GTAA Equities Q1 2012

8/3/2019 GTAA Equities Q1 2012

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Clue6 First Quarter 2012

1Managed Accounts




2

Stocks

Markets have probably entered a new cyclical bear market. Our cyclical models are giving sell signals since June/July

while leverage reached at that time levels typical of cyclical market turns. Bear market rally are to be expected from

time to time and we will do our best to participate (mainly by cutting our net short position and using bullish call backspread

further financed by out of the money put sold on our hedges as we have in the past. We will be more aggressive on the put

financing side when the markets fall below their intrinsic value). We have successfully timed a couple of those rallies since

the August top and are expecting one to start soon and last for a couple of weeks (top in early January).

Determining the cycle is not only crucial to avoid betting against the trend but because

indicators, be it sentiment, breadth, liquidity or cycles should be analyzed differently.

Overbought/oversold in a bear markets is not the same as in a bull markets (both the levels and how the markets react),

sentiment indicators boundaries (optimism/pessimism) change as does how cycles translate. In a bull markets you have

trend followers working for you (if you are a bull) while they are working against you in a bear market. Fundamental

value investors are only working for you at the later stage of a bear markets, waiting for valuations to be attractive (or

more).

Investors surveys have corrected from the excessive optimism they were displaying in the May-July period but have

rebounded to levels which are high in the current cyclical context. Hedge Funds have lowered their high leverage (grosspositions) and their net long exposure but both remain high historically.

Option indicators are mixed. The CBOE equity put call ratios printed high readings a couple of days ago but the moving

averages are neutral at best. The OEX PC ratio has experienced new bearish "above 2“ readings recently. Its open interest

put call ratio has fallen but remains much higher than its typical level at the end of cyclical bear markets. At the retail levels,

Executive Summary




3

we are seeing 51% of the activity concentrated in bearish strategies. The buy to open put call ratio is relatively high but usually

go much higher in cyclical bear markets.Few puts are bought to open while many are sold to open

.There are no fears of

waterfall declines. Skews have corrected somewhat.

Insiders activity has deteriorated markedly in the past few weeks. We had net buying in the US during the last week of

August but those days are now gone. The Canadian buy to sell ratio has fallen back close to its 2007 lows. We are seeing more

companies buying stocks than selling in Europe with a big spike 2 months ago.

Our preferred “market timers” are now both defensively positionned.. The best value managers have continued to reduce

their net long exposure to the market indicating that the markets will have to fall more before we see fundamentalists buying

from the technical traders.

Speculators have accumulated a large net short Nasdaq 100 future position. European sell side analysts are very bullish

while US strategists have maintained their equity allocation recommendation near its cyclical high.

Leveraged bullish funds as a percentage of total at Rydex is back to “too high” .

The VIX time-spread, while lower than between August 2010 and April 2011 is again very high while non-commercials

are net long the VIX future. We will use the potential short-term rebound to build a call backspread on the VIX as we did inJune-August. The curve should flatten a bit before and we might be able to get >20* payout for January of February expiry.

Breadth volatility continues to be very high. It is currently hard to give as much weight as we usually do to this area. The

positives are that we have seen some clusters of breadth thrusts in the past 2 months. The negatives are that our Nasdaq new

highs-lows model is on sell since June, the McClellan oscillator is diverging negatively and failed to diverge positively at the

Executive Summary




4

October bottom. Selling pressure has increased in the past 19 months. And now even Lowry's Research , THE reference with

regard to breadth analysis, agrees. Our short-term top warning models have yet to display worrying divergences between the

% of stocks above short-term moving average and their respective indices just before the recent correction started and are now

slowly reaching levels where a short-term rebound has to be expected. Dispersion has increased and we had an unconfirmed

Hindenburg Omen in the US a week ago.

On the liquidity side, net outflows in US domestic and developed markets equity funds have increased sharply. Net inflows into

emerging markets have moderated even if we saw some big inflows a couple of weeks ago. The cash ratio are low

everywhere and does not leave much dry powder to managers. Net redemption will have to be met by selling current

holdings. Money market funds as a percentage of aggregate market capitalization continues to decrease rapidly. The number of

buybacks has increased in the US and reached historical highs in Europe and Asia Pacific while it remains low in Japan. In

most markets we are seeing less IPOs and secondary offerings but the amount raised between the end of 2010 and May

2011 are typical of bull markets top.

Foreigners are continuing to buy a lots of US equities. The small caps short interest ratio relative to large cap remains

relatively high which is a negative. Short selling in Japan has moved out of deep panic. Margin debt has corrected

somewhat in the US but remains at the 2007 levels relative to overall market capitalization.

Pension funds’ funding status has deteriorated since the start of the year, courtesy of increasing liabilities (discount ratedeclining). This remains one of the big, big problems the markets and retirees will have to face in the coming years.

M2 has exploded in the June-August period but is flat since (money market funds Euro financial exposure selling and fund

repatriation related). Fed Treasury custody holdings growth momentum is now negative.

Executive Summary




5

Seasonals are now a tailwind. Our mechanical seasonal model is on buy since early October. The 40 cycle mad a low in early

October and the next 20 weeks cycle low should be expected around the end of February. With regard to the Presidential Cycle,

the election year has been the second best (but also the most volatile) but remember that the typical fiscal and monetary cycle

has been distorted and pushed forward in the past 3 years. Average outcome highly unlikely.

Intermarket relationships are mostly negative but the fact that the correlation at the stocks, styles, index and assets level is

extremely high recently makes intermarket analysis much more tricky. The macro surprise indices is extremely high. The

defensive sectors have performed relatively well despite the recent rebound. The Nasdaq, semiconductor and bank sectors have

underperformed in the past few months and the Nasdaq is too now. Emerging market are underperforming (always worrying to

see the leader in this situation when prices move higher). High yield bonds are not diverging negatively but corporate CDS

have as have ABX, CMBS indices and emerging markets sovereign spreads. Treasury bonds yields have continued todecline.

Our cyclical models are giving sell signals one after the others but we have reached levels (for the third time after the

beginning of October and the end of November) where a partial “recapture” of the recent decline becomes highly likely.

Taking the US markets as a proxy, The S&P 500 has behaved mostly as expected in the past few months. We are almost

certainly in a cyclical bear market and prices are heading much lower before a new sustained up swing. The index was unable to

break its 200 days moving average and, more importantly, a large cluster of pivots resistance between 1270 and 1300. While inthe short-term a retest of the 1270 area is possible, strength should be used as a selling opportunity. We covered our net short

position (but remained market risk hedged) and entered a bullish call backspread near the November lows. It was sold on

strength early December and we bought another one on 15/12.We will use strength (or further technical deterioration) to re-enter

the net short position we held in July-September and re-entered at the end of October and buy a new Vix call backspread.

Executive Summary




6

We would continue to underweight emerging markets , Europe and small caps (US, European and emerging markets small

caps could/will underperform large caps by 3-5% yearly in the next 5-7 years) . We would overweight Japan (but hedge the

currency risk) and the US. Buy high quality (domestic-oriented) stocks (and hedge the market risk when we recommend it).

Value and growth are likely to behave badly in a downturn so value managers won't offer the decorrelated returns they offered

during the 2000-2003 decline. Buy value when value dispersion is high not low as it is now.

With regard to the macro picture, we would refer to the multiple updates we have sent in the past few months. There will

be a recession in the US, Europe and many other places. On Europe in particular we feel we are dreaming. When will the

political elite understand that they are not facing a liquidity…

Executive Summary




7Equities: Sentiment – Surveys

As said in the executive summary, most indicators have to be analyzed in the context of the cyclical trend.

The Investor Intelligence surveys (Chart 1) Bull Ratio is rebounding from oversold levels and is just shy of the 60% levels where markets tend to

top during cyclical bear markets.

The American Association of Individual Investors (Chart 2) surveys has been very volatile in the past 2 years. The Bull Ratio is now too high for

our comfort.

S&P 500 and AAII Bull RatioChart 2

Source: AAII, Clue6Source: Investor Intelligence, Clue6

Investor Intelligence Bull/Bear RatioChart 1

0

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II Bull Ratio S&P 500

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AAII Bull Ratio S&P 500





The National Association of Active Investment Managers allocation survey is below 40%(It means that managers are recommending, on average,

an 40% net long exposure) with a relatively low diffusion of answers (Chart 3).

On Chart 4 one can see that the average exposure of the surveyed lowest quintile is 20%.

NAAIM Survey Lowest Quintile AverageChart 4

Source: NAAIM, Clue6Source: NAAIM, Clue6

NAAIM SurveyChart 3

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NAAIM Survey Standard Deviation S&P 500

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-50

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90

NAAIM Survey S&P 500





On Chart 5 one can see the average exposure of the surveyed highest quintile is relatively high during cyclical downturn.

The TSP Bull/Bear Survey (Chart 6) has been very volatile. It is now starting to be too high.

TSP Survey and S&P 500Chart 6

Source: TSP, Clue6Source: NAAIM, Clue6

NAAIM Survey Highest Quintile AverageChart 5

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NAAIM Survey S&P 500

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Tsp Survey S&P 500





The crash confidence index (Chart 7) measures the percent of the population who attach little probability to a stock market crash in the next-six

months. After having reached its lowest level at the end of 2008-beginning of 2009 it rebounded and started to fall again. The decline accelerated in

the past few months.The analysis of this index is tricky…

Low levels occurring after prolonged decline are bullish, but you want the index to rise strongly along the markets (remember the crowd is wrong at

the end of the trend not during a trend).

The buy-on-dips index (the percent of the population expecting a rebound the next day should the market ever drop 3% in one day) (Chart 8) has

rebounded sharply.

Shiller’s Buy-On-Dips Confidence IndexChart 8

Source: R. Shiller, Clue6Source: R. Shiller, Clue6

Shiller’s Crash Confidence IndexChart 7

40

45

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80Buy-On-Dips Confidence Index - Institu tional

Buy-On-Dips Confidence Index - Individual

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70Crash Index - Institutional

Crash Index -Individual





The ML Fund Managers Survey Risk & Liquidity Composite is the combination of the risk appetite, investor time-horizon and cash weightings

level (Chart 9). It has fallen quickly from its January cyclical high. Cash balance has risen above 5%. There are a net 8% of respondents who are

overweight equity (> net 50% underweight at the 2009 lows).

Hedge Funds have maintained a high leverage ratio with a 141% gross exposure (<100% in 2009). Their net long position has increased in the

past 3 month by more than 10% (Chart 10).

ML Fund Managers Survey Hedge Fund

PositioningChart 10

Source: Merrill LynchSource: Merrill Lynch

ML Fund Managers Survey Risk &

Liquidity CompositeChart 9





Managers are overweighting the US (Chart 11). We think they are correct and are reiterating our last 5 quarters overweight recommendation. Withall its ills and disequilibrium, the US are the more flexible among major regions (a subject we have written a lot about in our past macro quarterlies).

Once they understand that big financial institutions are not too big too fail if they are allowed to be reorganized or liquidated on an orderly fashion,

the US will move from outperformer to super-outperformer. (and their financial institutions are in much better shape than Europeans, UK and

Australian ones to take some example… and remember that there is what has happened and what will happen… and in the “will happen” camp the

majority of the negative impacts will be for non US-Banks (housing deflation outside US, EM and EMU loans,…)

And very underweight Europe (Chart 12).

ML Fund Managers Survey Percentage Net

Overweight EuropeChart 12


ML Fund Managers Survey Percentage

Net Overweight USAChart 11





Japanese stocks are underweighted again (Chart 13). They have almost been underweight persistently since 2007 and we believe they will be

proved wrong now (but hedge your Yen , please)

Emerging Markets relative exposure is relatively high (Chart 14). Expect investor to be underweight sometimes next year.

ML Fund Managers Survey Percentage Net

Overweight Emerging marketsChart 14


ML Fund Managers Survey Percentage

Net Overweight JapanChart 13




14Equities: Sentiment

On chart 15 you can find an update of a chart we presented 3 years ago. The Roubini index is declining after having experienced a spike in August-

September.

The recession index (Chart 16) is moving up again. “The Economist” published the first article on a similar indicator many, many years ago.

Contrary to what one would think, there is a spike of the use of the term recession in the major US newspapers BEFORE a recession starts.

According to this indicator, we never moved out of recession and the macro environment will get worse.

Recession IndexChart 16

Source: Bloomberg, Clue6Source: Google, Clue6 Idea: insidemonkey.com

Roubini IndexChart 15

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Roubini Index S&P 500

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Recession Index S&P 500




15Equities: Sentiment – Put Call Ratios

The OEX put call ratio (Chart 17) has risen to above 2 plenty of times in the past 10 months. This is a warning of a nearing top which has rarely

failed, if ever in the past. The ratio has been low in the past few days which is supportive for a short-term rebound.

The Open Interest OEX put call ratio (Chart 18) remains high.

S&P 500 and OEX Open Interest PC RatioChart 18

Source: Clue6Source: Clue6

S&P 500 and OEX PC RatioChart 17

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OEX Put Call Ratio MA S&P 500

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OEX Open In terest Put Call Ratio MA S&P 500





The Eurostoxx 50 put call ratio (Chart 19) has declined sharply in the past 5 months.

The open interest call put ratio (Chart 20) has risen but is still well below 1.

SX5Eand SX5E Open Interest CP RatioChart 20


SX5E and SX5E PC RatioChart 19

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3000

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SX5E Put Call Ratio SX5E

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SX5E Op en Int erest C all P ut Rat io SX5E





NIKKEI and NIKKEI Open Interest CP RatioChart 22


Nikkei and Nikkei PC RatioChart 21

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12000

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NIKKEI Open In terest Cal l Put Rat io NIKKEI

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Nikkei Put Call Ra tio Nikkei

The Nikkei put call ratio (Chart 21) has also declined sharply in the past 5 months but is well above levels where cyclical bottoms have been

made.

The open interest call put ratio (Chart 22) has risen but is still well below cyclical bottoms level too.





Hang Seng and Hang Seng Open Interest CP RatioChart 24


Hang Seng and Hang Seng PC RatioChart 23

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10000

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Hang Seng Put Call Ratio Hang Seng

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8000

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Hang Seng Open Interest Call Put Ratio Hang Seng

The Hang Seng put call ratio (Chart 23) has also declined in the past 2 months but is above levels where cyclical bottoms have been made.

The open interest call put ratio (Chart 24) has risen but is still well below cyclical bottoms level too.





Small traders (up to 10 contracts traded) activity is now more concentrated into bearish bets (51%) (Chart 25).

The buy to open put call ratio is above 0.6 (Chart 26).

S&P 500 and Small Traders Buy to Open Put/Call RatioChart 26

Source: OCC, Clue6Source: OCC, Clue6

S&P 500 and Small Traders Option ActivityChart 25

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Small Trader Buy to Open Put -Call

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Buy to Open P ut Sell to O pen Call Sell to Open Put

Buy t o Open Call S&P 500 (rhs )





Buy to open put activity increased above 20% in August and early October but has since declined (Chart 27). Investors are not worried abouta

rapid decline.

Sell to open call activity is high (Chart 28).




650

850

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Buy to Open Put S&P 500 (rhs)

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Sell to Op en Call S&P 500 (r hs)





Buy to open call activity is relatively low at less than 30% (Chart 29).

Sell to open put activity is high at 20% (Chart 30) and it would not if people were worried about a potential waterfall decline.




650

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Sell t o Op en Put S&P 500 (r hs)

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Buy to Open Call S&P 500 (rhs)





Retail Option volume has decreased sharply since January(Chart 31-32). Note that the increase in the buy to open put call ratio has been a

function of a substantial decline in call buying and not an increase in put buying.




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Buy to Open Puts (Retail 1-10) S&P 500 (rhs)




23Equities: Sentiment – Implied Volatility

The option skew is the shape of an asset option implied volatility along the strike for a given maturity. In the above charts we are looking at theabsolute difference of the implied volatility of 3 months put options with a strike at 90% of the current price and 3 months call options with a strike

at 110% of the current price. The higher the level the more expensive puts are relative to calls i.e. the more nervous investors are.

The S&P 500 skews has declined in the past few weeks (Chart 33). It remains highs compared to the Vix which is a negative divergence for the

markets.

It remains elevated in Europe(Chart 34).

EuroStoxx 50 and 3M 90/110 Skew and VDAXChart 34


S&P 500 3M 90/110 Skew and VIXChart 33

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EuroStoxx 50 3M 90/110 Skew VDAX -10 EuroStoxx 50




24Equities: Sentiment – Implied Volatility

The Japanese skews is very elevated (Chart 35).

The emerging Market skews is elevated too (Chart 36).

IShare MSCI Emerging Market ETF and 3M 90/110 Skew

and 3 Month Implied VolatilityChart 36


IShare MSCI Japan ETF and 3M 90/110 Skew and 3

Month Implied VolatilityChart 35

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12EWJ 3M 90/110 Skew 3 Month Implied Volatility -15 EWJ

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EEM 3M 90/110 Skew 3 Month Implied Volati li ty-20 EEM




25Equities: Sentiment – Insiders

The Russell 3000 sell/buy ratio is much lower than some months ago but has been rising during the past week despite the market decline which isworrying (Chart 37).

In Canada, the buy/sell ratio has been decreasing rapidly from its October highs (Chart 38).

Remember, insiders activity is especially useful in 2 configurations: lots of relative buying or increased

selling when the markets decline…

Canadian Insiders Buy/Sell RatioChart 38

Source: InkResearchSource: Bloomberg, Clue6

S&P 500 and Russell 3000 InsidersChart 37

0

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Russell 3000 Sell/Buy Ratio S&P 500

0102030405060

708090100

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100Russell 3000 Insiders Buy (lhs)

Russell 3000 Insiders Sell




26Equities: Sentiment – Insiders

Europe buying pressure as abated in the past 8 weeks (Chart 39-40).

Note that insiders were wrong during the whole bear market in 2007-2009.

Local spikes have predictive powers but we haven’t any at this juncture.

Number of Companies with Directors’

Buying and SellingChart 40

Source: DB

Net Directors’ Buying with Transaction Capped at 1

EUR mio. (in ‘000s EURO)Chart 39

Source: DB




27Equities: Sentiment – Smart Money

J. Hussman is, according to our calculation, currently fully hedged (Chart 41). He continues to have a substantial exposure to high quality, cash

generating, large caps stocks.

S. Leuthold, who has been lowering its exposure since July (Chart 42).

S&P 500 and Leuthold Core Beta ExposureChart 42


S&P 500 and Hussman Strategic Growth Beta ExposureChart 41

0

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1.15 S&P 500 50 per. Mov. Avg. (Rolling beta)

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S&P 5 00 50 per. Mov. Avg. (Rollin g bet a)




28Equities: Sentiment – Smart Money

Global macro hedge funds exposure to equity markets (the correlation is such between assets that we should say exposure to the reflation trade)

moved to a new record high in November-December and has been declining since (Chart 43). Once the exposure move to an extreme and form a

divergence with the markets, a counter-trend move or trend change is not far away.

The same is true for emerging markets hedge funds (Chart 44).

MSCI EM and Dow Jones Credit Suisse Blue Chip Emerging

Markets Hedge Fund Index Beta ExposureChart 44

Source: Dow Jones Credit Suisse, Clue6Source: Dow Jones Credit Suisse, Clue6

MSCI World and Dow Jones Credit Suisse Blue Chip

Global Macro Hedge Fund Index Beta ExposureChart 43

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MSCI EM (usd) 10 per. Mov. Avg. (Rolling beta)

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MSCI World (usd) 10 per. Mov. Avg. (Rolling beta)




29Equities: Sentiment – Smart/Dumb Money

Non-Commercial have an important net short position in Nasdaq futures (Chart 45).

Non-reportable have a small net long position in US equity futures (Chart 46).

S&P 500 and Non Reportable Net Long Equity

Futures (in usd bio.)Chart 46

Source: Bloomberg, Clue6Source: Bloomberg, Clue6

Nasdaq 100 and Non-Commercial Net Long Future PositionChart 45

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35Non Reportable Net Long (in usd bio.) S&P 500




30Equities: Sentiment – Smart/Dumb Money

Sell-side analysts are bullish (Chart 47).

Wall Street Strategists are recommending investors to allocate 60% of their assets to stocks (Chart 48). While it remains lower than the average

of the past 12 years this would probably not be the case if a longer history was available.

S&P 500 and Strategists Stock AllocationChart 48

Source: Bloomberg, Clue6

Source: Bank of America

European Median Sell Side Analysts’ RecommendationsChart 47

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Strategists Stock Allocation S&P 500




31Equities: Sentiment – Dumb Money

Proshare short ETF total shares outstanding are where they were last June (Chart 49). Note that shares outstanding tends to top out just before

markets top. It indicates bears being squeezed out or throwing the towel precisely at the wrong moment. The reverse is mostly true at bottoms.

Rydex leveraged (and unleveraged) assets are indicating a extremely high level of optimism (Chart 50).

Source: G.Lerner

ProShare Short ETF Total Shares OutstandingsChart 49 Rydex Leveraged Bull to Bear AssetsChart 50

Source: G. Lerner


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SQQQ QID PSQ SPXU SDS SH S&P 500




32Equities: Sentiment – Volatility

The VIX time-spread has risen sharply in the past 8 weeks and is now approaching levels where markets top during bear markets (Chart

51).

Non-commercials are net long in the VIX future (Chart 52).

Remember that they are the smart-money in this market.

S&P 500 and CFTC VIX Large Speculator Net PositionChart 52


S&P 500 and Vix Time-SpreadChart 51

8.00

16.00

32.00

64.00

128.00

-35,000.0

-30,000.0

-25,000.0

-20,000.0

-15,000.0

-10,000.0

-5,000.0

0.0

5,000.0

10,000.0

15,000.0

VIX Non-Commercial Net Positon VIX

600

1200

0.80

0.85

0.90

0.95

1.00

1.05

1.10

1.15

1.20

1.25

1.30

VIX Time-Spread S&P 500




Equities: Sentiment 33

The sentiment Composite is dead neutral.

600

800

1000

1200

1400

1600

-2.2

-1.2

-0.2

0.8

1.8

Sentiment Composite S&P 500

Source: Clue6




34Equities: Breadth

Why breadth and volume can help us gauge the future prospective risk/reward ratio of the market. We have tried for 10 years to explain it… Well

J.Hussman explains it brilliantly… as always

“ A good way to think about prices and trading volume is to abandon the idea that money goes in or out, and to think instead about the market as

a collection of various groups. Imagine there being fundamental investors, who are interested primarily in value (buying on weakness and selling

on strength), and technical investors, who are interested primarily in trends (selling on weakness and buying on strength). These people also trade

on different horizons and base their trading on different extent of movement.

In this sort of equilibrium, trading volume is a measure of strong views and disagreement. As the market turns weaker, trend-following investors

typically abandon stocks, while fundamental investors accumulate. The reverse is true on significant strength. So spikes in trading volume tend to

occur primarily at extremes relative to the target prices of fundamental investors. Volume spikes also tend to be correlated with a series of positive or

negative shocks that then abate. In contrast, dull volume is a measure of low sponsorship, strong agreement, and lack of external shocks.

Equally important is that net incipient buying from both technical and fundamental investors cannot exist, so large price movements are typically

required to relieve the disequilibrium. If you've got an overvalued market which then loses technical support, the outcome can be extremely

negative, because technical investors are prompted to sell, but fundamental investors have weak sponsorship at that point, so large price declines

are required to induce the fundamental investors to absorb the supply.

In contrast, if you've got an undervalued market where fundamental investors raise their outlook, the demand from fundamental investors is not

typically provided by technical investors (who would tend instead to buy on advances in price), so the price must increase enough to induce

fundamental investors with shorter horizons to supply the stock.

All of these dynamics have been active in the market over the past two years, but the most significant outlier has clearly been the past few months,

where volume behavior has demonstrated much weaker sponsorship than we would have expected for an advance of this size. Normally, the volume

characteristics we've seen have been much more typical of short-squeezes and less durable advances.”

J.Hussman




35Equities: Breadth

The S&P 1500 Composite Index cumulative advance decline line is in synch with the markets (Chart 53). In the last three quarterly presentation

we said:

Our selling Pressure indicator has remained persistently high in the last few months (Chart 54). Usually when it is above 0.65 and the market is

making new 52 weeks high, a cycle trend is ahead…This was the case in 1962, 1968, 1972, 2007 and… now.0

S&P 500 and Selling PressureChart 54


S&P 1500 and its AD LineChart 53

10

20

40

80

160

320

640

1280

0.5

0.55

0.6

0.65

0.7

0.75

0.8

0.85

Selling Pressure S&P 500

100

150

200

250

300

350

400

0

5000

10000

15000

20000

25000

30000

35000

40000

45000

50000S&P 1500 AD Line S&P 1500 Composite




36Equities: Breadth

The Nasdaq New High-Low Model is on sell since the middle of July (Chart 55).

We have documented the rapid increase in breadth volatility in the past few years and the same is true for Lowry’s 90% days (to have an 90% up days, >90%

of the volume should be in rising stocks, >90% of the issues should be rising and >90% of the points moves should be made by rising stocks) (Chart 56).

Lowry’s 90% DaysChart 56


Nasdaq 100 and the New High New Low ModelChart 55

0

500

1000

1500

2000

2500

3000

3500

4000

4500

5000

-400

-300

-200

-100

0

100

200

300

400

Nas da q n ew High -Lo w Mo del Nas da q 1 00

600

1200

-2

-1.5

-1

-0.5

0

0.5

1

1.5

2

Sum Lowry's 90% Days S&P 1500 and Nasdaq 100 S&P 500




37Equities: Breadth

We have had 1390% Lowry’s down days and 10 90% up days in the past 10 weeks.

Note that we had multiple 90% up days in early October.

Source: Clue6




Equities: Breadth Thrust Composite 38

This is our breadth thrusts composite. We use it principally on the buy side.

Source: Clue6

600

1200

-4

-2

0

2

4

6

8

10

12

Brea dth Thrust Models S&P 500




39Equities: Breadth

On chart 57 one can see the % of Nasdaq 100 stocks above their 10 and 50 days moving average. Overbought but this can also be a thrust

sometimes (but markets should remains persistently overbought and not experience any overlapping swings).

The same is true for the Bloomberg Europe 500 index (Chart 58).

Bloomberg Europe 500 and %Stocks

Above their 10 and 50 Days Moving

Average

Chart 58

Source: Clue6

Nasdaq 100 and %Stocks Above

their 10 and 50 Days Moving

Average

Chart 57

Source: Clue6

1250

2500

-0.60

-0.40

-0.20

0.00

0.20

0.40

0.60Stocks Above 10 days moving average normalized

Stocks Above 50 days moving average normalized

Nasdaq 100

128-0.60

-0.40

-0.20

0.00

0.20

0.40



Bloomberg Europe 500




40Equities: Breadth

We had a positive divergence in Japan (Chart 59).

While the data is inconclusive on emerging markets (Chart 60).

S&P Emerging BMI and %Stocks Above their

10 and 50 Days Moving AverageChart 60

Source: Clue6

Topix and %Stocks Above their 10 and 50 Days

Moving AverageChart 59

Source: Clue6

650-0.60

-0.40

-0.20

0.00

0.20

0.40



Topix

150

300

-0.60

-0.40

-0.20

0.00

0.20

0.40



S&P Emerging BMI

i i




41Equities: Breadth

We had a negative divergence between the NYSE McClellan Oscillators and the S&P 500 (Chart 61). The market moved to new high while the

oscillator moved below 0 in May. One should now look for a move below 75 and then a divergence for a medium-term bottom.

We also have a negative divergence on the Summation Index (Chart 62). It usually is time to exit when the summation index starts to move down

when in a divergence. This is what happened when the Oscillator moved below 0.

Source: Clue6

S&P 500 and NYSE McClellan OscillatorChart 61

Source: Clue6

650

1300

-125

-75

-25

25

75

125

NYSE Rat io Adjusted McClellan Oscillator

S&P 500

1200

2400

-1500

-1000

-500

0

500

1000

1500

2000

NYSE Ratio Adjusted McClellan Summation I ndex

Nasdaq Composite

S&P 500 and NYSE McClellan Summation IndexChart 62

E i i




42Equities: Breadth

As said before the recent cyclical highs have not been confirmed by the number of new highs on various equity indices (Chart 61-62).

We have yet to see a high level of confusion (black lines on the graph which is the minimum of the % of stocks at a new 52 weeks high or 52 weeks

low I.e. The Fosback High-Low Index)

TPX High LowChart 62


S&P 500 High LowChart 61

600

800

1000

1200

1400

1600

1%

3%

5%

7%

9%

11%

13%

15%

17%

19%NL% NH% S&P 500

600

800

1000

1200

1400

1600

1800

2000

1%

3%

5%

7%

9%

11%

13%

15%

17%

19%NL% NH% TPX

E i i




43Equities: Breadth

The message is similar in Europe and for the emerging markets (Chart 63-64).

Emerging Markets High LowChart 64


Europe High LowChart 63

7501%

3%

5%

7%

9%

11%

13%

15%

17%

19%NL% NH% MSCI Emerging Markets

150

160

170

180

190

200

210

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%

NL% NH% Bloomberg Europe 500

E i i




44Equities: Breadth

There are a lots of talk on the influence of non-common stocks “polluting” the NYSE breadth data.

On chart 65, one can see that the Overall (Amex, NYSE and Nasdaq) Fosback High Low Index has declined after having reached 1.5% in

June. It remains above 1%. Bear markets bottoms are usually made after a decline below 0.2%.

We experienced an “Hindenburg Omens” last week (Chart 66) after having experienced the first cluster on multiple indices in July since the autumn

of 2007.

S&P 500 and Hindenburg OmensChart 66


S&P500 and Overall Fosback High Low Index

80

160

320

640

1280

0.00%

0.50%

1.00%

1.50%

2.00%

2.50%

3.00%

Short Average Long Average S&P 500

Chart 65

620

1240

0.00%

0.50%

1.00%

1.50%

2.00%

2.50%

3.00%

3.50%

S hort A ver age L ong A ve ra ge

80

160

320

640

1280

0

1

2

3

4Hindenburg Omen (NYSE, NASD AQ and AMEX)

S&P 500

E iti




45Equities: Breadth

A buying climaxes occurs when a stock is closing a week where it reaches a 52 weeks high with a loss. The selling climaxes is the reverse (close

higher a week where it made a 52 weeks low). We are seeing less buying climaxes (which is logical as we have few 52 weeks highs)(Chart 67).

Looking at the percentage of stocks forming bullish/bearish pattern, N.Bulkovski has created an indicator which has been pretty accurate in the

past few months (Chart 68). The model is on sell mode.

S&P 500 and Bullish/Bearish Chart Pattern BreadthChart 68

Source: N. Bulkowski

Source: Clue6

S&P 500 and Buying/Selling ClimaxesChart 67

100.00

300.00

500.00

700.00

900.00

1100.00

1300.00

1500.00

1700.00

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%Buying Climax % S&P 500

E iti




Equities: Breadth 46

The net % of S&P sub-industries indices rising on a 52 weeks basis has fallen below 0% after having diverged negatively with price.

We have repeatedly said that the real secular top was made in 2007 and not in 2000. In 2007 everything was expensive while in 2000 markets prices and

valuation ratios were pushed to the stratosphere by the TMT sector. Median valuation back then were reasonable and as you can see less than 50% of

industries were rising. This explains why one could still make attractive returns by buying a long only buy-holder during the 2000-2003 bear market (if

you were a value investor).

This wasn’t the case at the 2000 top and neither it is now.

Source: Clue6

600

700

800

900

1000

1100

1200

1300

1400

1500

1600

-50%

-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%

50%

S&P Industries Rising on a 52Weeks Basis

S&P 500

E iti




47Equities: Liquidity

Outflows from US equity mutual funds have accelerated in the past few months even when the markets were rebounding (Chart 69). Both

equity and bonds EM funds have seen some inflows after the big outflows in August-early October.

Large cap quality where you should invest your money to show your true contrarian mentality (but

hedge your market risk).

Mutual fund cash reserve is historically low and net mutual fund selling will have to be met with manager selling (Chart 70). If we adjust the cash

level taking into account the short-term interest rate level (a higher risk free rate imply a higher cash ratio, ceteris paribus) using Jason Goepfert

“Mutual Fund Cash Reserve, the Risk-Free Rate and Stock Market Performance“ paper, one can see that we have yet to reach dangerous low levels,

but note that with the current short-term rate even 1% cash ratio would not be sufficient to make the model bearish so…

Source: ICI, Clue6

US, Developped and Emerging Markets Equity

mutual fund assets FlowsChart 69

50

100

200

400

800

1600

-4.50%

-2.50%

-0.50%

1.50%

3.50%

5.50%Equity Fund Cash Ratio Model

S&P 500

Source: ICI, Clue6 Idea: J.Goepfert

US Equity mutual fund Cash Ratio ModelChart 70

0

1,000,000

2,000,000

3,000,000

4,000,0005,000,000

6,000,000

7,000,000

8,000,000

-40,000

-20,000

0

20,000

40,000

60,000

80,000

E iti





On an equity flow basis the prospect for Emerging Market relative performance are better than what they were a year ago (Chart 71).

This is not sufficient to change the our 14 month old underperformance recommendation.

Emerging Market Equity Funds Flows and

Relative PerformanceChart 71

Source: Nomura

E iti





Equity allocation remains below the 2000 and 2007 highs but not as much as one would think (Chart 73 and 74).

Bond allocation is rising in the US but isn’t in Europe. A big share of the increase has been toward corporate bonds while foreign bonds have seen

big relative inflows from a low bas (notably in Emerging market bonds). In the next few years, money will pour into treasury bond funds in the US.

The mountain of cash in the sideline has decreased sharply since March 2009. Note you should not really care has this cash on the sideline

argument if a fallacy.

European Mutual Funds Asset AllocationChart 73

Source: MS

US Mutual Funds Asset AllocationChart 72

Source: MS

E iti i idi





Buybacks have picked up in the US particularly in October which is encouraging but we would like to see more…(Chart 74).

In Europe, we have seen a sharp increase which is encouraging given the tight credit condition (not like 2007 where it was simply the only use

companies had for their cash flow it seemed…) (Chart 75).

Note that we remain wary of too much buybacks which, in aggregate, still remains a sign of management “short-terminism” (especially when

management (insiders)is selling their own shares.

Number of Buybacks Announced per Month in EuropeChart 75


Number of Buybacks Announced per Month in the USChart 74


0

200

400

600

800

1000

1200

1400

1600

1800

0

50

100

150

200

250

300

350

400

450

500Monthly Buybacks

S&P 500

0

50

100

150

200

250

300

350

0

100

200

300

400

500

600

700

800

900

1000

Monthly Buybacks


Eq ities: Li idi





Lots of buybacks announcement in Asia which is a positive as many companies are family owned and as such buybacks are not only a short-

term management profit maximization trick (Chart 76).

In Japan, they remain very low (Chart 77).

Number of Buybacks Announced per Month in JapanChart 77


Number of Buybacks Announced per

Month in the Asia PacificChart 76


0

200

400

600

800

1000

1200

1400

1600

1800

2000

0

50

100

150

200

250

300

350

400

450

500Monthly Buybacks

Topix

0

20

40

60

80

100

120

140

160

180

0

200

400

600

800

1000

1200Monthly Buybacks

MSCI Asia Pacific

Equities: Li idi





The number of IPOs in the US is far from its 2005-2007 levels (Chart 78) but we also had some sizable one (Chart 79), most recently with Zinga.

Remember that management sell stocks mainly for 2 reasons. First when they have to in order for the company to survive (what happened in the US

during the first 4 months of 2009) or when they would be stupid not to (like Blackstone in July 2007, China and Hong Kong at the end of 2007…

US IPOsChart 79

Source: Clue6, Bloomberg

US IPOsChart 78


6000

10

20

30

40

50

60

70

80

90

100IPOs (number)

S&P 500

6000

5000

10000

15000

20000

25000

30000IPOs (amounts)

S&P 500

5Equities: Li idit





We are seeing less secondaries after a large pick up earlier this year (Chart 80).

Looking at the amount raised (Chart 81) there is little doubt than managements did not think the market were as cheap many thought.

Note that the big numbers of secondaries in 2009 are largely a function of US banks raising money, this was a case of do it or die.

US SecondariesChart 81


US SecondariesChart 80


6000

50

100

150

200

250Secondaries (number)

S&P 500

6000

10000

20000

30000

40000

50000

60000

70000

80000Secondaries (amounts)

S&P 500

54Equities: Li idit





Europe IPOsChart 83


Europe IPOsChart 82


1000

20

40

60

80

100

120

140

160

180IPOs (number)


1000

5000

10000

15000

20000

25000

30000

35000

40000

45000

50000IPOs (amounts)


The number of IPOs in Europe is low (Chart 81) but we had some sizable one earlier this year (Chart 82).

55Equities: Li idit





Europe SecondariesChart 85


Europe SecondariesChart 84


1000

20

40

60

80

100

120

140

160



1000

10000

20000

30000

40000

50000

60000



We are seeing less secondaries after a pick up earlier this year (Chart 84).

Looking at the amount raised (Chart 85) they have decreased sharply recently.

56Equities: Li idit





Asia Pacific IPOsChart 87


Asia Pacific IPOsChart 86


6000

5000

10000

15000

20000

25000

30000IPOs (amounts)

S&P 500

500

50

100

150

200

250

300

350IPOs (number)

MSCI Asia Pacific

The number of IPOs in Asia Pacific is neither high nor low (Chart 86) but we also had some sizable one earlier this year (Chart 87).

57Equities: Liq idit





Asia Pacific SecondariesChart 89


Asia Pacific SecondariesChart 88


500

50

100

150

200


MSCI Asia Pacific

500

5000

10000

15000

20000

25000

30000

35000

40000

45000


MSCI Asia Pacific

We are seeing less secondaries after an historic pick at the end of last year and earlier this year (Chart 88).

Looking at the amount raised (Chart 89) there is also little doubt than managements did not think the market were as cheap many thought.






Foreigners like to bash the US but they have an incredible propensity to buy US equities near cyclical tops (Chart 90).

With regard to short interest, we have long said that while large cap shorts tend to be “dumb money” on aggregate, small caps shorts tend to be

better informed… The spreads between small and large cap short interest as a percentage of has been high recently (Chart 91).

Short Interest as a Percent of FloatChart 91

Source: Clue6

Foreigners US Equity Net BuyingChart 90

Source: Clue6

-20

30

80

130

180

50

100

200

400

800

1600Foreigners US Equity Net Buying

S&P 500

2.5

3

3.5

4

4.5

5

5.5

3.5

4.5

5.5

6.5

7.5

8.5

9.5

Difference (rhs)

S&P 600 Short Interest as a % of Float

S&P 500 Short Interest as a % of Float

Equities: Liquidity 59





Money market funds assets have stabilized but have yet to shoot up like they have at the tail end of previous cyclical bear markets (but this time

with 2 years yields where they are, the increase is likely to be less important).

Source: Clue6

600

1200

10%

15%

20%

25%

30%

35%

40%

45%

50%

Money Market Fund Assets to Market Cap Ratio S&P 500






The NYSE margin debt has decreased somewhat but remains at its 2007 highs as a % of market cap (Chart 92) . It remains well below the

1929 highs but those levels will probably never be seen again.

Japan short selling activity has increased significantly in the past 6 months (Chart 93).

Topix and Relative Short Sale VolumeChart 93S&P 500 and NYSE Margin debtChart 92


15

17

19

21

23

25

27

29

31

33

35

650

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850

900

950

1000

1050

Japan Short Sales Volume Relative (rhs) Topix

0

50,000

100,000

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200,000

250,000

300,000

350,000

400,000

450,000

400

800

1600

NYSE Margin Debt (rhs) S&P 500

1.00

1.20

1.40

1.60

1.80

2.00

2.20

2.40

600

700

800

900

1000

1100

1200

1300

1400

1500

1600 NYSE Margin Debt (rhs) S&P500






Short selling in Hong-Kong is has been persistently high in the past 4 months. This is typical of cyclical bear markets.

One should except a bear market rally (cover short at least) when one see a relative spike. A way to look for this is use a short-term stochastic of

the short selling turnover ratio.

Source: Clue6

5000

10000

20000

-1

1

3

5

7

9

11

13

15

Short Selling Turnover Rat io H ang Seng






The above 2 graphs are well-known for those who have been reading our research for a long-time.

We believe that the long-term flows into and out of assets (the relative buying/selling urgency to be more precise as they are no money getting in

or out of the market… for each buyer there is a seller and vice-versa) have a demographic root… It affects the assets relative value and can be best

seen on the secular trends in normalized valuation ratios.

In the US, one should not be surprised by the net outflows from equities into bonds, this is what should happen (Chart 94) while in Japan we should

see the reverse (Chart 95)…

Japanese Middle to Young Cohort and Equity Funds

AssetsChart 95

Source: ICI, Census Bureau, Clue6

US Middle to Young Cohort and Equity Funds AssetsChart 94

Source: BOJ, Japanese National Institute of Population and Social Security Research, Clue6






On chart 96 you can see the countries which have the most positive demographic dynamic according to the Middle to Young Cohort hypothesis…

But should not only the “Middle to Young Cohort” but the absolute growth of the middle age population (Chart 97).

Combining both, one see that the picture is somewhat less bullish than it seems for Japan, Spain, Poland, Portugal and Greece

Middle Age Population Growth ForecastChart 97

Source: Census Bureau, Clue6

Chart 96


Most Bullish Middle to Young Cohort for

the Next 5 Years






On chart 98 one can see the countries with the most bearish demographic configuration according to the Middle to Young Cohort hypothesis.

The middle age dynamic of those countries is presented on chart 99.

Middle Age Population Growth ForecastChart 99


Chart 98


Most Bearish Middle to Young Cohort for

the Next 5 Years






We can only repeat again and again and again…Pension, both private and public, are an accident waiting to happen (well happening we would say)…

In the past 12 months the funding status has declined sharply to 75% (60% according to Tower Watson which compile a broader index). The deficit is now at usd

404 bio. To give an idea if assets where to rise 6.1% (200 bps below median asset return expectation), the funding status would decrease by a further usd 7 bio. If discount rate were to decrease 25 bps from the current 4.53% level the funding status will decrease by usd 52 bio. This year the discount rate has fallen by 102

basis points, increasing liabilitiesby almost 17% (220 bio) while assets have increasedby 2.3%

In 2009 the “Pension Protection Act of 2006” was temporary suspended. Companies with a funding status inferior to 80% have to get back to 94% in seven years.

That’s usd 400 bio (70% of ttm earnings or circa 10% a year) for the S&P 500 companies to amortize, ceteris paribus.

As an aside look at the Chart 101 and see the funds allocation (BEA numbers put equity % holding to just below 60%) and the expected return assumption. If

they return less than this their fund becomes more underfunded… 8.1%... Good luck.

Pension Funds Asset AllocationChart 101US Pension Funds Funding StatusChart 100

Source: Milliman, Clue6

60

70

80

90

100

110

120

130

140

400

800

1600

Milliman 100 Pension Fund Index S&P 500






On Chart 102 and 103 one can see the asset allocation and payment type of a selection of OECD countries.

Spot the worst ones

OECD Pension Fund PaymentsChart 103OECD Pension Fund AllocationChart 102

Source: Milliman, Clue60% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%

United States

Finland

Australia (2)

Chile

BelgiumPoland

Norway

Canada (3)

Austria

Turkey

Portugal

Netherlands (p)

Iceland

Mexico

Denmark

Hungary

Spain

Italy (4)

Japan (5)

IsraelGermany (6)

Estonia (7)

Greece

Slovenia

Slovak Republic

Czech Republic

Korea (8)

Equities Bills and bonds Cash and deposit Other (1)

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 1 00%

Chile

Czech Republic

Greece

Hungary

Poland

Slovak Republic

Denmark

Italy

Australia

Mexico

New Zealand

Turkey

United States

Israel

Korea

IcelandPortugal

Canada

Finland

Norway

Germany (1)

Def in ed con tr ibu tion Define d b en ef it Hyb rid/ Mixed






Future retirees will not get what they were promised… when they will realize, they will see that they have massively under saved (and we would

say that the situation is dearest in many European countries…). This will serve as a wake up call for younger generations.

We have written on this in the past and will in the future…

Pension Funds Funded RatioChart 105

Source: Towers Watson

Pension Funds

Investment ReturnsChart 104

Pension Funds Liability Growth

Source: Towers Watson






Liquidity momentumhas a slight tendency to lead markets, and this should be especially true given in the current environment…

M2 momentum was supportive when using a 8 weeks rate of change (Chart 106).

Fed Treasury Custody Holding growth has turned negative (Chart 107). When the weeks rate of change turns negative, bad news are likely to pop up shortly

after (Lat Am debt crisis in 80’s, US S&L, Mexico, Asia, TMT, Great Recession afterwards…).

Note that emerging markets foreign reserve holding have been increasing much more rapidly than what the US current account deficit would have implied before

the recent decline. This means that massive short USD position are being build through the speculative inflows. Demand for USD will return with a vengeance

when it is least expected.

MSCI World and Fed Treasury Custody Rate of ChangeChart 107

Source: Clue6

S&P 500 and M2 MomentumChart 106

Source: Clue6

600

700

800

900

1000

1100

1200

1300

1400

1500

1600

-1.0%

0.0%

1.0%

2.0%

3.0%

4.0%

M2 8 weeks ROC S&P 500

150

300

600

1200

-5.0%

-3.0%

-1.0%

1.0%

3.0%

5.0%

7.0%

Fed Treasury Custody Holding 12 Weeks ROC MSCI World (rhs)






We have written a couple of special updates on Fed’s Permanent Open Markets Operations (POMO) since the Spring of 2008.

Some stats are revealing. Since 2005, when there has been 0 POMO operation in the past 20 business days the S&P 500 has fallen by a total of 19%

(median rise of 0.02% on those days), when there were at least 3 it has risen by 29%, (median rise of 0.08% on those days) when more than 5 by 45%

(median rise of 0.15% on those days)and more than 5 by 39.16% (median rise of 0.17% on those days) (all stats from F. Hogelucht).

On chart 108 one can see the relationship between the Fed Treasuries holding (a proxy for POMO’s) and equities (same configuration for other risky

assets).

S&P 500 and Fed Treasuries Outright HoldingChart 108

Source: Clue6

600

1200

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850,000

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Fed Tr easu ries Held Out righ t S&P 500

Equities: Seasonality – President Cycle and Monthly Seasonality 70




Equities: Seasonality President Cycle and Monthly Seasonality 70

The four year Presidential cycle (Chart 109) has been distorted by the huge fiscal and monetary stimuli of 2009-2010. The rational behind thepresidential cycle theory is that public money is spend to optimize the chance of the incumbent(s) to be reelected and that is followed by some pay

back for the market (see following page). Historically, we are entering the second best year of the cycle, but also the most volatile.

The market has a tended to put a top early in January in the past few years (Chart 110).

Source: Clue6

US Four Year Presidential Cycle (S&P 500 Total

Return since 1927)Chart 109 US Monthly Return (S&P 500 Total Return since 1944)Chart 110

Source: Clue6

Equities: Seasonality – President Cycle 71




Equities: Seasonality President Cycle

The following graph, courtesy of the always insightful Ned Davis Research outfit, clearly show the political forces behind the Presidential

cycle.

Source: Ned Davis

Equities: Seasonality – Sell in May and … 72




qu t es: Seaso a ty Se ay a d …

We are now in the positive half of the year (Chart 111 and 112) and our “sell in may” seasonal quant models (where the switch is not based

solely on a date but we want a technical confirmation during a given time-window) is on buy since the first week of October.

Average Return MSCI Indices 1970-1998Chart 111 Average Return MSCI EM Indices 1970-1998Chart 112

Source: The Halloween Indicator, S. BoumanSource: The Halloween Indicator, S. Bouman

Equities: Seasonality – End of Month Anomaly 73




q y y

The day of the month continue to exhibit its historical pattern in the

US and Japan (Chart 113 and 114) (the same is true for most markets as

showed previously).

In the US the first day of the month which was the stand out winner in

the past couple of years has been very performing very badly recently,

this is good news. Remember that for something with a strong rationale

to work in the long-term, it has to fail miserably form time to time to

ensure that not to much money tries to profit from it. The 8 positive days

continue to display an outstanding performance in Japan.

US Day of the Month (S&P 500 Total Return since 1944Chart 113 Japan Day of the Month (Topix Total Return since 1979Chart 114

Source: Macquarie

Source: Clue6

1

2

4

8

16

32

64

128

256

512

1,024

2,048

4,096

-4, +4 -11-5 SPX TR

Source: Clue6

1,000

2,000

-4, +4 -11-5 SPX TR

175

350

700

1,400

2,800

5,600

-4, +4 -11-5 TPX TR

Equities: Seasonality – President Cycle and Monthly Seasonality 74




q y y y y

The lat 40 weeks cycle low came during the first week of October, a couple of week early (Chart 115). The next bottom should be at the end of February for the 20 weeks cycle and late June for the next 40 weeks cycle. Remember that we never used the 20 and 40 weeks cycle in a static

ways but we found it an useful way to get a feel of the market rhythm.

Looking at the Japanese market factor biorythm from Daiwa (Chart 116) one can see that the market was expected to form a bottom around

June and embark into a multi year bull market.

Source: Clue6

NYSE Composite and the 20 and 40 Weeks CyclesChart 115 Topix and Factor BiorythmChart 116

Source: Daiwa3,000

4,000

5,000

6,000

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8,000

9,000

10,000

11,000

12,000

0

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4

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8

10

12

14

16

18

20

20 Weeks Cycle 40 Weeks Cycle

Equities: Seasonality – Cycles 75




q y y

Chart 117, courtesy of B. Bronson, has been used in the past to depict the relative assets movement during the Long Cycle (Kondratiev wave).

Many analysts have tried to define this cycle by applying a fixed number of years but, as we have long said, we think that this is more of a generational

cycle of leveraging and deleveraging (was visible on price up to the creation of the Fed and on money velocity since then…). People who were young in

the 30’s were allergic to borrowing during all their life, organizing parties to celebrate their final mortgage payment… The same might (should) slowly

happening now in the developed world (it will likely accelerate in the coming years when the weak foundation of the current upswing will become clear

to all…)

The Autumn Season is the harbor of the biggest bubbles (1929 and 2007), stocks valuation are rising while interest rates falls from a high level. What

could we ask for more… It is followed by the Winter where interest rates and stocks valuations become highly correlated, both falling…

Super Cycle Economic SeasonsChart 117

Source: Clue6 Source: Bronson Capital Market Research

76Equities: Intermarket




q

We have argued since 2000 that the equity markets would increasingly be correlated with the macro cycle. Indeed, while an expansion in the

valuation ratios dampened the corrections when the macro cycle was impacting profit, no such “expansion in a downturn” would occur for many years tocome.

While macro data surprise is now back to levels were the macro data has started to surprise negatively (Chart 118).

The best time (and hardest time) to be invested is when the ISM manufacturing index is below 50 and just starting to rise. The worst time is when it is

above 50 and declining (Chart 119), just as now.

ISM and Assets PerformanceChart 119S&P 500 and Citigroup US Macro Surprise IndexChart 118

Source: ML, Clue6

Source: Citigroup, Clue6

Table 1

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1600

1800Citigroup US Macro Surprise Index (rhs) S&P 500





q

The ECRI weekly leading indicator year on year rate of change is strongly negative.

The ECRI chief economist Lakshman Achuthan is now predicting a recession. We encourage all of those exited by the recent better macro data to

have a look at the following interview (http://www.businesscycle.com/news_events/event_details/1492). If we had to find a symbol of today’s

investor way to analyze the markets (short-terminism) and the very low intellect of some TV anchors here YOU HAVE IT ALL.

50

100

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1600

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60

70

80

90

100

110

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130

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150

ECRI Weekly Leading Indicator S&P 500





q

With regard to our late June call of an incoming recession early 2012 in the US, Europe, Japan, Brazil, India, Eastern Europe and a potential fall out

in China (we know it will happen but the timing is extremely hard so we do not try to forecast this one)., we maintain it

Nothing has really changed since and if they have it is for the worse.

We try to forecast a recession, not what is going on now. Why all this obsession with lagging and at best, coincident indicators?





q

In our macro notes we have insisted a lot on the nature of the current macro environment and the importance of the monetary and fiscal policies. As

one can see from the above graphs, markets are not going to like the inevitable future tightening .

Good macro data might soon start to be a reason for sell-off as they increase the risk/chance of punchbowl withdrawing. Remember that when

this happen you will really have to worry when bad news are also met by sell off. When bad news is taking as such when the business cycle is

long on its tooth is something one see at the onset of a cyclical bear market. It feels we have entered this phase In June.

Source: Morgan Stanely





q

Commercial papers yield have been flat in the US and been rising in Europe in the past 12 months (but declining in the past 2-3 months)

(Chart 120). Norman Fosback in the 70’s and M. Zweig in the 80’s showed that it was not a good omen for the markets when they were rising. Our

own experience and derived models are confirming their findings.

The US and Euro Libor-OIS Spreads divergence has corrected somewhat, with the spread rising steadily in the US(Chart 121).

US and EUR Libor-OIS SpreadsChart 121US and EUR 30 Days Commercial Paper YieldChart 120


0

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6.0US 30 Days Commercial Paper

EURO 30 Days Commercial Paper

0

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US Libor-OIS Spread EUR Libor-OIS Spread (rhs)





qS&P 500 And ABX AAA 6-2

Ten years breakeven inflation has stabilized at around 2%.

600

1200

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1

1

2

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3

3

US 10 Years Breakeven S&P 500





While main street has been less and less volatile during the past 50 years (well up to 3 years ago) thanks to the decreasing correlation of the

various components of GDP growth, financial markets and their increasing influence of main street are ensuring that this will be a thing of the past.

Cross assets (Chart 122) and indices (123) correlation remains extremely high, in combination with falling implied volatility, this is a receipt

for a disaster as trades are probably more crowded that what is believed by market participants which are looking only at a small numbers

of risk factors. This is an environment which has preceded some of the most notorious “black swans” of the past 50 years.

Diversification won’t work in the next downturn either… Cash will be THE KING.

S&P 500 and Other US Indices Average 52

Weeks CorrelationChart 123

Source: Clue6

S&P 500 and Assets Average 52

Weeks CorrelationChart 122

Source: Clue6

-50%

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-10%

0%

10%

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70%

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80%

85%

90%

95%

100%





Global defensives have been performing well globally and in the US (Chart 124-125). Note that the outperformance started while the overall

markets were still rising in May-June.

We continue to recommend a style allocation toward high quality only. Quality will outperform the broader markets by 5-8% in the coming 3-5

years. Note that small caps are likely to underperform the large cap indices by a similar margin. So owning large cap quality stocks hedged with a

basket of pricey small cap stocks with low return on invested capital is expected to produce 10-12% annually in the next 4-5 years . If one

only hedge when the cyclical models are negative or like in the current situation where almost all our indicators are pointing toward a

correction/consolidation, one could make >20% a year and sleep very well at night

S&P 500 and US Defensive Relative PerformanceChart 125S&P 500 and World Defensive Relative PerformanceChart 124

Source: Clue6 Source: Clue6

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World Defensive Rela tive Performance S&P 500

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US Defensive Relat ive Performance S&P 500

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0.8





The Nasdaq Composite has been underperforming the S&P 500 in the past 2 months (Chart 126) which is, on average, not supportive for theoverall market.

The same is true for the Philadelphia Semiconductor index which has underperformed since early June (Chart 127). Semiconductor stocks

have tended to bottom several months before the market does at cyclical bottoms.

S&P 500 and Philadelphia Semiconductor

Index Relative PerformanceChart 127

Source: Clue6

S&P 500 and Nasdaq Composite Relative PerformanceChart 126

Source: Clue6

600

1200

1.6

1.7

1.8

1.9

2.0

2.1

2.2

N asd aq 100 Relative Perf ormance S&P 500

600

1200

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SOX Relative Performance S&P 500





Banks have been continuing to underperform in the US (Chart 128). The sector relative performance will be a key to understand how the new

wave of mortgages reset, the potential end of central bank accommodation and new accounting rules could affect the rest of the market.

High yield bonds are not in sync with the equity markets (Chart 129) as are investment grade 5 years CDS indices .

Chart 128S&P 500 and the KBW Bank Index

Relative Performance

S&P 500 and iShares iBoxx $ High Yield

Corporate Bond Fund Net Asset ValueChart 129


600

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HYG NAV S&P 500

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Invest ment Grade5YCDS Gener ic S&P500

600

1200

0

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BKX Relative Performance S&P 500

Equities: Intermarket – US10 Years Govies against Stocks 86




We have long argued that one the characteristics of the current structural bear market (and we are talking US, Europe and Japan here...) wasthe positive correlation between stocks and government bond yields.

But one has also to take into account the fact that while they are positively correlated, when yields have risen too much too quickly the stocks will

struggle. The sequence is usually rising rate, acceleration to the upside, yield starting to fall just before stocks do it to…

S&P 500 and US 10 Years Treasury BondsChart 131


Blue area indicates when the momentumin 10 years government bond yield is

positive. In this period, stocks performed

when the momentum was negative.

Chart 130 S&P 500 and US 10 Years Treasury Bonds

0

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S&P 500

Blue area indicates when the momentum

in 10 years government bond yield is

positive. In this period, stocks performedwhen the momentum was positive.

Equities: Intermarket 87




A rising USD has rarely been a positive for emerging markets (Chart 132). Funding of emerging markets dependant of European financial

institution, US investor obsessed, rightly, by the prospect of EM growth should start to get more interested by the European problems. They won’tbe contained despite T. Geithner promised. As we have said since the Q4 2010 presentation, one should keep an eye on emerging markets (India,

China, Brazil, Indonesia and Eastern Europe) where past tightening will induce a sharper slowdown than currently expected. This will have

important consequence on global growth as they were the motors of DM recent growth, along fiscal stimuli and Central Banks easing..

On Chart 133 one ca see that emerging markets spreads have turned up.

Source: Clue6

Chart 132 MSCI Emerging Markets and Dollar Index S&P 500 and Sovereign CDSChart 133

200

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1600

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3

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8

ML USD EM Sovereign Plus Spread MSCI Emerging Market


128

256

512

1024

2048

70

80

90

100

110

120

D ollar I nd ex (lhs) MSCI Emerging M arket

Equities: Intermarket 88




If the Hungarian, Mexican, Polish and Turkish CDS spreads started to widen significantly here, this would be really bad (Chart 134) Here is a repeat from September 2010

presentation:

“some of the countries you should have a particular look at, besides the usual suspect we have identified in the past 15 months, and where we expect the CDS spreads to bemuch higher during the next 12-18 months). Germany spreads widening will be the consequence of the French spreads widening following Spain potential debacle. In a not so

distant future they will be speculations that France could be the next one. For the UK we would be surprised if they were not to ask for the IMF help if they do not sharply

devalue the Pound to very undervalued levels (below parity against the USD) but even then they might need an helping hand (if the helping hand still has money…). We have

made the case against the Australian economic miracle in a ad-hoc note in April so we won’t come back here. This is impossible, right…”

Another spread we would play is Sweden against Norway. Sweden is an accident waiting to happen (despite M. Borg and the new center-right coalition fantastic reforms of the

past 5 years). The housing markets is one of the most overvalued in the world with banks lending with 100% loan to value (or more), households are highly leveraged, banks

have a lots of non SEK based short term liabilities and the country is very dependent on exports. While the budget is currently well balanced and the debt level (ex households)

is relatively low, this could (will) change very quickly when banks start to be squeezed.

Source: Clue6 Source: Bloomberg, Clue6

Chart 134 S&P 500 and Sovereign CDS Sovereign CDSChart 135

-5

45

95

145

195FRA/NOR Spreads GER/NOR Spreads AUS/NOR Spreads

UK/NOR Spreads SWE/NOR Spreads

600

1200

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640

1,280

2,560

S&P 500 Greece Turkey Hungary Poland Mexico

89Equities: Pattern




We are now in an environment where the S&P 500 will struggle to stay 4-5% above its 50 days moving average (Chart 136 and 137).

Source: Clue6

Chart 136

Source: Clue6

S&P 500 Deviation from 50

Days Moving Average

S&P 500 Deviation from 50 Days

Moving AverageChart 137

50

250

450

650

850

1050

1250

1450

1650

-10%

-8%

-6%

-4%

-2%

0%

2%

4%

6%

8%

10%Deviation from 50 d ays Moving Average

S&P 500

Equities: Pattern 90




The Coppock curve has made a lower high without having fallen below 0 in between.

This pattern was already identified in the 60’s by Don Hahn and was named “killer wave”.

No sustained bottoms should be expected before the curve fall below 0 and turn back up.

5

10

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80

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320

640

1280

-150

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150

Coppock Curve S&P 500

91Equities: Graphs




The S&P 500 has behaved mostly as expected in the past few months. We are almost certainly in a cyclical bear market and prices are heading much lower before a new sustained

up swing.

The index was unable to break its 200 days moving average and, more importantly, a large cluster of pivots resistance between 1270 and 1300.

While in the short-term a retest of the 1270 area is possible, strength should be used as a selling opportunity. We covered our net short position (but remained market risk hedged)

and entered a bullish call backspread near the November lows. It was sold on strength early December and we bought another one on 15/12.

We will use strength (or further technical deterioration) to re-enter the net short position we held in July-September and re-entered at the end of October.

Head

ShoulderShoulder

S&P 500

Shoulder

Head

Shoulder

Shoulder

Head

Shoulder

Shoulder

Head

Shoulder

Equities: Graphs 92




Europe has continued to underperform as expected.

The configuration is very similar to the US one and the 2009 lows will probably be at least tested in the next 3-12 months

Note that one should be ready to deploy cash quickly on a break up (and invest first in the PIIGS in this eventuality). One should have a list of high

quality stocks ready.

Head

Shoulder Shoulder

EuroStoxx 50

DiamondBull Trap

Shoulder

Head

Shoulder

Equities: Graph 93




While it had mixed result on the currency side, MOF intervention in the currency markets has been good to Japanese stock holders. in the last 3

intervention period (95-96, 99-00 and 03-04) the Topix has risen by 17.3%, 54.5% and 28% respectively.

Yen selling = domestic liquidity pumping. Works less well in a liquidity trap situation but still…

We expect full blown monetization by the BOJ coming in a not so distant future (12-24 months). We have explained the rationale in previous update

so…

700

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MOF Interventions Topix

94Equities: Graphs




The March low have been broken and the Topix is testing its 2009 lows. The H&S target is 600 (for what it is worth…)

The key here will be the Yen. We think it will weaken on renewed intervention before crashing to >150 and higher when the BOJ start a full non-

sterelized monetization of the domestic debt.

On a relative basis, we advise to be long Japan (Yen hedged) and short the rest of the world. A basket of high quality small and large cap stock in

Japan is likely to reward investor handsomely in the future (even if we believe this basket can probably be bought at an even bigger discount to

intrisic value in the next 3-12 months)

Head

Shoulder Shoulder

Topix

Equities: Graphs 95




Continues to move in a well defined down sloping channel.

Very heavy resistance at the 420-440 level which could be retested in the short-term before the down move resume.

Some analyst are talking about a potential inversed H&S in formation since early August. True but we would need a breakout above 440 for the pattern target to

be triggered and even if it does it is likely to be a magnificent bull trap.

Diamond Continuation

MSCI Asia ex-Japan

Shoulder

Head

Shoulder

96Equities: Graphs




Same analysis as for Asia ex-Japan.

Hard to spot the slightest difference in the charts in the past 3-4 months

MSCI EM Latin America

Shoulder

Head

Shoulder


97Equities: Graphs




A repeat from our quarterlies since the start of this year:

“There is no way Eastern Europe will not be the main victim of what is happening now in the Euro zone. If the guy who finance you and who you sell what you produce too is

having a rough time, you will too, especially if you lived above your means thanks to those big loans. People will also soon realize that the Baltic States, Bulgaria and other

internal devaluation will end up as a failure (they are currently praised as an example of success).

Do not forget to pick some of the dominoes falling by contagion… there are plenty of good things in the Czech Republic for example…”

MSCI Eastern Europe


Head

ShoulderShoulder

98Equities: Conclusion




Markets have probably entered a new cyclical bear market. Our cyclical models are giving sell signals since June/July while leverage

reached at that time levels typical of cyclical market turns. Bear market rally are to be expected from time to time and we will do our best to

participate (mainly by cutting our net short position and using bullish call backspread further financed by out of the money put sold on our hedges as

we have in the past. We will be more aggressive on the put financing side when the markets fall below their intrinsic value). We have successfully

timed a couple of those rallies since the August top and are expecting one to start soon and last for a couple of weeks (top in early January).

Determining the cycle is not only crucial to avoid betting against the trend but because indicators, be it

sentiment, breadth, liquidity or cycles should be analyzed differently.

Overbought/oversold in a bear markets is not the same as in a bull markets (both the levels and how the markets react), sentiment

indicators boundaries (optimism/pessimism) change as does how cycles translate. In a bull markets you have trend followers working for

you (if you are a bull) while they are working against you in a bear market. Fundamental value investors are only working for you at the

later stage of a bear markets, waiting for valuations to be attractive (or more).

Investors surveys have corrected from the excessive optimism they were displaying in the May-July period but have rebounded to levels which are

high in the current cyclical context. Hedge Funds have lowered their high leverage (gross positions) and their net long exposure but both remain

high historically.

Option indicators are mixed. The CBOE equity put call ratios printed high readings a couple of days ago but the moving averages are

neutral at best. The OEX PC ratio has experienced new bearish "above 2“ readings recently. Its open interest put call ratio has fallen but remains

much higher than its typical level at the end of cyclical bear markets. At the retail levels, we are seeing 51% of the activity concentrated in bearish

strategies. The buy to open put call ratio is relatively high but usually go much higher in cyclical bear markets. Few puts are bought to open while

many are sold to open. There are no fears of waterfall declines. Skews have corrected somewhat.

Insiders activity has deteriorated markedly in the past few weeks. We had net buying in the US during the last week of August but those days are

now gone. The Canadian buy to sell ratio has fallen back close to its 2007 lows. We are seeing more companies buying stocks than selling in Europe

with a big spike 2 months ago.

Our preferred “market timers” are now both defensively positionned.. The best value managers have continued to reduce their net long

exposure to the market indicating that the markets will have to fall more before we see fundamentalists buying from the technical traders.





Speculators have accumulated a large net short Nasdaq 100 future position. European sell side analysts are very bullish while US strategists

have maintained their equity allocation recommendation near its cyclical high.

Leveraged bullish funds as a percentage of total at Rydex is back to “too high” .

The VIX time-spread, while lower than between August 2010 and April 2011 is again very high while non-commercials are net long the VIX

future. We will use the potential short-term rebound to build a call backspread on the VIX as we did in June-August. The curve should flatten a bit

before and we might be able to get >20* payout for January of February expiry.

Breadth volatility continues to be very high. It is currently hard to give as much weight as we usually do to this area. The positives are that we

have seen some clusters of breadth thrusts in the past 2 months. The negatives are that our Nasdaq new highs-lows model is on sell since June, the

McClellan oscillator is diverging negatively and failed to diverge positively at the October bottom. Selling pressure has increased in the past 19

months. And now even Lowry's Research , THE reference with regard to breadth analysis, agrees. Our short-term top warning models have yet

to display worrying divergences between the % of stocks above short-term moving average and their respective indices just before the recent

correction started and are now slowly reaching levels where a short-term rebound has to be expected. Dispersion has increased and we had anunconfirmed Hindenburg Omen in the US a week ago.

On the liquidity side, net outflows in US domestic and developed markets equity funds have increased sharply. Net inflows into emerging markets

have moderated even if we saw some big inflows a couple of weeks ago. The cash ratio are low everywhere and does not leave much dry powder

to managers. Net redemption will have to be met by selling current holdings. Money market funds as a percentage of aggregate market capitalization

continues to decrease rapidly. The number of buybacks has increased in the US and reached historical highs in Europe and Asia Pacific while it

remains low in Japan. In most markets we are seeing less IPOs and secondary offerings but the amount raised between the end of 2010 and

May 2011 are typical of bull markets top.

Foreigners are continuing to buy a lots of US equities. The small caps short interest ratio relative to large cap remains relatively high whichis a negative. Short selling in Japan has moved out of deep panic. Margin debt has corrected somewhat in the US but remains at the 2007

levels relative to overall market capitalization.

Pension funds’ funding status has deteriorated since the start of the year, courtesy of increasing liabilities (discount rate declining). This remains

one of the big, big problems the markets and retirees will have to face in the coming years.





M2 has exploded in the June-August period but is flat since (money market funds Euro financial exposure selling and fund repatriation related). Fed

Treasury custody holdings growth momentum is now negative.

Seasonals are now a tailwind. Our mechanical seasonal model is on buy since early October. The 40 cycle mad a low in early October and the next

20 weeks cycle low should be expected around the end of February. With regard to the Presidential Cycle, the election year has been the second best

(but also the most volatile) but remember that the typical fiscal and monetary cycle has been distorted and pushed forward in the past 3 years.

Average outcome highly unlikely.

Intermarket relationships are mostly negative but the fact that the correlation at the stocks, styles, index and assets level is extremely high recently

makes intermarket analysis much more tricky. The macro surprise indices is extremely high. The defensive sectors have performed relatively well

despite the recent rebound. The Nasdaq, semiconductor and bank sectors have underperformed in the past few months and the Nasdaq is too

now. Emerging market are underperforming (always worrying to see the leader in this situation when prices move higher). High yield bonds are not

diverging negatively but corporate CDS have as have ABX, CMBS indices and emerging markets sovereign spreads . Treasury bonds yields

have continued to decline.

Our cyclical models are giving sell signals one after the others but we have reached levels (for the third time after the beginning of October

and the end of November) where a partial “recapture” of the recent decline becomes highly likely.

Taking the US markets as a proxy, The S&P 500 has behaved mostly as expected in the past few months. We are almost certainly in a cyclical bear

market and prices are heading much lower before a new sustained up swing. The index was unable to break its 200 days moving average and, more

importantly, a large cluster of pivots resistance between 1270 and 1300. While in the short-term a retest of the 1270 area is possible, strength should

be used as a selling opportunity. We covered our net short position (but remained market risk hedged) and entered a bullish call backspread near the

November lows. It was sold on strength early December and we bought another one on 15/12.We will use strength (or further technical deterioration)

to re-enter the net short position we held in July-September and re-entered at the end of October and buy a new Vix call backspread.

We would continue to underweight emerging markets , Europe and small caps (US, European and emerging markets small caps could/will

underperform large caps by 3-5% yearly in the next 5-7 years) . We would overweight Japan (but hedge the currency risk) and the US. Buy high

quality (domestic-oriented) stocks (and hedge the market risk when we recommend it). Value and growth are likely to behave badly in a downturn

so value managers won't offer the decorrelated returns they offered during the 2000-2003 decline. Buy value when value dispersion is high not low

as it is now.




With regard to the macro picture, we would refer to the multiple updates we have sent in the past few months. There will be a recession in

the US, Europe and many other places. On Europe in particular we feel we are dreaming. When will the political elite understand that they

are not facing a liquidity…

GTAA Equities Q1 2012

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Transcript of GTAA Equities Q1 2012