WHYTECLIFF FINANCIAL CORP.
By Bradley Parkes
July 2016
Markets – Trades
Investment ideas for Q3/16
Note: Distribution dates have been changed to the following:
First week of January, April, July and October.
Previous editions can be found at http://www.whytecliffcorp.com/#!whytecliff-financial-corp/c1iy4
For daily commentary please see www.macrochart.blogspot.ca
Stay tuned for the launch of www.economisms.com where the daily blog posts will be moved (and maintained at www.macrochart.blogspot.ca), a new Weekly Report (out Sunday night), a Monthly review and our Quarterly Investment Ideas reports will be available. Eventually more to come!
In addition thematic reports will be released each quarter
Q3/16 - What Oil Bottoms Look Like
Q3/16 – The Creeping Inflation Trade
Q4/16 – India – A New China?
Q4/16 – Worried About Stranded Assets – An Investment Strategy Based on Reserve Life Index
Quarter 2/2016 Investment Ideas
SHORT IDEAS
GOLD (HGD.T in Canada and GLL.US in the US)
LONG IDEAS
Oil (HOU.to in Canada and USO.N in the US)
China (FXI.N)
BONUS
Long DOW - With AAPL a new component in the DOW and with capital flows to the US from (Africa, Asia, Europe...) the S&P500 and DJIA are likely going to peak at a level considered obscene...DJIA = 22,000. This trade is the breakdown of European socialism and will violate cheap/expensive market metrics as money flees to where it seems “safe”. It may not seem rational. Capital tends to flee the battlefield.
Returns from Inception
The above chart shows the return on $1 invested since inception vs. various benchmarks in both CAD and USD. The portfolio returns represent investing and reallocation of assets to new ideas only at the beginning of the quarter. This is the buy and hold return.
Results
“Do more of what is working and less of what is not” – Dennis Gartman
The way I want to do this is we will act as if we closed out each position at the end of the quarter. However each position has a maximum 15% loss and that position should be closed if a position goes 15% against us. My discount broker charges me $9.99/trade so transaction costs should not alter the returns too much. The reason we close out each quarter is that I never want to be able to claim that “I sold that six weeks ago before it declined”. Each one of my ideas should be good for at least a quarter and likely longer. Should the idea still have merit we will re-enter the idea at the beginning of the next quarter.
The portfolio returned 6.13% CAD in Q2, following a -12.24 return for Q1/2016. The returns in USD were 2.62% following -4.69% US in Q1/16. For year (plus one month) since the portfolio was initiated the return has been 6.82% CAD and 3.18% US, vs S&P500 in CAD which had a return of 3.02% ,TSX in CAD -6.7% and the S&P500 in USD being. To add a level of risk management a weekly update will be initiated to give us price levels to close out should the market go against us. This is a quarterly hold idea generator and in volatile and changing markets that strategy can be detrimental. This portfolio is a real return portfolio and so allocating assets to maximize returns requires catching tailwinds. A strong tailwind the previous quarters was a weak Canadian Dollar. This headwind did moderate after the CAD rose 6.9%. The CAD should be more stable to weaker over the next few quarters. When adjusting the US benchmarks to Canadian Dollars the portfolio has now outperformed versus all comparisons from inception.
Details
We closed the FXI.N Long China trade. It has been flat over the year long holding. China was not added to the MCSI. It will be and we will probably miss part of that upside, but with the negative sentiment it might be best to just sit out until then. However, I think the CAD is more or less range bound for the rest of the year, while I think the EUR will be
Gold and Gold stocks have not bottomed. They will probably on the next plunge. However, I have been wrong on this idea twice in a row. I still think there is one last down move in gold and gold stocks when the FED attempts to raise rates before the bull market resumes. The sentiment is through the roof and this may create a great opportunity.
We will continue to stay long the DJIA (in USD) and now we are adding long the TSX (in CAD) because capital should continue to flow to America and Canada. Brexit is spoking investors about the eventual demise of the European Union, however, Trump is scaring money out of the US into Canada.
Even though Central Banks, including America, hint of tighter policy, even with subsequent potential rate hikes, policy is still accommodative. Global Central Bank’s will likely fall behind the curve largely due to their inability to take short term pain, what I call market socialism. This will lead to higher inflation and larger debts and a FAT phase for stocks and is why we are adding Silver to the recommendations. This should benefit Canada.
Oil and Natural Gas are also on the long list. Gas has a history of doing well in La Nina years and I believe too much CAPEX has been cut from oil projects to maintain a future balance in supply and demand. Add in the increase in terrorism in oil producing states and I believe oil has a chance to finish the year closer to $60 than $40.
Brexit is another Y2K event. The fear that the UK, a long time trading nation, will suddenly be left out of global trade is just the global elite trying to scare people to keep themselves employed and going to expensive summits on your dollar. The fear that London will lose its financial hub status to Frankfurt is a joke. Finance is conducted in English and not German. Zurich has stayed outside the EU and has remained a financial hub. In fact it strong because it is not part of the EU. London will get stronger. Banks will threaten to move, but they never will. Buy London and sell Germany against it. The reason the EU bureaucrats are trying to scare you is because they are being exposed as pointless. Once the UK is no longer subject to programs like the Common Agriculture Policy and the Strasburg elite they will forge trade deals with the Commonwealth and America.
New Ideas (in Orange) and Re-entered (in purple) trades:
1). Long TSX
I believe capital will be attracted to Canada for three reasons.
1) The reflation commodity trade.
2) Capital fleeing the instability that Brexit is causing in the EU.
3) Capital hiding from the potential of a Trump Presidency. Trudeau is so handsome and loveable. Kidding, kind of.
2) Long Oil - HOU.TO/USO.N
The Elliot Wave count suggest a potential correction to $42 before rallying to year end and finishing off around $65, assuming I have the count correct.
For more discussion on oil see the “Reflation Thesis” section at the end of the report.
3). Long DJIA – DIA.N
Most commentators will tell you stocks are overvalued because of the PE metric or Shiller CAPE. I expect new all-time highs in the DJIA and S&P this quarter.
4). Long Silver – SLV.N
Silver has had a huge run so far this year and that makes me feel a little uncomfortable to consider it a buy, but I think silver is going higher this year. Much higher. For the purposes of calculating returns for the portfolio I will assume silver was bought on July 1, but I would personally wait for a correction to buy this position.
5). Long Natural Gas –UNG.N
The Natural Gas chart resembles the Silver chart. However, strong La Nina weather episodes have historically helped reduce large inventories and created strong rallies. A report by the CME Group states:
“During the 1998-2001 La Niña, prices eventually rose to close to $10/MMBtu –a 500%+ rally from their 1997-98 El Niño lows. However, it took a substantial drawdown in storage levels to get them up there.”
Inventory levels are currently elevated and prices will unlikely trade to $10/MMBtu, however, Natty has already begun to rally. I believe this could be a good trade with gas prices trading to the high $3/MMBtu level by year end.
Economic Discussion
The US Economy is stronger than being reported. Imports and exports are well above last year. A recent press release from the Port of Los Angeles contained the following.
“Overall cargo volumes at the Port of Los Angeles increased nearly 11 percent in May compared to the same period last year, marking the busiest May in the Port’s 109-year history. Total volumes registered at 770,409 Twenty-Foot Equivalents (TEUs), with container growth of 8.7 percent for the first five months of 2016 compared to last year.
“The strong growth both on the import and export side is encouraging as we continue to explore ways to improve supply chain efficiencies,” said Executive Director Gene Seroka.”
https://www.portoflosangeles.org/newsroom/2016_releases/news_061516_May_TEUs.asp
Truck tonnage is also higher than last year. Goods are moving.
“Compared with May 2015, the SA index jumped 5.7%, which was up from April’s 2.4% year over year gain. Year to date, compared with the same period in 2015, tonnage was up 4%.”
http://www.trucking.org/article.aspx?uid=a18944c4-2a28-4c47-9dd6-1dfefafbec2a
Construction is strengthening as well. The American Institute of Architects reported the following.
“The American Institute of Architects (AIA) reported the May ABI score was 53.1, up sharply from the mark of 50.6 in the previous month.”
Steel production remains strong. The AISI reported on June 25, 2016:
“In the week ending June 25, 2016, domestic raw steel production was 1,757,000 net tons while the capability utilization rate was 75.1 percent. Production was 1,760,000 net tons in the week ending June 25, 2015 while the capability utilization then was 74.4 percent. The current week production represents a 0.2 percent decrease from the same period in the previous year.
Production for the week ending June 25, 2016 is up 0.4 percent from the previous week ending June 18, 2016 when production was 1,750,000 net tons and the rate of capability utilization was 74.8 percent.
Adjusted year to date production through June 25, 2016 was 44,005,000 net tons, at a capability utilization rate of 72.4 percent. That is down 0.7 percent from the 44,315,000 net.”
https://steelmarketupdate.com/news/6757-weekly-raw-steel-production-steady
GDP growth is accelerating.
Finally, the ECRI Leading Index is breaking out to the upside and made a new post financial crisis high.
My Theory - Reflation Thesis
Generals always fight the last war and economists always fight the last depression.
Commodities bottom in a repetitive manner. Gold bottoms first and tops first, while crude and copper bottom simultaneously but copper tops first. Since 1986 (when oil futures first started trading), only once this relationship did not hold and that was gold topping later in 2011.
On the charts below the green lines mark major bottoms and the red lines mark major tops.
The next three charts are from St. Louis Fed Fred Research July 11, 2016
Economic Expansion, Core Inflation, Unemployment and Wage Growth
Ned Davis Research has discovered that the economy is in expansion when the S&P500 is 3.6% above the 5 month smoothed trend. As of Friday July 8, 2016 the S&P500 is 6.1% above this the 5 month moving average.
The above chart from US Global shows that the oil price tracks World GDP.
Commodities rise when US unemployment is below 6%.
Wage growth is now growing at the fastest rate since the 2008-2009 financial crisis. Deflation is behind us, not ahead.
I'm a paragraph. Click here to add your own text and edit me. It's easy.
The US Dollar Effect
Crude oil only became an anti-dollar trade when the Euro came into existence. Crude oil will rally with the dollar going forward.
The red box shows when the dollar and oil declined together, the green boxes are periods when oil and the dollar rallied together and yellow when they were inversely correlated, pre-Euro. With the potential end of the Euro, oil will likely become less of an anti-dollar trade and begin to trade on economic activity.
Confluence Investment Management June 24, 2016
CIM calculates the fair value oil price based on the EUR/Dollar exchange rate which comes in at about $40.
Has Oil Bottomed?
Looking at the futures curves from the last major supply side decline, it shows a flattening and eventual backwardation of the front end indicating supply is being bid from storage. Below is the curve from 1986 at the bottom.
Note how the largest one day rallies tend to happen bottoms.
The FED
The recent dot plot chart left some scratching their heads until James Bullard explained his new regime theory and how the FED should become reactionary (with a lag) and not anticipatory. Bullard wants the FED to fall behind the curve. Paul Krugman once suggested the way Japan would end its deflation is if people lost their “awe” of central bankers. Bullards regime theory is designed to do that
Confluence Investment Management June 24, 2016
Review of Outlooks
1) America is the likely to remain the destination for capital. This should push markets higher, well past fair valuations as this is capital fleeing the battlefield.
1) So far. TIC data for 2016 shows a net $134 billion net inflow of capital into the US securities.
https://www.treasury.gov/press-center/press-releases/Pages/jl0487.aspx
2) Europe is recovering, but will flare up. I believe by the second half of the year the periphery will begin to outperform the core nations.
2) Too early for anything to be determined. Brexit will provide cover to maintain very loose policy.
3) Asian markets are maturing. China’s inclusion to the SDR and the MSCI, in combination with the devaluation of the Renminbi will drive money into Chinese equities. The rest of the region will likely remain lackluster, other than some smaller markets.
3) The predictions continue to be dire but nothing happens. I think this is a second half story. Too early to tell. China was not included in the MCSI this year, but it will be.
4) Inflation may be the surprise of 2015. I think we are at an inflection point. Wages are rising in the US, while Europe is stabilizing. Core inflation is at the FEDs 2%, and any increase in the price of oil will pull headline inflation higher. War is heating up and war and inflation are connected.
4) Still on its way. Wage growth is now at its highest since before the Great Financial Crisis.
5) Oil has been testing 2008 and 2004 lows. I believe oil drifts higher, but the largest price effect will be the renewal of the terror premium.
5) So far yes.
6) Gold should bottom below $1000 sometime in mid-2016 and finish somewhere north of $1200. A new gold bull is on the horizon.
6) No, so far.
7). Copper will make a new low in early 2016 .This cycle is bottoming. The green revolution will need a lot of copper to wire all those solar installations.
7) Possible, but certain the low is in yet.
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How Oil Markets Bottom
The Creeping inflation Trade
Disclosures:
Investors should carefully consider the investment objectives, risks, charges and expenses of any investment. The above does not constitute investment advice or recommendations, just crazy ideas I have when I cannot sleep. There is no guarantee that any investment (or this investment) will achieve its objectives, goals, generate positive returns, or avoid losses. The information provided should probably be disregarded and potentially treated as a contrarian advice, with the expectations that I am 100% wrong on everything. Please consult someone with a higher level of intelligence than the author with respect to investing money.