Tagged: Trading

On the Skids

If electoral processes lack the drama to satisfy you, check the stock market.

Intraday volatility has been averaging 4%. The pandemic has so desensitized us to gyrations that what once was appalling (volatility over 2%) is now a Sunday T-shirt.

Who cares?

Public companies, your market-cap can change 4% any given day. And a lot more, as we saw this week.  And traders, how or when you buy or sell can be the difference between gains and losses.

So why are prices unstable?

For one, trade-size is tiny.  In 1995, data show orders averaged 1,600 shares. Today it’s 130 shares, a 92% drop.

The exchanges shout, “There’s more to market quality!”

Shoulder past that obfuscating rhetoric. Tiny trades foster volatility because the price changes more often.

You follow?  If the price was $50 per share for 1,600 shares 25 years ago, and today it’s $50 for 130 shares, then $50.02 for 130 shares, then $49.98 for 130 shares, then $50.10 for 130 shares – and so on – the point isn’t whether the prices are pennies apart.

The point is those chasing pennies love this market and so become vast in it. But they’re not investors.  About 54% of current volume comes from that group (really, they want hundredths of pennies now).

Anything wrong with that?

Public companies, it demolishes the link between your story and your stock. You look to the market for what investors think. Instead it’s an arbitrage gauge. I cannot imagine a more impactful fact.

Traders, you can’t trust prices – the very thing you trade. (You should trade Sentiment.)

But wait, there’s more.

How often do you use a credit or debit card?  Parts of the world are going cashless, economies shifting to invisible reliance on a “middle man,” somebody always between the buying or selling.

I’m not knocking the merits of digital exchange. I’m reading Modern Monetary Theory economist Stephanie Kelton’s book, The Deficit Myth.  We can talk about credit and currency-creation another time when we have less stuff stewing our collective insides.

We’re talking about volatility. Why stocks like ETSY and BYND were halted on wild swings this week despite trading hundreds of millions of dollars of stock daily.

Sure, there were headlines. But why massive moves instead of, say, 2%?

The stock market shares characteristics with the global payments system.  Remember the 2008 financial crisis? What worried Ben Bernanke, Tim Geithner and Hank Paulson to grayness was a possibility the plumbing behind electronic transactions might run dry.

Well, about 45% of US stock volume is borrowed. It’s a payments system. A cashless society. Parties chasing pennies don’t want to own things, and avoid that by borrowing. Covering borrowing by day’s end makes you Flat, it’s called.

And there are derivatives. Think of these as shares on a layaway plan.  Stuff people plan to buy on time but might not.

Step forward to Monday, Nov 9. Dow up 1700 points to start. It’s a massive “rotation trade,” we’re told, from stay-at-home stocks to the open-up trade.

No, it was a temporary failure of the market’s payments system. Shorting plunged, dropping about 4% in a day, a staggering move across more than $30 trillion of market-cap. Derivatives trades declined 5% as “layaways” vanished.  That’s implied money.

Bernanke, Geithner and Paulson would have quailed.

Think of it this way. Traders after pennies want prices to change rapidly, but they don’t want to own anything. They borrow stock and buy and sell on layaway.  They’re more than 50% of volume, and borrowing is 45%, derivatives about 13%.

There’s crossover – but suppose that’s 108% of volume – everything, plus more.

That’s the grease under the skids of the world’s greatest equity market.

Lower it by 10% – the drop in short volume and derivatives trades. The market can’t function properly. Metal meets metal, screeching. Tumult ensues.

These payment seizures are routine, and behind the caroming behavior of markets. It’s not rational – but it’s measurable.  And what IS rational can be sorted out, your success measures amid the screaming skids of a tenuous market structure.

Your board and exec team need to know the success measures and the facts of market function, both. They count on you, investor-relations professionals. You can’t just talk story and ESG. It’s utterly inaccurate. We can help.

Traders, without market structure analytics, you’re trading like cavemen. Let us help.

By the way, the data do NOT show a repudiation of Tech. It’s not possible. Tech sprinkled through three sectors is 50% of market-cap. Passive money must have it.

No need for all of us to be on the skids.  Use data.  We have it.

-Tim Quast

Placid

The data are more placid than the people.

When next we write, elections will be over. We may still be waiting for the data but we’ll have had an election. Good data is everything.  Story for another time.

The story now is how’s money behaving before The Big Vote? Depends what’s meant by “behave.” The Wall Street Journal wrote for weeks that traders saw election turmoil:

-Aug 16:  “Traders Brace for Haywire Markets Around Presidential Election.” 

-Sep 27: “Investors Ramp Up Bets on Market Turmoil Around Election.”

-Oct 3: “Investors Can Take Refuge from Election Volatility.”

Then the WSJ’s Gunjan Banerji wrote yesterday (subscription required) that volatility bets have turned bearish – now “low vol” rather than higher volatility. Markets see a big Biden stimulus coming.

It’s a probable political outcome.

However.

The shift in bets may be about prices, not outcomes.  When there is a probability somebody will pay you more for a volatility bet than you paid somebody else for it, bets on volatility soar.  It hits a nexus and reverses. Bets are ends unto themselves.

On Oct 26, S&P Global Market Intelligence offered a view titled, “Hedging costs surge as investors brace for uncertain election outcome.”

It says costs for hedges have soared. And further, bets on dour markets are far more pronounced in 2021, implying to the authors that the market fears Covid19 resurgence more than election outcomes.

Two days, two diametric opposites.

There’s the trouble. Behaviors are often beheld, not beatified.

One of our favorite targets here in the Market Structure Map, as you longtime readers know, is the propensity among observers to treat all options action as rational. The truth is 90% of options expire unused because they are placeholders, bets on how prices change, substitutes. They don’t mean what people think.

S&P Global says the cost of S&P 500 puts has risen by 50% ahead of the election. Yet it also notes the open interest ratio – difference between the amount contracts people want to create versus the number they want to close out – is much higher in 2021 than it is around the election.

The put/call ratio can be nothing more than profiting on imbalances. And what behavior is responsible for an imbalance, valid or not? Enter Market Structure Analytics, our forte.  You can’t look at things like volume, prices, open interest, cost, etc., in a vacuum.

Let me explain. Suppose we say, “There is a serious national security threat from a foreign nation.”

Well, if the foreign nation is Switzerland, we laugh. It’s neutral. Has been for eons.  If it’s China or Iran, hair stands up.

Context matters. I said the behaviors were more placid than the people. I mean the voters are more agitated than the money in US equities.

Standard deviation – call it degree of change – is much higher in the long-run data for all behaviors, by 20% to more than 130%, than in October or the trailing 30 trading days back before September options-expirations.

Meaning? Eye of the beholder. Could be nothing. Could mean money sees no change.

Remember, there are four reasons, not one, for why money buys or sells. Investment, asset-allocation, speculation, taking or managing risk. None of these shares an endpoint.

Active money is the most agitated and even it is subdued. But it’s sold more than bought since Sep 2.  I think it means people read the stuff other people write and become fearful. It’s not predictive.

The other three behaviors show diminished responsiveness.  Yes, even risk management.

I could read that to mean the machines that do things don’t see anything changing.  The machines may be right in more ways than one! The more things change, the more they stay the same.

One thing I know for sure. I’ve illustrated how headlines don’t know what’s coming.  It’s why investor-relations and investment alike should not depend on them.

The data, however, do know.  And every investor, every public company, should be metering behavior, be it volatile or placid. We have that data.  I just told you what it showed.

Now, we’ll see what it says.

Oh, and this is placid to me, the Yampa River in CO, anytime of the year, and this is Oct 27, 2020.

In Control

What can you control?

Courtesy IEX

It’s a question largely abandoned in the modern era under the assumption humans can control everything.  Arrogance often precedes experience-induced humility.

But we’re talking specifically about the stock market.  Public companies. Share-performance.  Investor relations. What’s within your sphere of influence?

There’s a big difference between your capacity to drive shareholder value rationally in a quantitative market – and the value you provide internally to your board and executive team about what depends on story, and what turns on the product, your shares.

I’ll talk in practical terms about it Thursday at the NIRI Chicago 2020 IR Workshop, the first virtual edition. Join us for the event! I’m on about 1:30pm ET Thursday the 24th.

Market structure plays a key role.  Supply and demand affect stocks the same way they do products in any market. Yet the supply of product – shares – is almost never a consideration for public companies and investor-relations professionals, who suppose that telling the story to more investors will create volume and drive the price up.

Our friends at IEX here explain the difference between volume and liquidity (and we described liquidity and volatility last week). The more parties between the sources of supply and demand, the more volume compounds (especially with derivatives, leverage via borrowing, Exchange Traded Funds).

But volume doesn’t create more supply of the product.  This by the way is how stocks soar and lurch today (we touched on it last week).

SHOP, the big Canadian e-commerce company, saw shares plummet about 30% in a week on a share-offering. The stock then skyrocketed yesterday.  Shares were trading near $1,140 to start September, fell to $850 after the news, and were near $960 yesterday.

Rational thought?

No, supply and demand. SHOP is the 7th most liquid stock in the US market (a reason why we cluster it with close cousins the FAANGs). In fact, supply is so tight in SHOP that it depends on borrowed stock.

Most times stocks with high short volume – borrowed shares – underperform the market.  Shorting adds supply to the market.  If demand falls, short volume weighs on price.

Short volume is at a basic level rented inventory. Traders who deal shares in fractions of seconds rent stocks to sell to others, profiting on the differences in price.  At some point before the close they buy it back and return it, aiming to make more getting between buyers and sellers – see the IEX video – than they spend renting stocks and covering that borrowing.

In SHOP, the demand has been so great that even high shorting isn’t dragging the price down. They’re an outlier, and edge case (and that data clearly indicate they can afford to continue issuing stock, by the way). There’s more to be made trading SHOP every day than the cost of constantly covering borrowed shares.

Disrupt that supply chain with a stock offering and the whole SHOP market for shares shudders.

That’s why it’s essential for investor-relations professionals to help executives and boards understand what’s controllable.  If your market capitalization is less than roughly $4 billion, you’re outside where 95% of the money plays, which is in the Russell 1000.

You can either get bigger and get into the top thousand, come up with something that makes you a screaming growth play that’ll compound your trading and limited liquidity into $4 billion of market cap – or set realistic internal expectations for your team.

Data can help you make a difference with your liquidity. Use it to time your outreach to investors. Aiming to attract buyers when it’s 62% short – unless you’re SHOP – is wasting time. Wait till liquidity improves.

I’ll use a great example to kick off the Chicago discussion tomorrow. And if you’re on hand live and we have the data, I’ll tell you your liquidity ranking.

Bottom line, IR should be captaining liquidity. You’re the chief intelligence officer. Supply and demand determine your price. Know your liquidity.  Ask us, and we’ll help.

Volatile Liquid

There’s a beer in this for you.  A glass of rosé from Provence if you prefer.

What’s the most liquid stock in the US market?

I’m writing this after the virtual happy hour for the NIRI Big I Conference (it’s a strong event, and you can catch Day Two and our wrap-up today that I’ll take part in), which of course makes one think of beverages. Liquid. Virtual drinks are no match for the real thing, nor is false liquidity in stocks.

Let’s lay the groundwork.  Stock exchanges describe market quality as low spreads.  Spreads have never been tighter, they say, and costs for trading were never lower.

Heck, you can trade for free. That’s about as inexpensive as it gets. So, is a low-cost, low-spread stock market a quality and liquid place?

Depends what you mean.  The market doesn’t fail often. Yes, we’ve recorded nearly 13,000 volatility halts since Mar 9.  Remember all the marketwide pauses that month? Still, it didn’t quit operating.

The Nasdaq just corrected – dropped 10% – in three days. And rebounded as fast. It highlights the importance of the definition of “quality.”

Which leads back to liquidity, and by extension, volatility. All three words ending in “y” are related.

Let’s begin with what liquidity is not.  Volume. Liquidity, bluntly, is the amount of a thing that will trade before the price changes. Put an offer on a house.  What’s the spread between the price you’d pay, and the last that somebody else paid?

I’ve just debunked the idea that low spreads reflect quality.  For the seller, a high spread is a reflection of quality.

Low spreads help parties with short horizons.  If my investment horizon is 250 milliseconds, a spread of a penny is wildly attractive. How many pennies can I make, in how many different issues, every quarter-second?

But if my horizon is more than a day, a wider spread reflects higher quality.  How come stock exchanges don’t mention that?

Let’s go one step further. To me, the measures we traditionally look to for guidance about market quality need revamping. For instance, beta, a measure of volatility, has the same flaws as our current economic measures of inflation.  Beta measures how a stock moves from close to close in relation to the market.

Terrible measure of market quality.  WMT, for instance has a beta score of 0.19, 20% of the volatility of the market. Yet its intraday volatility the past 20 days is 2.9%. The S&P 500 is 2.7% volatile over the same time (intraday high and low).

WHEN an investor buys during the day could in theory be nearly 3% different from somebody else’s price.  And WMT, contradicting beta, is not a fifth as volatile as the market but 7% more volatile.

The truth is low spreads PROMOTE frequent price-changes, which is the definition of volatility. The parties driving low trading spreads are ensuring volatility. Creating it.  And telling us it signals market quality.

They mean well. But good intentions pave roads to oblivion.

(Editorial note: Inflation isn’t the rate at which prices increase. It’s whether you can buy things.  All over the economy, people now buy on credit. Debt has exploded. That’s the evidence of inflation. Not the Fed’s equivalent of beta.)

And liquidity isn’t volume. That’s confusing busy with productive. Volume is stuff changing hands. Liquidity is how MUCH of it changes hands.  The most liquid stock in the market is AMZN (not counting BRK.A, a unique equity), at $70,000 per trade.

The mean component of the S&P 500 trades about $17,000 at a time.  But here’s the kicker. Just 50 companies, 10% of the index, trade MORE than $17,000 per trade. That’s the list from AMZN to DPZ. Everybody else trades less.

Including now, AAPL. It used to be in the top ten. Now it’s 146th post-split, trading about $12,000 per transaction on average.  TSLA was top five but post-split is now 49th at $17,600, well behind 32nd-ranked MSFT at $20,100.

Splits don’t foster liquidity. They breed volume. And price-changes. Volatility. We’re not anti-split. We’re anti-volatility, which increases risk for investors and the cost of capital for companies.

Why does the market promote one at the expense of the other? It’s a question owed an answer. All investors, every public company, should know liquidity. We have the data.

Minnows

Softbank bet big on call-options and Technology stocks are sinking.

So goes the latest big story. Business-reporting wants a whale, a giant trade that went awry.  A cause for why Tech stocks just corrected (off 10%).

In reality the market today rarely works that way.  Rather than one big fish there are a thousand minnows, swimming schools occasionally bringing the market down.

We wrote about this last week, regarding short volume. You should read it. We highlighted a key risk right before the market fell.

The same things driving stocks up unassailably toward the heavens, which should first have gotten our attention, often return them to earth. But we humans see no flaws in rising stocks.

Back to Softbank. If you’ve not read the stories, we’ll summarize. CNBC, the Wall Street Journal and other sources have reported on unconfirmed speculation the big Japanese private equity firm bet the equivalent of $50 billion on higher prices for Tech stocks.

Maybe it’s true.  Softbank owned about $4 billion of Tech stocks in the last 13Fs for the quarter ended June 30 (the filings the SEC wants to make less useful, by the way).

Rumor is Softbank levered those holdings by buying call options, rights to own shares at below-market prices if they’re worth more than a threshold level later, on big Tech stocks like MSFT and AAPL.

Here’s where the story ends and market structure begins. The truth is the market neither requires a leviathan to destabilize it, nor turns on this colossus or that. It’s minnows.

It’s always thrumming and humming in the lines and cables and boxes of the data network called the stock market.  And everything is magnified.

A single trade for a single stock, coupled with an order to sell options or buy them, sets off a chain of events.  Machines send signals like radar – ping! – into the network to learn if someone might take the other side of this trade.

Simultaneously, lurking mechanical predators are listening for radar and hearing the pings hitting a stock – MSFT! Wait, there are trades hitting the options market.  Get over to both fast and raise the price!

Compound, compound, compound.

Prices rise.  Retail traders say to themselves, “Let’s buy tech stocks!  Wait, let’s buy options too!”

And the same lurking machines buy those trades from the pipelines of online brokerage firms, assessing the buy/sell imbalance. They rush to the options market to raise prices there too, because once the machines own the trades from retail investors, they are no longer customer orders.  And the machines calculate demand and run prices up.

And index futures contracts rise, and the options on those. Then index funds using options and futures to true up index-tracking lift demand for options and futures, magnifying their own upside.

Read prospectuses, folks. Most index funds can spend up to 10% of assets on substitutes for tracking purposes, and a giant futures contract expires the last trading day of each month that helps indexed money square its assets with the benchmark.

And then the arbitragers for Exchange Traded Funds drive up the prices of ETF shares to keep pace with rising stocks, options, futures.

And there are options on ETFs.

Every price move is magnified by machines.  Up and up and up go stocks and people wonder does the stock market reflect reality?

The thing about prices is you never know precisely when they hit a zenith, the top of the arc. The last pump of your childhood legs in the playground swing, and that fleeting weightlessness.

And then whoosh!  Down you come.

Did Softbank make money or lose it?  I don’t know and it makes no difference. What I just described is relentlessly occurring every fraction of every second in the stock and options markets and there comes a moment of harmonic convergence after long arcs up and down, up and down, like children on swing sets.

It’s a thousand cuts, not a sword. Schools of minnows, not a whale.  The problem isn’t Softbank. It’s a market that depends on the machine-driven electromagnification of every action and reaction.

The reason we know is we measure it. For public companies, and investors. You can wait for stories after the fact surmising sea monsters swam through. Or you can watch it on the screen and see all the minnows, as we do (read last week’s MSM).

What’s next? The same thing. Again.

Big Blanket

The US stock market trades about $500 billion of stock daily, the great majority of it driven by machines turning it into trading aerosol, a fine mist sprayed everywhere. So tracking ownership-changes is hard. And unless we speak up it’s about to get a lot harder.

In 1975 when the government was reeling like a balloon in the wind after cutting the dollar loose from its anchoring gold, Congress decided to grant itself a bunch of authority over the free stock market, turning into the system that it now is.

How?  Congress added Section 11A to the Securities Act, which in 2005 became Regulation National Market System governing stock-trading today – the reason why Market Structure Analytics, which we offer to both public companies and investors, are accurately predictive about short-term price-changes.

And Congress decided to create a disclosure standard for investors, amending the Securities Act with section 13F. That’s what gave rise to the quarterly reports, 13Fs, that both investors and public companies rely on to know who owns shares.

I use the phrase “rely on” loosely as the reports are filed 45 days after the end of each quarter, which means the positions could be totally different by the time data is released. It’s a standard fit for the post office. Mail was the means of mass communication in 1975.

Currently, the standard applies to funds with $100 million or more in assets. Many managers divide assets into sub-funds to stay below that threshold.  So most companies have shareholders that show up in no reports. But at least they have some idea.

Well, out of the blue the Securities and Exchange Commission (SEC) has decided to lift the threshold to $3.5 billion to reflect, I guess, the collapse of dollar purchasing power.

But nothing else changes!  What would possess a regulatory body ostensibly responsible for promoting fairness and transparency to blanket the market in opacity while keeping in place time periods for reporting that have existed since 1975?

I’m reminded of a great line from the most quotable movie in modern history, Thank You For Smoking: I cannot imagine a way in which you could have $#!!@ up more.

Public companies have been asking the SEC for decades to modernize 13F reporting. Dodd Frank legislation passed in 2010 included a mandate for monthly short-position reporting. It’s not happened because the law put no timeframe on implementation.

But how stupid would it be to require monthly short-position reporting while letting long positions remain undisclosed till 45 days after the end of each quarter?

Much of the world has stricter standards of shareholder disclosure.  Australian markets empower companies and stock exchanges to require of investors full disclosure of their economic interest, on demand.

Our regulators appear to be going the opposite direction.

Australia offers an idea, SEC. If you’re going darken the capital markets with a new (non) disclosure standard, then how about empowering companies to demand from holders at any time a full picture of what they own and how they own it?

Investors, I get it. You don’t want anyone knowing what you have.  Well, it seems to work just fine in Australia, home to a vibrant capital market.

And let’s bring it around to market structure.  There is a woefully tilted playing field around ETFs.  A big investor, let’s say Vanguard, could give a billion-dollar basket of stocks to an Authorized Participant like Morgan Stanley off-market with no trading commissions and no taxes, in exchange for a billion dollars of ETF shares.

None of that counts as fund-turnover.

It could happen by 4p ET and be done the next day.  No trading volume. And then Vanguard could come right back with the ETF shares – again, off-market, doesn’t count as fund-turnover – and receive the stocks back.

Why would investors do that? To wash out capital gains. To profit on the changing prices of stocks and ETFs. This is a massive market – over $500 billion every month in US stocks alone.  It’s already over $3 TRILLION in total this year.

What’s wrong with it?  All other investors have to actually buy and sell securities, and compete with other forces, and with volatility, and pay commissions, pay taxes, alter outcomes by tromping through supply and demand.  Oh, and every single trade is handled by an intermediary (even if it’s a direct-access machine).

So how is that fair?

Well, couldn’t all investors do what Vanguard did?  No. Retail investors cannot.  Yes, big investors could take their stock-holdings to Morgan Stanley and do the same thing. But trading stocks and ETF shares back and forth to profit on price-changes while avoiding taxes and commissions isn’t long-term investment.

That the ETF market enjoys such a radical advantage over everything else is a massive disservice to public companies and stock-pickers.

And after approving the ETF market, you now, SEC, want to yank a blanket over shareholdings to boot?  Really?  Leave us in 1975 but 35 times worse?

Market Structure Analytics will show you what’s happening anyway. And nearly in real time. But that’s not the point. The point is fairness and transparency. Every one of us should comment on this rule.

Mr. Smith’s Money

The price-to-earnings ratio in the S&P 500 is about 23.  Is it even meaningful?

Some say a zero-interest-rate environment justifies paying more for stocks. That’s compounding the error. If we behaved rationally, we’d see both asset classes as mispriced, both overpriced.

All investors and all public companies want risk assets to be well-valued rather than poorly valued, sure. But Warren Buffett wasn’t the first to say you shouldn’t pay more for something than it’s worth.

What’s happening now is we don’t know what anything is worth.

Which reminds me of Modern Monetary Theory (MMT).  The words “money” and “theory” shouldn’t be used in conjunction, because they imply a troubling uncertainty about the worth of the thing everyone relies on to meter their lives.

That is, we all, in some form or another, trade time, which is finite, for money, which is also finite but less so than time, thanks to central banks, which create more of it than God gave us time.

Every one of us trading time of fixed value for money of floating value is getting hosed, and it’s showing up in the stock and bond markets.

Let me explain.  Current monetary thinking sees money as debits and credits.  If gross domestic product is debited by a pandemic because people lose their jobs and can’t buy stuff, the solution is for the government to credit the economy with an equal and offsetting amount of money, balancing the books again.

This is effectively MMT.  You MMTers, don’t send me long dissertations, please. I’m being obtuse for effect.

The problem in the equation is the omission of time, which is the true denominator of all valuable things (how much times goes into the making of diamonds, for instance? Oil?). Monetarists treat time as immaterial next to money.

If it takes John Smith 35 years to accumulate enough money to retire on, and the Federal Reserve needs the blink of an eye to manufacture the same quantity and distribute it via a lending facility, John Smith has been robbed.

How? Mr. Smith’s money will now be insufficient (increasing his dependency on government) because the increase in the availability of money will reduce the return Mr. Smith can generate from lending it to someone else to produce an income stream.

Mispriced bonds.  They don’t yield enough and they cost too much.

So by extension the cost of everything else must go up.  Why? Because every good, every service, will need just a little more capital to produce them, as its value has been diminished.  To offset that effect, prices must rise.

And prices can’t rise enough to offset this effect, so you pay 23 times for the earnings of the companies behind the goods and services when before you would only pay 15 times.

And this is how it becomes impossible to know the worth of anything.

And then it gets complicated.  Read a balance sheet of the Federal Reserve from 2007.  The Fed makes up its own accounting rules that don’t jive with the Generally Accepted Accounting Principles that all public companies must follow.

But it was pretty straightforward.  And there were about $10 billion of excess bank reserves on a monthly average, give or take.

Try reading that balance sheet today with all its footnotes.  It’s a game of financial Twister, and the reason isn’t time or money, but theory.  A theory of money that omits its time-value leads people to write things like:

The Board’s H.4.1 statistical release, “Factors Affecting Reserve Balances of Depository Institutions and Condition Statement of Federal Reserve Banks,” has been modified to include information related to TALF II LLC. The TALF II LLC was introduced on the H.4.1 cover note on June 18, 2020 https://www.federalreserve.gov/releases/h41/current/.

The theory is that if you just keep footnoting the balance sheet to describe increasingly tangled assets and offsetting liabilities, so long as it zeroes out at the end, everything will be fine.

Except it leaves out Mr. Smith and his limited time on the earth.

Oh, and excess bank reserves are now nearly $3 trillion instead of $10 billion, proof money isn’t worth what it was.

This then breaks down fundamental constructs of valuation.  And it’s why we offer Market Structure Analytics.  While fundamentals can no longer in any consistently reliable way be used to discern what the stock market is doing, Market Structure Analytics lays reasons bare.

For instance, Market Structure Sentiment™ ticked up for TSLA July 2. Good time to buy. It’s got nothing to do with fundamentals.  FB Market Structure Sentiment™ ticked up June 23. Good time to buy. In fact, it’s a 1.0/10.0 right now, but it’s 57% short, so it’s got just limited upside.  Heard all the negative stuff that would tank FB? Fat chance. Market structure rules this Mad Max world.

Public companies, if you want to understand your stock, you have to use tools that take into account today’s madness. Ours do.  Same for you, traders. Sign up for a free 14-day trial at www.marketstructureedge.com and see what drives stocks.

How does it all end? At some point Mr. Smith will lose faith, and the currency will too.  We should stop the madness before then.

Power of Two

We’re coming to the end of two Coronavirus quarters. What happens now?

In a word, July.  As to what July brings, it’s summer in the northern hemisphere, winter down under.

It’s also the end of a remarkable period in stocks. I don’t mean rising or falling, volatility, the invincible-Alexander-the-Great-Macedonian-phalanx of the stock market (your history tidbit…you can look it up).

By “end” we don’t mean demise.  Though a demise is probably coming. More on that later. We mean the end of epic patterns.

We wrote last week about index-rebalances delayed since December.  In patterns observable through ModernIR behavioral analytics, the effort to complete them stretched unremitting from May 28 to June 18.

Yes, June 19 was a muscular volume day with quad-witching and we saw BIG Exchange Traded Fund (ETF) price-setting that day in many stocks. (Note: ETFs are substitutes for stocks that are easily traded but entitle owners to no underlying assets save the ETF shares.)

But the patterns strapping May to June like a Livestrong bracelet (wait, are those out?) ended almost everywhere June 18.  The effort reflected work by about $30 trillion, adding up money marked to MSCI, FTSE Russell and S&P Dow Jones, to match underlying construction.

Funds moved before rebalances. And the biggest components, ETF data indicate – really, they dwarf everything else – are AAPL and MSFT. Patterns show money piled like a rugby scrum into AAPL call options in early June, and then plowed headlong into AAPL equity between June 12-18.

It’s good business if you can get it, knowing the stock will inevitably rise because of its mass exposure to indexes and how its price then when last money square-danced into an Allemande Left with indexers in December 2019 was about $280.

How many of you remember when AAPL was down to about 5% of the computing market, most of that in academia, and it looked like MSFT would steamroll it right out of business?  And then MSFT was yesterday’s news, washed up, a boomer in a Slack world.

Today both say, Ha! Suckers!

MSFT patterns are like AAPL’s but less leveraged, explaining the divergence in performance over the past year. AAPL is up 84%, MSFT about half that.  You can see here how both have performed versus the Tech-heavy QQQ (Nasdaq 100 from Invesco) and the SPY, State Street’s proxy for the S&P 500.

AAPL and MSFT have pulled the market along like Charles Atlas (and his doppelganger) towing a Pennsylvania railcar (more arcane and anachronistic history for you).

That ended, at least for now.  The Russell reconstitution continues through Friday but in patterns at this point it appears money has already changed mounts, shifted chairs.

The marvel is the magnitude of the effects of these events, and the power of two – AAPL and MSFT.

You’re thinking, “What about the rest of the FAANGs?”

MSFT isn’t one but we include it, and oftentimes now TSLA and AMD.  FB, AMZN, NFLX, GOOG – incisors dripping less saliva than AAPL – are massive, yes. But they don’t pack the ETF power of the two.

Let me give you some data. There are 500 Financials stocks, about 400 Healthcare, around 300 Consumer Discretionary.  Tech is around 200.  Most of these sectors are Oversold, and there’s a lot of shorting. The FAANGs are Overbought and more than 50% short, collectively.

The few outweigh the many.

And meanwhile, Market Structure Sentiment™ is both bottomed and lacking the maw it signaled. Either we skip across the chasm for now, or it trips us soon (stocks love to render fools of soothsayers).

The salient point is that the market can’t be trusted to reflect views on Covid19, or trade with China, or the election in November, or economic data, or actions of the Federal Reserve (curiously the Fed’s balance sheet is tightening at the moment). It’s right now defined by the power of two.

Two legs.

We humans stand fine on two. Can the market?  We’re about to find out.  And the degree to which your shares are at risk, public companies, to those two legs, and your portfolio, investors, is measurable and quantifiable. Ask us, and we’ll show you.

Squid Ink

Is retail money creating a Pandemic Bubble? Sort of. Really, it’s Fast Traders turning those orders into clouds of squid ink.

There are 47 million customer accounts at Schwab, Fidelity, Ameritrade, E*Trade and Robinhood.  These big online brokers sell their flow to Citadel, Two Sigma, Susquehanna’s G1X options platform, Virtu, UBS, options trader Wolverine, and others.

Nearly all of the orders are “non-directed,” meaning the broker determines where to send them.  Also, more than three paragraphs of market structure goop and people grab a bottle of tequila and go back to day-trading.

So, let me explain.

Do you know CHK?  A shale-oil play, it’s on the ropes financially. In May it was below $8. Yesterday CHK was near $70 when it halted for news. Which never came, and trading resumed. (Note: A stock should never, ever be halted for news, without news.)

It closed down hard near $24. Rumors have flown for weeks it’ll file bankruptcy.  Why was it at $70? People don’t understand that public equity often becomes worthless if companies go bust. Debtholders convert to equity and wipe out the old shareholders.

Hertz (HTZ) went bankrupt May 26 and shares closed at $0.56.  Monday it was over $5.50, up about 900%. HTZ debt is trading at less than 40 cents on the dollar, meaning bondholders don’t think they’ll be made whole – and they’re senior to equity.

This is bubble behavior. And it abounds. Stocks trading under $1 are up on average 79% since March, according to a CNBC report.

ABIO, a Colorado biotech normally trading about 10,000 shares daily with 1.6 million shares out made inconsequential reference to a Covid preclinical project (translation: There’s nothing there). The stock exploded, trading 83 million shares on May 28, or roughly 50 times the shares outstanding.

Look at NKLA.  It’s been a top play for Robinhood clients and pandemic barstool sports day-trading. No products out yet, no revenue. DUO, an obscure Chinese tech stock trading on the Nasdaq yesterday jumped from about $10 to $129, closing above $47.

Heck, look at Macy’s.  M, many thought, was teetering near failure amidst total retail shutdown. From about $4.50 Apr 2, it closed over $9.50 by June 8.

W, the online retailer that’s got just what you need, is up 700% since its March low despite losing a billion dollars in 2019.

When day traders were partying like it was 1999, in 1999, stocks for businesses with no revenues and products boomed.  Then the Nasdaq lost 83% of its value.

About 95% of online-broker orders are sold to Fast Traders – the Citadels, the Two Sigmas, the Virtus.  They’re buying the tick data (all the prices) in fractions of seconds. They know what’s in the pipeline, and what’s not.

Big online brokers sell flow to guarantee execution to retail traders.  I shared my experience with GE trades. The problem is retail prices are the ammunition in the machine gun for Fast Traders. They know if clips are being loaded, or not. And since retail traders don’t direct their trades (they don’t tell the broker to send it to the NYSE, Nasdaq, Instinet, IEX, etc., to hide prices from Fast Traders), these are tracer rounds stitching market prices up and down wildly.

The Fast Traders buying it can freely splatter it all over the market in a frenzy of rapidly changing prices, the gun set on Full Automatic.

This is how Fast Traders use retail trades to cause Wayfair to rise 700%. The order flow bursts into the market like squid ink in the Caribbean (I’ve seen that happen snorkeling), and everyone is blinded until prices whoosh up 30%.

A money manager on CNBC yesterday was talking about the risk in HTZ. She said there were no HTZ shares to borrow. Even if you could, the cost was astronomical.

Being a market structure guy with cool market structure tools (you can use them too), I checked HTZ.  Nearly 56% of trading volume is short. Borrowed. And the pattern (see here) is a colossus of Fast Trading, a choreographed crescendo into gouting squid ink.

How? Two Sigma, Hudson River Trading, Quantlab, etc., Fast Trading firms, enjoy market-making exemptions. They don’t have to locate shares. As high-speed firms “providing liquidity,” regulators let them do with stocks what the Federal Reserve does with our money. Digitally manufacture it.

Because they buy the flow from 47 million accounts, they know how to push prices.

That’s how ABIO traded 83 million shares (60% of the volume – nearly 50 million shares – was borrowed May 28, the rest the same shares trading many times per second).

It’s how CHK exploded up and then imploded as the manufactured currency vanished. And when stocks are volatility halted – which happened about 40 times for CHK the past two trading days – machines can game their skidding stop versus continuing trades in the ETFs and options and peer-group stocks related to the industry or sector.

This squid ink is enveloping the market, amid Pandemic psychology, and the economic (and epic) collapse of fundamental stock-pricing.

Dangerous.

You gotta know market structure, public companies (ask us) and investors (try EDGE).

Disruption

What did you say yesterday to your executive team, investor-relations officers, if you’d sent a note Monday about mounting Coronavirus fears?

The market zoomed back, cutting losses in the S&P 500 to about 2% since Jan 17.  We said here in the Market Structure Map Jan 22 that data on market hedges that expired Jan 17 suggested stocks could be down about 2% over the proceeding week.

It’s been a week and stocks were down 2%. (If you want to know what the data say now, you’ll have to use our analytics.)

The point is, data behind prices and volume are more predictive than headlines.

NIRI, the professional association for IR, last year convened a Think Tank to examine the road ahead, and the group offered what it called The Disruption Opportunity.

If we’re to become trusted advisors to executive teams and boards, it won’t be through setting more meetings with stock-pickers but by the strategic application of data.

For instance, if Passive investment powering your stock has fallen 30% over the past 200 trading days, your executive team should know and should understand the ramifications. How will IR respond? What’s controllable? What consequences should we expect?

At a minimum, every week the executive team should be receiving regular communication from IR disruptors, a nugget, a key conclusion, about core trends driving shareholder value that may have nothing to do with fundamentals.

Take AAPL, which reported solid results yesterday after the market closed.  AAPL is the second most widely held stock in Exchange Traded Funds (there’s a nugget).  It’s over 20% of the value of the Tech sector, which in turn is nearly 24% of the S&P 500, in turn 83% of market-capitalization.

AAPL is a big engine (which for you cyclists is American rider Tejay van Garderen’s nickname).  And it always mean-reverts.

It may take time. But it’s as reliable as Rocky Mountain seasons – because the market is powered today by money that reverts to the mean. Over 85% of S&P 500 volume is something other than stock-picking.

AAPL has the widest mean-reversion gap in a half-decade now, with Passive investment down a third in the last week.  AAPL trades over 30 million shares daily, about $10 billion of stock. And 55% of that – 17 million shares, $5.5 billion of dollar volume – is on borrowed shares.

Those factors don’t mean AAPL is entering a mean-reversion cycle. But should the executive team and the board know these facts?  Well, it sure seems so, right?

And investors, would it behoove you to know too?

The Russell 1000 is 95% of market cap, the Russell 3000, over 99.9%.  That means we all own the same stocks.  You won’t beat the market by owning stocks someone else doesn’t.

How then will you win?  I’m coming to that.

IR pros, you’re the liaison to Wall Street.  You need to know how the market works, not just what your company does that differs from another. If your story is as good as somebody else’s but your stock lags, rather than rooting through the financials for reasons, look at the money driving your equity value.

Take CRM. Salesforce is a great company but underperformed its industry and the S&P 500 much of the past year – till all at once in the new year it surged.

There’s no news.  But behaviors show what caused it.  ETF demand mushroomed. CRM is in over 200 ETFs, and the S&P 500.  For a period, ETFs could get cheap CRM stock to exchange into expensive SPY shares, an arbitrage trade.  The pattern is stark.

Now that trade is done. CRM market structure signals no imminent swoon but Passive demand is down over 20% because there’s no profit in the CRM-for-ETFs swap now.

That fact is more germane to CRM’s forward price-performance than its financials.

This, IR pros, is your disruption opportunity in the c-suite. If you’re interested in seeing your market structure, ask and we’ll give you a free report.

Investors, your disruption opportunity isn’t in what you own but when you buy or sell it. Supply and demand rule that nexus, and we can measure it.   If you’d like to know about Market Structure EDGE, ask us.