WARREN PIES: Welcome to the Real Vision Daily Briefing. It's Tuesday, April 19th, 2022. I'm Warren Pies, founder and strategist at 3Fourteen Research. Today, I'm joined by Tom Thornton, founder of Hedge Fund Telemetry. Tom, first time talking with you, how are you doing today?
TOM THORNTON: I'm doing great. I'm doing great. Finally, we get to chat. I've been a big fan of your work for many years.
WARREN PIES: Yeah, same to you. It's great opportunity. I think Tony will be back next week for anyone who's wondering, but I think this is going to be another big day. Seems like every Tuesday we do this, it ends up being a huge day in the market. Again, market's up, huge day, S&P up 1.6%. On the other side of the trade, bonds down, rates up too on the 10Y, 2.93 at close.
I think the big question on my mind when you have a day like this, and putting in context of what's happening in the markets this year is, is this-- from your view, is this the beginning or the early stages of a new bull market? Or is this a bear market rally? I think that's ultimately the question in my mind.
TOM THORNTON: My view starting the year is that, and it still continues is that we'd see this year play out more tactically with bear market rallies and bear market rallies tend to be sharp, quick. They come out of nowhere. And most of them are lower high affairs, and you can exploit them.
And I think they're great to trade. And I've been trading them like a maniac right now. But I think it's going to be a period of the Fed raising rates. I think earnings are going to start slowing, we're starting to see it. And high commodity prices will probably persist.
WARREN PIES: At 3Fourteen, one of the things we do, we will steelman opposing positions. Coming into the year, and steelmanning means like, instead of strawmanning where you create a crappy version of the opponent's argument, you create the best version of the opposing argument and try to better understand where you could be wrong.
When we came in the year, we were pretty bearish calling for enough market volatility to force the Fed to reverse course at some point in the year. We're taking the under on the rate hikes. Obviously, the Russia-Ukraine war changed things. But I think what has got us thinking about and what we're going to write about this week is what is the bull case that we could be missing as people have been leaning bearish?
And I think that's the consensus. And that's where I start with my steelmanning approach of how this could be the beginning of a new bull market. One of the charts we are going to start out our report with this week is the number of bulls in the AAII survey dropping to basically a 32-year low. Lowest we've seen, 15.8% respondents are bullish on the next six months in the market.
The other thing we do and just to set the table and get your response is we create model versions of portfolios and strategies that might be out there to triangulate positioning. One of the things we do is we do a vol targeted strategy where if you're a portfolio manager, you're dialing exposure up or down with a 10% vol target, what's your positioning?
Another big chart there is where this hypothetical position be following the selloff we saw earlier in the year, we've got-- this will be the other single clip chart, Brian, if you could, we've seen-- there you go-- the hypothetical vol targeting positioning has plummeted to sub 40%. This is where you expect to see a short-term bottom, whether you're talking about sentiment in opinion polls or on the way positioning should shake out.
These are the I think the starting points for trying for constructing a bull case going forward. Even though this is not our position at all, the precedent is worth understanding it. What do you think of those, the sentiment that's out there? Do you measure sentiment in any certain way in your position?
TOM THORNTON: Well, I learned from the best of them, like you did, at Ned Davis. I was a client of Ned's, and I watched the Ned Davis sentiment polls that he had, and I basically took out one of your ex-partners for drinks and I said, okay, tell me the breakdown of how it all works.
And one of the components is the Daily Sentiment Index and that's Jake Bernstein's daily poll of stocks, bonds, currencies and commodities. And that's been really, really helpful. And I chart that on my site. And when you see it go from-- it's between zero to 100. And what we saw recently at the last low, we saw 10% bulls. It's different from the AAII, which is a weekly poll.
And I'm not necessarily crazy in love with the AAII poll, anyway. The problem is they ask, are you bullish, bearish or neutral? And I think sometimes people will use the excuse and say, I'm neutral rather than to go full bear. And look, it's good at extremes. And I think sentiment polls are very, very good at extremes and that's when you really want to use them. But market sentiment can and will stay overbought or oversold for an extended period of time.
And you've seen that before in different bear markets where it can be under let's say, from zero to 100, it stays under 50% for the most part for a year, year and a half. And we've seen that for several periods and especially in the Great Financial Crisis. That's what I'm watching right now. I see the whole point though, as far as people saying, well, maybe positioning is offsides.
There's a lot of stocks and sectors that have been beat down really, really hard that is not in reality with the S&P and NASDAQ 100 partly because you have the mega cap names that have the big position and have hidden a lot of the underlying damage. My view right now is that there are places to buy. I don't have any inkling that this is the bottom, it is perhaps a bottom.
On my screen right there, I'm watching Netflix get absolutely hammered here. And that's not a good tell for some of the technology stocks that are going to be reporting starting this week and a lot of next week.
WARREN PIES: Yeah, so Netflix getting destroyed doesn't make you feel very comfortable jumping over in that part of the pool. What are the select areas that you're looking at and wanting to actually put money to work?
TOM THORNTON: I put money to work last week in bank stocks. And I really did not have a lot of people that said, hey, this is a great idea. And partly because everyone knew bank earnings were going to be absolutely atrocious. Terrible. The good news is with higher rates, that helped, net interest margins are the income of [?].
Therefore, there was a bit of a tailwind there. But trading was terrible. Underwriting was just terrible year over year, but the stocks were washed out. And I had a lot of DeMark buy exhaustion signals down there. And this is really different because we've seen the financials go into earnings previous quarters at highs and then they faded.
This is one quarter where the positioning was offsides, where you had a lot of people that were more short financials than we've seen in a long time and a lot of put buying I saw down at the lows. Therefore, there was a put squeeze and a little bit of a short squeeze. I like financial still. We're going to talk about it but I'm more cautious on commodities, especially with energy in the short term.
I shorted natural gas yesterday, added to a position so I'm now profitable in it and I added XLE, XOP, and OIH as tactical shorts today. And I think that a pause with the energy sentiment real high and a lot of DeMark exhaustion signals. I'm not a giant bear on energy, I just think that we're going to see perhaps 5% to 10% pullback.
WARREN PIES: Yeah. And is that a relative pullback in your mind? Because one of the patterns that we've tracked is energy bulls throughout the year on our end is just that energy is the only sector with a negative correlation, and it has a negative correlation to every single other sector in the market and so far, this year. And there are no other two other sectors with negative correlations within the market.
It's been this odd-- and really actually useful to portfolio diversifiers and managers asset that gives you a hedge to some of the biggest tail risks that have been out in the market. To me, if you get energy going down in these relationships holds and you're going to expect to see the broad market rally. You would get some relief in oil prices. These companies react and that trade we've been watching persists. What you see, you see some break in that or your signals giving you something else.
TOM THORNTON: I think it's just more of a pullback and maybe a pause. And there's a lot of commodities that hit new highs and spiky type highs, especially in energy with Ukraine, that's calmed down a bit. And I will say all bets are off if this accelerates and becomes something bigger. One thing I will mention to you, I'm looking at my screen here, with the Goldman Sachs' most shorted baskets.
And most sectors have really pretty good performance for the shorts in the last three months. And for the last year. The only one though, is energy. The energy shorts have, well, there are 57%, the shorts. If you shorted the heavily shorted baskets, you've done great, and the shorts have absolutely been murdered. And I think XLE is up 25% in the last three months.
There you go, you have this huge move that I think is a lot of short covering. And usually when you see big moves like this, a lot of short covering, the shorts give up, they just say no, thanks. And if numbers come out, and they're fine. And we saw Halliburton today, it came out, the numbers were fine. And the stock faded a bit. It may partly because of the commodity, but I think they're just a little overdone and they're running out of buyers.
And I'm sure you see this and I'm sure a lot of people reach out to you because you're a commodity person. You know the energy markets so well and you have a lot of new people buying into the space and the macro energy tourists I think are way out there right now. And people chase what's worked, and that's the fact.
WARREN PIES: Yeah, I can't disagree with that. I guess, before I get into the editorializing, so what was your timeframe beyond that? Is it like a one to three months' timeframe?
TOM THORNTON: Look, in this market, this has been a pretty wild market. It could be a week, it could be two weeks if crude and everything drops 5% or 10%, I'm going to take some profits. And I'm totally willing to be wrong.
And that's something in a bear market that people need to recognize, and you can be wrong by taking profits too early. And I've done that, and that's okay. You just don't want to be holding on to something and being really stubborn. This is a market that you just cannot be stubborn at all.
WARREN PIES: Yeah, I think that would be-- if I had to think of why I would be a little bit nervous about holding on to my energy longs here, it would be crowded, it is crowded. And it's a similar dynamic to what we're starting the show with, which is AAII sentiment and like you said, I think there are some issues with [?]. It's what people say versus how they're positioned.
But yeah, there's a long energy is consensus and bearish the market is consensus, and nobody really feels very comfortable being right in the middle of consensus trade on at any time. But maybe sometimes when you get in front of a big move, just to step outside of that for a minute, is you don't want to overthink it. And that's where I'm at on this.
It's like, yeah, it could be a 5% or 10% correction and energy and that might be healthy. And it seems like every day that goes by, China's increasing the lockdowns and that's ostensibly pretty bearish for oil. And the fact that we're above $100 a barrel, there's signal in that. To me, there's huge signal that we've lost somewhere between 2 million and 2.5 million barrels a day of demand through the China lockdowns.
And in the past, when we've seen China locked down their country, or even suggest locking the country down, oil is falling apart, go back to the Omicron scare, go back to anything during the early days of Delta. And the fact that oil has hung in above 100 is a huge signal. Yeah, I can't disagree that it's a crowded trade.
And we could have a 5% or 10% correction, sure, but over the long term, I think these are huge, huge secular events that are happening this year. And it's almost difficult to overstate them. That's the message that I've been giving our clients. It's interesting to see different time horizons how you would fit that together and have different positions.
TOM THORNTON: Yeah, I think you're absolutely right. I'm in the same boat thinking longer term. And look, I do all the fundamental reading and I know how you just can't turn on the wells that people wish they could. And that's going to take a long time to get the supply and demand balance worked out. And my view is, if we got down to 90 on WTI, that'd be fine trade, I'd be more than happy to take profits there.
Natural gas was very, very crowded, I shorted that. And I was wrong for a few days, and I knew I was going to be wrong. I'm like, look, I'm going to be wrong. I didn't think it was going to go up when it did yesterday. But I'm really happy when it did today. It worked out pretty well. And one thing also, a lot of people will want to trade with ETFs and UNG, which is not necessarily a great ETF or an ETN, I think it's a futures-based trade or an ETN.
Basically, there's no borrow. And usually, when I see that there's no borrow for something with a lot of the retail brokers, Fidelity was one that I heard that weren't given borrow, that sometimes gets to a point where they're looking out for their customers, and they don't want to lend out something and it was tight. That might have even been the squeeze higher causing the huge move that we saw yesterday.
WARREN PIES: Yeah, natural gas is known as the Widowmaker for a reason. But if you've been in the energy business for any period of time, you've felt at one point or another, like you've had natural gas market Dead to Rights, and it's done something different, whether it's record warmth, and during the hard winter or something like that, it's a very notoriously difficult market to trade. Dovetailing off of the energy discussion and how we trade it, there is a policy discussion in today's clip from Gontran De Quillacq and his interview with Michael Green. Let's take a look at what they said.
GONTRAN DE QUILLACQ: The giant is waking up. That is a huge change in Europe. Germany, who for a long time, was very careful about military spending certainly has done a turnaround, it's going to invest 100 billion to catch up and it's going to go to 2% way earlier than expected, and the German population supports it. I think 90% of the Germans support the decision of the Chancellor, which is incredible.
That's going to be a major change in the dynamic of Europe. Nuclear power, and oil and gas, we go back to it, I think Europe will wean off the Russian oil and gas. Problem is commodities are much harder to wean off than any other types of financial assets. You need harbors, you need pipelines, you need boats, you need a lot of things.
It's going to take time, but I think Europe has learned its lesson and hopefully will reduce its always dependence on Russia, and Russian oil.
WARREN PIES: There you go. Moving on from energy for a minute, one of the things that you had brought up previous to the call was that you're really keeping a close eye on the yen and rates and how you think there's really just one big macro trade going on. Why don't we dig into that for a minute and get your thoughts there?
TOM THORNTON: Well, think about-- I think it was about six weeks ago, the Bank of Japan met, and they came out and said they're fine with the yen dropping. They weren't too concerned, and they were going to stay steady with their monetary policy. And this was really a break from all the others, and they just felt really confident.
Now the yen is really dropping hard, and Kuroda, who runs the Bank of Japan, is getting very nervous. He's making some comments. And it's always like talking from both sides of the mouth. Oh, it's okay that it's low. But we're monitoring it. And he has a very concerned thing. And he doesn't normally get real concerned or say real concerning things outwardly.
But I've seen this correlation where we have rates going up, you've got the yen dropping, and you've had commodities going up. And the S&P has been trying to-- it's been down but it's trying to hold in here. But my concern is what happens, if and when because it will happen, the yen turns and I think that there is a-- look, bonds are very stretched to the downside right now.
And I see the yen very stretched to the downside. I think you're going to see some correlated trade that could catch a lot of people offsides. And if that happens, I've had people say, well, that would be good if rates are lower. But if the yen is higher, I think that would be bad for equities.
I don't have the full answer. And a lot of times when I'm looking at things, I'll do a, how many percentage of the perfect trade do I have? And I'd say I'm around 60% to 70% right here with my thinking of what I'm watching. And that's the big trade. Everybody's piled into the same thing in the macro world.
WARREN PIES: Yeah. Just to be clear, are you looking going long the yen or expressing that-- how would you best express a view that a turning point could happen, it could be violent?
TOM THORNTON: We've seen eight months of dollar strength and eight months of dollar bullish sentiment well over the 70% to-- level. And yesterday, it hit 93% and I haven't seen today's reading, but I'm sure it's going to be there, 93% or maybe even a touch higher.