A Bullish Big Picture With Growing Near-Term Headwinds

There’s some growing signs of weakness in this market. Breadth is slipping, credit doesn’t look too great, there’s more new lows versus new highs being made… that kind of stuff. I’m still not getting any major sell signals, except from my high-yield indicator. It flashed a signal today. But there’s word the recent weakness in junk may be due to concerns over how deductions for debt and interest payments will be treated in the Republican tax reform plan. I don’t know. Either way, I’m not seeing any major red flags outside of junk bonds just yet.I’m in “wait and see” mode, just “sitting on my hands” as Livermore would say. I’ve trimmed my book some but mostly because I want to free up capital for other trades that are lining up. One of these trades is long dollar. I won’t expend much digital ink laying out my long dollar case, I’ve already done that plenty. The skinny is that the market is underpricing the impact of tax reform, changing trade policies, and the coming normalization of the Treasuries balance sheet. These are bullish drivers for the dollar. I think the market will wake up to this in the coming months. I’m already long the dollar through the yen pair. But I’m looking to also get long against the aussie and pound as well. The technicals for the trades are setting up nicely. Take a look at this monthly chart of AUDUSD. Price has broken below a 15-year trendline and recently had a failed breakout to the upside.Here’s the same chart on a weekly basis. You can see the bull trap failed breakout and now price is near the critical support line of its consolidation zone. The aussie is also plagued from a slowing China and a leveraged domestic housing market. A break below here would spell trouble for the pair.Similarly, the pound has broken below a major 20+ year trading range shown on the monthly chart below.It has retraced back up to its previous long-term support level which is now serving as resistance. Price is currently trading at a critical support level where if broken would likely indicate lower prices ahead. GBP has a number of political and economic headwinds, many of which could serve as a catalyst/driver for lower prices against the dollar.Here’s a quick ‘Marcus Trifecta’ look at the technicals, sentiment, and macro of the market. Sentiment: A little frothyMarket sentiment has notably shifted to very optimistic over the last six months. And nearly all of the sentiment and positioning indicators we track are showing that. BofA’s Bull & Bear Indicator is nearing extreme bullish territory. The components of this indicator can be seen in the chart on the right.And their latest fund manager survey showed that hedgies are becoming quite optimistic on equities and much less risk averse. The chart below shows there’s a record number of survey participants taking on higher than average risk.A record number also said stocks are overvalued, yet their cash levels are falling, meaning they’re upping their risk exposure. BofA is calling this a sign of “irrational exuberance”. I’m not sure we’re at that stage yet, but we’re be getting close — as I write this a Da Vinci painting of some dude or a chick that looks like dude just sold for roughly $500M. Yikes…The latest positioning data has banks and the eurozone topping out as the assets that investors are the most long relative to the survey’s history. I wonder how much this data is skewed though since banks and European stocks have been investor kryptonite over the last 8 years. Maybe overall positioning here isn’t indicative of extreme bullishness and therefore it’s less reliable as a contrarian signal? I don’t know, just something to think about.Tech on the other hand remains a one way street. Investors have been throwing money at the big tech stocks, where being long FAANGs has become the “no-brainer” trade in the market. Weekly inflows into the sector recently hit their highest levels on record. And now with the FANG futures coming out things are really starting to get ridiculous.Technicals: Path of least resistance is still upSPX continues to trend higher in its ascending channel. The short-term trend is overextended but that alone is not cause for concern (chart below is a weekly).Small-caps are close to having a failed breakout of their broadening top pattern. The weekly chart below shows price just trying to hold above the top support level of the pattern. Something to keep an eye on.Many financials are retesting their recent breakouts. The weekly chart of JPM below is a good bellweather to watch for this sector. This trade is largely moving off of long-term rates, so if the yield on the 10yr continues higher then we should expect to see financials trend up as well.Macro: Strong but keep an eye on ChinaGrowth is picking up in most countries around the world. Numerous ‘Big Picture’ macro indicators we track are signalling further economic strength in the months ahead, such as the BofA GLOBALcycle chart below showing a hockey stick move higher.As growth picks up and the global credit cycle progresses, a number of inflationary pressures are building such as growing wage pressures and higher input costs from rising commodity prices. Expect these pressures to continue to build as more output gaps tighten in the coming months.One of the major threats to the global economic recovery is China. China’s credit cycle is long in the tooth and now that Xi has consolidated power he has the freedom to make the moves to begin deleveraging the economy. How this plays out will have consequences for the rest of the world. And things won’t be helped by the beginning of a liquidity suck driven by a tightening Fed and a US Treasury normalizing its cash balance; both of which will pull the dollar higher. I like to keep a close eye on China’s property market since it tends to act as good indication of which direction leverage/credit are moving in the country. And floor space sold in Tier 1 cities has recently fallen through the… It’s something to keep an eye on.No cause for alarm yet. The broader cyclic indicators we track for China remain supportive in the near-term.Conclusion: Big Picture remains bullish but near term there’s growing headwinds

• Sentiment is reaching frothy levels and will likely act as a market headwind in the coming weeks. Tech, especially long FAANG stocks, is a crowded trade and there’s a good chance for a large shakeout soon.
• Technicals: The trend is still clearly up. It’s overextended in the near-term but that’s not cause by itself for a sell-off. There are signs of growing technical weakness but no major sell-signals yet. It seems the market is waiting for news on tax reform (which I think is going to pass). I wouldn’t be surprised to see stocks rally on positive tax reform news only to sell off shortly after. But who knows, we’ll continue to read the tape and see.
• The macro is strong and all signs point to higher growth ahead. This growth will bring inflationary pressures over the coming months which is going to push rates higher and change the tune for central banks. A tightening Fed and moves by the Treasury following a raised debt ceiling at the end of the year will start the process for global liquidity to begin to slowly get sucked from the system. This trend will also be exacerbated by more companies raising there CAPEX spend which will pull the buyback bid from markets. On top of this we need to keep a close eye on China where the property market is cooling but the main indicators remain supportive.

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