IN REVIEW | May & June 2010 Performance
As I have noted before, losing money is the aspect of trading with which I am least comfortable. Since the market began pricing in the European debt contagion in mid May, my systems have underperformed my expectations. Perhaps it would be more correct to state that my programs underperformed my hopes, but met with my expectations for their capabilities. In my last monthly update (looking into May), I speculated that our drawdown could extend to 10% or even 15% or more. That is precisely what happened.
Normally in a volatile equity market, I expect my systems to produce gains with expanded risk. In my opinion, losses on individual trades will become larger with expanded volatility, but gains should also expand – and I believe our gains will outpace our losses. But this market environment, marked by waterfall declines in overnight trading sessions, has given us few opportunities to regain our forward momentum.
May was a volatile month for both of my programs. In the first half of the month, we surged forward, only to retreat and make new lows for the year as the brutal month wore on. My programs went toward their historical intra-monthly lows, then came back a little to close the month. As we look at the historical performance of my systems, a silver lining emerges. With everything the market threw at us in May—the much ballyhooed ‘flash crash’, European debt woes, a collapsing Euro currency, European Central Bank intervention, an unfolding environmental and economic disaster in the Gulf of Mexico, fears of a ‘double dip’ recession, threats of war on the Korean peninsula, escalating tensions on the Gaza Strip—my programs did not violate my expectation of a low for a drawdown. Survival was the name of the game for May and that is just what we did.
June was a much better month for both programs. We came out of May with a long way to go to recapture new highs, and nearly did so by the last week of June in my Monticello program. We gave back some gains at the end of the month (more so in Jefferson than Monticello) and settled for a positive month. Monticello outpaced Jefferson, as we made money on both sides of the spread for a change.
IN FOCUS | July 2010 Market Outlook
Panic ruled the markets in May as prices reflected sovereign debt fears, slowing Asian demand and signs that the US recovery is weaker than the market wanted to believe, or worse yet, non-existent. The debt crisis is far from over and most likely the worst is yet to unfold. There are fewer and fewer scenarios that bail out US asset values and the balance sheets that rely on the inflated value of those assets. As commitment to austerity plans in Europe rally the Euro, the US dollar becomes a sell again, which will punish all dollar-denominated assets. Deflation is the 800-pound gorilla in the room.
The S&P wants to trade lower in the early July. This is very significant given the fact that we should be experiencing an ephemeral oversold/seasonal rally. If it does not appear, we are in for some trouble. Should we get to 950 quickly, we could see a short term relief rally as the market rolls through the low volume dog days of summer. After all, we are heading into earnings season and low corporate cost structures will bolster earnings, providing some impetus for a rally. However, there is no significant support at 950. Institutional support resides somewhere in the 850 to 890 range. Should the sell off breach 950 and not find a low volume summer rally to support it, the waterfall declines could return.
The political backdrop is further pressuring equity prices. In Europe, the populace fights cuts in public spending even as their governments have changed course and embrace austerity. In America, our president warns against reducing stimulus too quickly, while a majority of the electorate wants government spending reigned in. This disconnect punishes sentiment and confidence as everyone thinks everyone and everything is moving in the wrong direction. Congress is preparing a monstrous new set of financial regulations affecting everything from OTC derivatives to payday loans. Throw in expiring tax cuts, the expiration of the new homebuyer tax credit (and with it the last peg of support blocking fresh lows in housing prices) and looming state budget deficits, and there isn’t much to rally this market.
Normally when the sentiment is this bad, the put/call ratio is this elevated and you hear phrases like “death cross” on CNBC, the market is a big fat juicy buy. However, these days Sir Templeton’s four most dangerous words in investing reign supreme: “This time it’s different.” The market resides somewhere between stagflation and the double dip. And as I warned in my 2010 outlook in January, the implosion of US state budgets will drag the real economy lower. Illinois is poised to be the first to weigh in; California and New York follow close behind. The resulting job losses and cuts in pension distributions and transfer payments could shove us to depression. They will look to the feds for a bailout. Get ready for stimulus and quantitative easing part deux.
As per usual, the macro situation does little to affect the execution of my systems. I expect elevated volatility to be present in the market for some time to come. This will give rise to more trading opportunities for my programs.
John L. Roe
President, ROE Capital Management
PAST PERFORMANCE IS NOT NECESSARILY INDICATIVE OF FUTURE RESULTS.An investment with ROE Capital Management is speculative, involves a high degree of risk and is designed only for sophisticated investors who are able to bear the loss of more than their entire investment. Read and examine the disclosure document before seeking ROE Capital Management’s services.