The Case for Continued Downward Trends

We made the argument at the beginning of June that this month would be particularly important for managed futures, pointing out that a dissolution of the downward trends most trend followers were riding out could erase the meager gains achieved by the asset class YTD. No sooner did we publish the newsletter than did we see an uptick in the markets, followed by a roller coaster that would change direction at the drop of a pin.

Not what we wanted to see.

As of June 26th, though, the Newedge CTA Index, while down 1.89% MTD, is still just barely positive on the year at .57%. (Disclaimer: past performance is not necessarily indicative of future results.) CTAs struggled this month- no doubt about that- but they aren’t dead yet. More significantly, using the trend following proxies we unveiled earlier this year as a snapshot of the trend following space, we see that the majority of the models, despite the whipsaw climate, have not been stopped out of their short positions. This is the nuance – the plot twist – that has us biting our nails headed into July. Managed futures, in our opinion, is literally standing on the precipice of a year (and maybe decade? Or we’re just being drama queens?) defining move. If the sideways gives way to a large downturn, we may have a new case in point for discussing crisis performance with investors. If not… well, go read our newsletter on June.

However, we tend to believe at this point that we should see downturns across the markets in the coming months. Not for a reason that we can mathematically demonstrate, of course; the markets are far from rational these days. We just see enough potential catalysts for the downturn on the near term horizon that it’s what we’re expecting.

• The Euro Summit– This Friday, the leaders of the European free world are convening to save the world from Greece, Spain, Italy and the rest of the Eurozone that no one is worry about yet but probably should be. The general feeling for months was that there was no way such leaders would let the world go to hell in a hand basket, but after months of shenanigans and hijinx, such confidence has waned. Those with nothing on the line tend to believe that these leaders are functionally worthless, and that the meeting will fail to generate the results needed to prevent a complete collapse in Europe. Those with money on the line are forcing a smile and hoping they’re wrong for agreeing. Given that Merkel has patently rejected any chance of life for the measures that would probably be necessary to get things anywhere close to back on track, we’re sending early condolences to those with money on the line.
• QE Disappointments– Big Ben got the world all kinds of excited when indicating an extension of actions intended to boost liquidity. It was exactly what so many people wanted to hear. Unfortunately, most people have selective hearing, because the decision and resulting commentary clarified two very important things: 1) Maybe does not mean yes, and with very little substantial economic data coming out between now and the August meeting, the odds of there being a strong enough trigger to push the Fed into being more aggressive are slim to none, and 2) even if the Fed does act, their ability to make a substantial impact, by their own admission, is definitely in question. Great skepticism write up here.
• Political Tomfoolery– Hey, guess what? It’s an election year in the U.S. Guess what? We’ve only just begun. We haven’t even had our first debate yet. Things are going to get ugly. And in an era where complex policy issues are boiled down to 140 character barbs and jabs with little effort made to give the assertions context or support, the chances of the national political dialogue resembling anything productive are laughable. That’s sort of a problem, because there’s a lot of work to be done on Capitol Hill, particularly in terms of that fiscal cliff we’re dancing towards.

This is the next couple of months. It does not account for extremes in Europe (collapse of the Euro itself, for instance), hormonal-teenager-like reactions to Fed inaction, or political pitfalls we never see coming. All of that could happen as well, but even without, there is, in our opinion, enough coming down the pipes that should stop the sideways motion and push us further down this trend. If we hit one of those extremes, forget about it. If those markets go to zero, we’ll be very happy indeed (though probably in a minority). If not, then we absolutely give up on trying to use our publications as a form of psychological warfare against the gods and goddesses of market trends. Seriously.