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Friday, June 19, 2015

Daily update 6/19 The Perils of Low Liquidity and High Leverage

There was a little buyers remorse today.

There is a slight change to the chart.  The magenta Keltner 50 channel has been changed to a blue 20.  I spent time studying it and it appears to be more relevant.  The Blue MA in the center was also changed from 18 to 20.  They actually track pretty close anyway so that is not a big deal.  Yesterday SPX stuck its head back up above the lower trend channel line, but was turned back again.  This is the second time it has done that.  Not exactly the most bullish action there.  New highs were 104 and new lows came in at 65.  Not very promising.  The breadth was -57%  which was not particularly negative based on the size of the move down in SPX.  IWM held up much better.  The selling was more focused on the big caps.  Probably Greece related.

The futures moved down enough today to give a negative cross on the DI lines.  I mentioned last night that for the last few months whenever price got extended from the 18 SMA it tended to reverse.  Still happening.  Now the futures are resting on the 100 SMA which could act as support.  The bounce still has a chance to stay alive.  Downside follow through on Monday is likely to kill it though.

I heard on TV today that the Stock Trader's almanac came out and said the week after the June option expiration has been down 22 of the last 25 years.  With that information widely known we will either go up (fool the most people) or go down big (self fulfilling prophecy).  There could be plenty more Greece headlines.  This market is waffling all around on headlines.  Doesn't that indicate a lot of uncertainty on the part of investors?  I can certainly understand why that would be.  Since my crystal ball seems to be on the blink I will not even try to predict what happens next. 

This is a pretty interesting article.  The Perils of Low Liquidity and High Leverage  Here is a snippet to whet your appetite.

The second key factor has to do with leverage. Large investors, such as those that use risk parity strategies, are using a lot of it, and since they invest across asset classes, losses in one asset class can force a broad sell-off in others as managers rush to meet margin calls.

Rising correlations are particularly troublesome for risk parity funds, which target a specific level of risk and spread it equally between risky assets, such as stocks, credit, commodities and safe assets such as government bonds. Again, this is fairly easy to manage in normal times when bonds and stocks are negatively correlated. But when they decline in tandem, the risk contribution from both assets rises. Managers must sell both to maintain a portfolio’s risk target. In other words, selling begets selling.

Leverage plays a part here, too. That’s because bonds are less volatile than stocks, so managers typically have to lever them up to equalize their risk contributions.
In a similar vein, the growing popularity of “risk-managed” insurance products is contributing to these correlated moves. Because these products offer certain guarantees to policyholders, insurance companies must keep volatility under a certain level to minimize losses. This means managers must sell assets to reduce risk whenever risk limits are breached.

The market and sector status pages have been updated.  Have a great weekend.


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The information in this blog is provided for educational purposes only and is not to be construed as investment advice.