Santa Claus Rally?

Bullish Case

At the end of the year, you often hear about the Santa Claus rally, where stocks do seasonally well in November and December. The two most important charts on this are the ones I posted last week and the week before (combined and re-posted below):

  1. Corporate buybacks. Companies often have blackout periods that prevent corporate buybacks as well as all insider trading up to a month ahead of significant earnings announcements. These can range, but most overlap as 5% of the S&P 500 companies were in blackouts early September, then it ramped to a peak of 80% in October, then it fell to less than 20% after Oct 29 and close to 0% end of November. This is an enormous amount of money that will be pushing up these shares in coming months.
  2. The seasonality of stock markets shows gains in November 100% of the time in the past 5 years. This follows seasonally weaker months of September and October.

Right now I’m leaning bullish for the next month or two based on the above.

Risks Ahead

At the same time, there are a number of risks to the economy including:

  1. Slowdown in Chinese construction following the Evergrande situation
  2. The fical cliff as consumer purchases are no longer buoyed by government stimulus
  3. Higher prices from oil and gas spikes as well as climbing housing costs divert money from discretionary spending
  4. The seemingly permanent reduction of the labor force from pre-pandemic levels
  5. The enormous inventory and shipping bottlenecks which seem increasingly likely to resolve by pushing a glut of goods on the market that consumers either won’t have the money to buy, or will arrive too late for seasonal sales and then heavily discounted to clear.

As you can see above, the labor force is certainly weak. Even if wages rise a bit, we’re still looking at 3 million less workers than the peak.

What about the high job openings? There are some interesting reasons to question the job openings data, which I heard mentioned on a podcast this week:

  1. US Companies often list jobs as a way of gathering information on the labor market demand, with no intention of filling them.
  2. US Companies know that hedge funds will search job openings at one company vs another to get an idea about relative growth. The CFOs and CEOs are keenly aware of this and they’ll often list jobs to game these numbers.
  3. Regulations often require that US Companies list jobs even when they intend to hire inside employees or source cheaper labor from abroad.

While I’m on labor, I did think about writing on the myth of sticky wages this week. Instead, I’ll just list a number of ways which I have seen wages actively decreased over the last 20 years.

  1. Replacing highly paid personnel with low-cost temporary/part time/seasonal workers. This includes:
    1. Tenured college professors replaced by adjunct professors and/or TA’s
    2. Retiring full-time librarians with high pay and pensions replaced by two part-time minimum wage employees.
  2. Laying off higher paid employees at the slightest downturn and then hiring lower wage employees to replace them. My niece saw $38/hr nurses replaced by $25/hr nurses at the Antelope Valley Hospital this way a number of years ago. Defense contractors are notorious for this behavior as well, laying off thousands of highly paid employees after a government contract expires and then hiring new grads when the next contract is signed.
  3. Reducing benefits and/or bonuses or increasing employee contributions.
  4. Reorganizing sales staff and payments. A company such as Oracle will often heavily incentivize their sales force to get new accounts, promising a portion of the account revenue every single year. 5 years later they re-organize their sales staff, either laying off their highly paid personnel or encouraging them to quit, and then re-assigning their accounts to much lower paid client reps.
  5. Simply leaving wages put while the CPI and costs of living rise year after year. I’ve had a career in the private sector, and I’ve never seen a COLA adjustment like the government employees get.

Now that I’ve pushed my case for a relatively weak labor market, what about all that massive money printing from QE? Well, my argument is that QE does not actually increase the money supply – it simply encourages debt-financed asset speculation. You’ve probably seen the charts of the fed balance sheet vs the S&P 500, but you have to admit the correlations for this one can’t be ignored:

Note that I couldn’t find any good charts on margin debt, but I was able to download the data from here: Margin Statistics | and download the S&P 500 data from Yahoo Finance with a custom time period to match. Then I used a simple line chart in Excel.

Always consider the data from a number of angles in a chart like this, no matter how compelling it looks. I am arguing that the stock market is driven by leverage, and that the margin data shows the tip of the iceberg as far as the level of leverage is concerned (only margin balances included, not other forms of leverage widely used by hedge funds). The counter-argument would be that margin debt simply reflects investor appetite, which also correlates with the moves in the S&P 500, and it would make sense to see both rise if QE left markets awash with excess liquidity (i.e. excess cash looking for a home).

Whatever the case, it’s worth noting the risks. Fortunately, we are also at a relatively good seasonal period for one of the major market hedges which is long-dated US treasury bonds:

With this chart in mind, I added to my TLT calls a bit when it was down a week and a half ago.

  • HEDGES (18.9%)
    • 17.9% TLT Calls
    • 1.0% EEM Puts
    • 8.7% AG (Silver), mainly shares & some calls
    • 5.5% SAND (Gold, Silver & others), all calls
    • 5.1% EQX (Gold), mainly calls & some shares
    • 5.0% LGDTF (Gold)
    • 4.5% SILV (Silver)
    • 3.7% SILVRF (Silver)
    • 3.8% MTA (Gold & Silver)
    • 3.1% MGMLF (Gold)
    • 2.0% RSNVF (Silver)
    • 2.2% SSVFF (Silver)
    • 2.4% HAMRF (Gold)
    • 0.8% DSVSF (Silver)
    • 1.0% WPM (Gold, Copper & Silver), all calls
    • 0.6% GOLD (Gold, Copper), all calls
  • URANIUM (13.2%)
    • 7.9% CCJ, covered calls sold on it
    • 4.1% UUUU, covered calls sold on it
    • 1.2% BQSSF
  • COPPER & NICKEL (3.5%)
    • 3.5% NOVRF
  • CANNABIS (8.5%)
    • 1.4% AYRWF
    • 1.4% CCHWF
    • 1.4% CRLBF
    • 1.4% GTBIF
    • 1.4% TCNNF
    • 1.5% TRSSF
  • CRYPTO (6.5%)
    • 3.1% ETH
    • 0.8% ADA
    • 2.6% MARA calls
  • CASH (0.5%)

It’s actually been a fairly active couple of weeks for trading for me. That often happens when prices are struggling and look like compelling buys, but my cash balance was also unusually high following the forced sales of much of my Uranium portfolio when the covered calls expired above strike. Here’s the quick breakdown:

HEDGES: I added to TLT calls as mentioned above, and left the EEM calls untouched.

PRECIOUS METALS: This is around the limit of my allocation, but there was fantastic news from Discovery Silver and the price was compelling so I initiated a position. No other changes. I am expecting a potential pullback perhaps as far as $1675 in Gold, and I’ll probably add a bit there, but you never know. I’d rather stay long and not miss the move than try to time it perfectly.

URANIUM: I’d been buying on dips and selling covered calls on rips. Last Monday I sold covered calls on everything, and then I added a bunch more on Friday at much lower prices (no covered calls sold on those yet). I like to sell slightly out-of-the money covered calls when the premiums are high just to make sure I lock in some gains. If anything, I’m more bullish than ever on this sector with the growing push for acceptance of nuclear power and the new physical Uranium fund from Kazatomprom taking the cue from Sprott on getting investors to push the spot price higher. As always, I am very picky when it comes to Uranium miners, and I like the big existing ones rather than the speculative plays … it is just extraordinarily difficult to get all of the permitting and infrastructure together when dealing with radioactive waste.

COPPER & NICKEL: I actually reduced this recently. I like copper long-term with the enormous increase in use required for everything considered ESG, but I am very wary with the slowdown of construction in China. Highrise apartments use a lot of copper, and they’re building less going forward. The latest cries of “inflation” gave me some good price points to sell.

CANNABIS: This sector has been steadily dropping all year, and I’m finding it more compelling as it does. I kept adding, which is why the allocation is higher than 2 weeks ago, and doing this by nibbling at each of the 6 names to keep their allocations relatively even – hence the very even 1.4% across the board you see above. I’m still convinced this sector will once again get high, especially if we get movement on the federal side. After all, we have fiscally conservative Democrats in charge who want to tax everything in their new stimulus plan, and I think most would be in favor of formally legalizing cannabis for the tax revenue. That being said, I don’t plan on increasing my allocation much … I’m just going to keep adding as it bleeds lower and then hold when it turns higher.

CRYPTO: I actually added a bit to Cardano this weekend, but aside from that I’m just waiting out the rise. The alt-coins have mostly been trending sideways while Bitoin and Etherium gained 50% in the last month, but they usually follow. I’m still looking for that December peak to sell into at which point I will again be out of the sector for a while.

DERECK’S TRADES: I closed out a few of these last week. So far that’s 6 names closed out for a small gain overall, but 6 more remain open. One I added recently, AMD, was purely based on the crazy high open interest in November 19 calls spread from at-the-money $120 up to $140. Risky, sure, but worth a shot at a gamma squeeze.

CASH: That brings my cash allocation to slightly positive which is generally where I like to keep it. This gives me some room to add on dips (I can tap margin if necessary), but I’m anticipating a strong November and December in which I take some profits, followed by a wary 1st quarter next year.

Good luck making sense of it all, and happy trading!

About johnonstocks

I've been trading stocks since 2003, active on Motley Fool's discussion boards and using first Hidden Gems, then Global Gains. I no longer have the newsletters, but I keep up on the WSJ and read David Rosenberg everyday at Education: CFA level 2 candidate MBA-focus in Finance, Marshall, University of Southern California - expected Dec 2010. BS Mechanical Engineering, UC San Diego, June 2002
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