty crunch in stock prices, possibly a bear market.  The usual snapback in stock prices this time may not happen. At some point, in a bear market, there is no immediate rebound until the market has bottomed out after  a drop of 35% -50%.
Our country has huge problems, most created in the last two years. Expect the Trump administration to release whatever  positive projections it can dig up to reverse the downtrend in stock prices.  Take it with a grain of salt.
Wednesday  (May 23)
Only An Algorithm Can Be This Naïve
Before algorithms dominated the Street’s decision process, humans pondered current and foreseeable events to get a feel for whether stocks were over or undervalued.  They tracked a host of indicators, but also  used their instincts based on years of experience to come to conclusions.
Algos track a host of indicators, probably a lot more than the human brain can track, but where the human brain excels is the ability to weigh in on the unknown.
Currently, the market is ignoring a number of critical  factors that could vastly affect the overall perception of what stocks are worth.
The big one is the prospect of the disruption of an impeachment process and uncertainty of the 2020 presidential election. Add to that, a looming recession and bear market, trade wars, war, and an overvalued market and you have enough to keep anyone awake at night.
What is driving stock prices today is not the tangible value, a dividend return, but rather the expectation  stocks will keep rising in value somewhat in line with the growth in earnings and companies buying back their own stock, but mostly because institutions have nowhere else to invest.
This is all well and good as long as we don’t hit a prolonged losing streak where a lot of bad stuff hits the fan relentlessly pounding stocks and investor confidence down.
        It happened in the 1970 and early 1980s where four recessions and five bear markets  in 11 years combined with war, Watergate/impeachment, stagflation, the OPEC oil embargo hammered stocks relentlessly driving the price/earnings ratio for the S&P 500 below 8X (1980).
Stuff happens, and this stock market is ignoring how bad things can get, mostly because computers can’t be programmed for the unthinkable, and also because few analysts/money managers weren’t around in the 1970/1980’s.
Since so many Street  algo decisions are based on the same indicators, they will eventually get a sell at the same time and whoosh – a flash crash of 12%-18% before anyone can say “ouch.” Instead of an immediate rebound we get another leg down as new negatives hit the market.
The best computer in the world is the human brain, not the fastest, not the ability to process zillions of things, but the best to ponder possibilities not yet quantifiable.

Cash will be king some day. It doesn’t have to be 100%, but enough to protect an investor in line with their tolerance for risk.
Tuesday   (May 20)
Look for an attempt to rebound today. There is formidable overhead supply that will limit the upside barring unexpected good news. Nasdaq stocks are under pressure, what are all the bees going to do if the Queen dies ?
The big picture is clouded, but  many on the Street don’t see it, or let’s say they haven’t tweaked their algos to respect what often happens in late stage bull markets – news that progressively gets worse, bit by bit.
        Does anyone who is paying attention think for a moment angst about the future, near and longer term, won’t surge past the  ouch point  to the I can’t stand it anymore level where investors break ranks and bail out.
This will get ugly, very ugly. Project into the future, can the Street simply ignore total chaos at the highest levels of our government ?
The Street wants to party all night.  That’s not how it works, not how it has ever worked, especially when the managers of money think we are in  a new era where recessions don’t happen not with the Fed quick to prevent troubles.
The Fed’s quiver of quick fixes is empty.  Yes, I expect a cut in the Fed funds rate, but they did that prior to the last three recessions.
Right now the Fed is a eunuch. They’ll try, clearly they don’t want a recession in an election year.  But they can’t stop the looming  chaos in confidence that is just around the corner, multiple constitutional crises.
Warning: Beware of a rally failure. Chasing the rally at the open is risky.
Monday (May 20)
A three day rally that recouped a bit more than half of May’s
5% loss ran into a wall Friday raising the possibility of a test of  last Monday’s S&P500 low of 2801.
Today’s market will start on the downside which should attract buyers unless they have retreated to the sidelines, fearful of an escalation of war with Iran and uneasy about the inability of the U.S. to strike a trade deal with China.
The DJIA and S&P 500 have traced out triple tops (Nasdaq a double top) going back to January 2018 indicating  an unwillingness of the Street to reach for stocks.
In the interim, we had a three month (Oct./Dec.) 20% correction which was quickly reversed by the Fed’s policy change from raising interest rates to a no action mode.
If humans rather than algorithms  made more buy/sell decisions, this market would sell lower in face of  mounting problems here and abroad.
This decision process has been responsible for the flash crash phenom which features sudden plunges of  12% to 20% in 6 to 18 days.
As long as those losses are recouped quickly, investors are safe, however if the next one leads to a 35% – 50% bear market the Street’s indifference to risk is devastating to portfolios.
Since the Fed’s quiver of tools for stimulating a recovery is limited, a new bull market stands to take a long time to develop.
Friday (May 17)
The market has rebounded each of the last three days, but yesterday’s momentum lagged.  As a result, the market will open on the downside today, the key being  whether this is the beginning of another leg down.
That will depend on the nature of the news flow going into the weekend.
There is increasing concern for the outcome of a budding crisis brewing between the U.S. and Iran as war ships head for the Mid-East.
There are rumblings about a recession on the horizon, though economists do not see one this year (I do, though only the early stages of one).
Recessions are loosely defined as two consecutive declines in GDP. The official declaration is made by the National Bureau of Economic Research (NBER) and that is done well after a recession has started.
Axios reports that the Fed is concerned about rising credit card delinquencies and surging corporate debt. Add to that the fact the U.S. national debt is $1 trillion higher  than a year ago, and they have reason to worry.
This is why I have been saying I think the Fed will cut its fed funds rate. It does not want a recession in an election year !
I have warned of a bear market for months. It will start well ahead of a recession and it will begin with a sharp plunge as the Street suddenly becomes aware the party is over no matter what the Fed does.
A drop in the Fed’s fed funds rate has preceded each of the last three recessions, so a cut here would indicate the Fed is WORRIED.
The Street’s algos will buy at the market and on dips until analysts tweak them to slow down or stop buying and then to start selling.
Everyone will get the signal at the same time and the market will be down 12% – 18% before the individual investor can react, so a cash reserve  is wise now.

The S&P 500 was up 66% at this point in the Obama administration compared with a gain of 24% at the same point under Donald Trump.

Wednesday (May 15)
Ask yourself two questions.
Is a bear market possible beginning in the next 6 months ?
Is a recession starting within the next 9 months possible ?
If your answer is no to both, think again, or risk getting blindsided.
No one  is bearish and that is bearish. The Street is blinded by the euphoria of a 10-year old bull market, propped up by an administration-friendly Fed, which may just cut its benchmark interest rate to head off a recession in time for the 2020 elections.
Bear markets begin ahead of recessions, the lead time varies from several months to a year. I don’t see the next bear market beginning slowly, since most analysts/money managers track the same indicators plug them into an algo and wait for an answer.  Aside from free-thinkers who will anticipate problems in advance, most on the Street will get a defer purchase/sell signal at the same time and whoosh down the market goes giving anyone with no cash reserve a chance to react.
       My message here is, establish a cash reserve of 30% and ignore the temptation to go all-in, because no one knows when the plug will be pulled. Worst case, an opportunity to make a little more is lost, but a flash crash leading to a bear market does not lead to two years of more getting back  one’s losses.
We have had ugly corrections in recent years, all but one were flash crashes.
Apr./May 2011 the S&P plunged 12.6% in 8 days
Aug. 2011:  –  15.8% in 6 days
Jly./Aug. 2015:   – 11.5% in 18 days
Dec. 2015/Jan.:  –  12.9% in 13 days
Jan/Feb. 2018:  -11.8% in 10 days
Oct./Dec. 2018: – 20.2% over 3 months
All were followed by recoveries. The difference with a bear market will be, new negatives will hit the market after a sharp plunge and at the point when it is ready to rebound. That’s when a second leg begins leading to lower lows and ultimately a decline of 35% – 48%, or so.
In most cases, the bear will be accompanied by a recession and a rush by the Fed to trigger a recovery with lower interest rates and pumping money into the economy.   But rates are still low and the ability of the Fed to pump money into the economy limited this time, so a recovery stands to take longer.

What No One on Wall Street Wants to Hear
>We are in the late innings of an economic expansion, so a recession is a good bet. The current expansion started in June 2009, has lasted 116 months, the second longest on record and  twice as long as the average length of 11 cycles since 1945.
> Of the 10 recessions since 1950, the average time between the low point in the unemployment rate and the start of a recession was just 3.8 months.  The unemployment rate hit a low of 3.7 percent in November, jumped to 3.9 percent in December and to 4.0 percent in January. Now, averages include months below and above 3.8. What’s more, we won’t know when the current recession if we have one begins because that conclusion is  reached by the Nat’l Bureau of Economic Research (NBER) long after the fact.
>Bear markets lead the beginning of recessions by 3 to 12 months.  The current bull market at 119 months is four times the average of the last 15 bulls going back to 1957
 >Nine out of the last 10 recessions have occurred with a Republican in the White House.
>The current economic expansion has lasted 123 months. That’s 65 months (2.1x) longer than the average expansion (58.4 months) going back to 1945.
Of the 10 recessions since 1950,the average time between the low point in the unemployment rate and the start of a recession was 3.8 Months.
> Of the 10 recessions since 1950, the average time between the low point in the unemployment rate and the start of a recession was just 3.8 months.
George Brooks
Investor’s first
A Game-On Analysis, LLC publication
Investor’s first read, is a Game-On Analysis, LLC publication for which George Brooks is sole owner, manager and writer.  Neither Game-On Analysis, LLC, nor George  Brooks  is  registered as an investment advisor.  Ideas expressed herein are the opinions of the writer, are for informational purposes, and are not to serve as the sole basis for any investment decision. References to specific securities should not be construed  as particularized or as investment advice as recommendations that you or any investors purchase or sell these securities on their own account. Readers are expected to assume full responsibility for conducting their own research pursuant to investment in keeping with their tolerance for risk.














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