Will we see a melt-up prior to the market crash everyone expects?

It’s been quite a week, with a big selloff starting on Thursday and continuing into Friday. My portfolio is actually down 7% on the week, which is quite remarkable given my heavy weighting in cash. In addition, I actually had a lucky call buying a couple of SPY puts before I drove off to the office Thursday morning, and sold them later that day for a 50% gain.

Last night I listened to David Hunter explain his calls for a 40% market melt-up followed by an 80% crash. The gist I got from it is that sentiment is too bearish for this to be a top; we need one final squeeze to get all the bearish positioning out and get the bulls excited, then we can get a blowoff top that heads lower. The downside story is the same general stuff I wrote about last week.

While the downside makes a lot more sense to me, we do have a very strong mantra about how QE is money printing, so we had lots of excess liquidity which will drive all markets higher. It seems to me that if this were remotely true, we would have much lower debt levels, and we would have seen a very different outcome from the QE programs of Japan, the Eurozone, and the Federal Reserve prior to the pandemic. However, it remains a strong enough narrative that it could give credence and conviction to feed a bullish bias into a major melt-up.

I have to admit that the melt-up scenario is still possible, despite the end-of-week selloff we saw and the rapid interest rate hikes in anticipation of the Fed. I’m not confident in that outcome, so I’m not long the major indexes, but every long position I have would gain if such a melt-up were to occur. I also don’t want to hold puts too long at the moment because it seems like everyone expects the S&P to fall. That is why my main hedge is a position in TLT calls, which would benefit in a downside move leading to another Powell Pivot, and is a very unpopular trade with all the expected rate hikes to come. Still it is a certainly a gamble, so I’m holding a hefty cash position as well.

If the melt-up scenario actually started to happen and I saw gold approach 2500 with big moves in all my mining stocks, I would sell them off. I don’t mind sitting in excess cash if I don’t like the risk/reward I see, and I don’t trust rapid moves especially in a late-cycle fed-hiking environment. Whether you think it’s likely or not, I suggest thinking through what you would do in such a scenario just so you don’t get end up missing your opportunity to claim significant gains or worse, chasing a blow-off top. There would also be a point where I’d feel comfortable getting some puts again, although I will be forever cautious betting on the downside after my experience in 2020.

As a final note, I did actually buy some stocks last week. This includes a bit more DOCN, which I see as a long-term hold in cloud computing, and more of each of my battery metal miners NOVRF, SBSW, and PGEZF. It is very tempting to buy things you consider long-term holds on the way down, but I keep telling myself I need to at least wait through the first week of May.

My base case is still that we see an enormous interest rate spike and corresponding stock market plunge during the first week of May, after the Federal Reserve has its meeting with all of its hawkish comments and an actual 50bps rate hike while the Japanese institutional buyers are on holiday so they don’t stem the selloff in US treasuries. To me, this spike will represent significant lows in TLT, and I plan to purchase a significant amount of TLT calls into it. All my holdings will likely get crushed, although I expect my miners to hold up better than the broader stock market. The Powell Pivot might be as late as Q4 but I think Q3 is more likely. Regardless, I plan to hold a hefty cash position until then and rush into Uranium miners in particular once it’s announced. This is easier said than done, as I will likely want to buy Uranium miners on weakness before then. I’m trying to convince myself to hold out for Cameco below $23 (around the 200DMA). I would also like to re-enter AG and SAND and re-build my stake in EQX, but that’s lower priority at the moment. Now is simply not the time to buy.

Here are my current positions:

  • HEDGES (10.4%)
    • 10.4% TLT Calls
    • 2.2% EQX (Gold)
    • 4.0% SILV (Silver)
    • 3.9% SILVRF (Silver)
    • 2.9% LGDTF (Gold)
    • 3.0% MTA (Gold & Silver)
    • 2.6% MGMLF (Gold)
    • 2.8% RSNVF (Silver)
    • 2.4% SSVFF (Silver)
    • 2.4% HAMRF (Gold)
    • 0.9% MMNGF
    • 0.8% DSVSF (Silver)
  • URANIUM (9.7%)
    • 1.0% UUUU
    • 1.3% UEC
    • 2.3% BQSSF
    • 1.7% DNN
    • 1.4% DNN calls
    • 1.5% ENCUF
    • 0.6% UROY
  • US CANNABIS (15.2%)
    • 1.5% AYRWF
    • 1.6% CCHWF
    • 1.9% CRLBF
    • 2.3% CURLF
    • 1.8% GTBIF
    • 2.0% TCNNF
    • 2.3% TRSSF
    • 1.9% VRNOF
    • 3.3% NOVRF
    • 1.7% SBSW
    • 1.4% PGEZF
  • CRYPTO (1.0%)
    • 1.0% XRP
  • OTHER (3.0%)
    • 2.5% DOCN (cloud computing)
    • 0.5% OGZPY
    • 0.0% ATCO calls
  • CASH (26.3%)

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 gluskinsheff.com. 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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1 Response to Will we see a melt-up prior to the market crash everyone expects?

  1. JAG says:

    Hey John,

    I think you are correct to consider the “melt-up” scenario. The big boys in the market can’t profit from a market decline if everyone is hedged and waiting for it to happen. They need to get everyone on the (bullish) side of the boat before the bear does his cannonball plunge into the drink.

    Hedges will be dirt cheap before a big decline because nobody will want them. I try to buy what is cheap (and keep buying it as it gets cheaper lol) and except for puts on UNG and XLE, there are no cheap puts out there.

    I found myself really bullish right now, not from any theory or principle, but just because bullish bets are cheap. Call options on bitcoin miners (MARA, RIOT) are very affordable and would be a great way to play a melt-up with defined risk.

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