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Monthly Archives: September 2010

Predicting the Market Close Using European Index Performance

For those of you who tune into our daily broadcast on the web, you may have heard me tracking the European market closes fairly often.  I like to pay close attention to the correlation between the U.S. and European markets, having performed a previous study, albeit informal.  The last time I looked at this study, I calculated the correlation between each of the major European indices and the S&Ps (the futures, actually) for the 2009-present and 2000-present.  Below outlines the correlation coefficients:

                               Since Jan-2009          Since Aug-2000
S&P vs. FTSE:     0.9662                           0.9164
S&P vs. DAX:       0.9495                          0.8369
S&P vs. CAC:      0.7860                           0.9196

Nothing extremely novel here.  We just see that there is in fact a big correlation between the U.S. market and European bourses.  We might even say the correlation between the two has increased since 2000.  However, today I decided to see what had happened in 2010.  At first the numbers surprised me:

                               Since Jan-2010
S&P vs. FTSE:     0.8966                            
S&P vs. DAX:       0.4534                           
S&P vs. CAC:      0.7860

There’s a significant drop in the correlation between the two regions in 2010.  Upon further breakdown by month, I saw that the culprit month was April:

But since April, we have been normalizing again.  Another interesting point is that when correlation starts to drop off, it might be foreshadowing a disconnect in how the global markets are trading, and consequently cause a sell off in one of the regions.  September’s correlation numbers show that we have dropped in correlation with European since July.  Perhaps this increased disconnect is another data point suggesting we are heading for a pull back very soon. 

I had also analyzed whether this convergence occurs closer to the U.S. market open or nearer to the close.  Taking a snapshot of where each market was trading at 10:15a EST and another at 4:15p, I found that the convergence tends to occur in the morning soon after the market open.  One thing that I’ve been noticing, especially recently, is that the S&Ps have been behaving particularly loopy during the day session.  There have been a lot of reversal patterns and fake outs.  From what I have passively been observing, when all the ups and downs have passed, the S&Ps tend to make its final move towards convergence with the European closes.  This correlation can be particularly useful for the bulls who want to see that break above resistance into a full out rally as it keeps expectations somewhat in check.  I know my analysis isn’t perfect, but just some passive observations I’ve been making lately.  So watch those European markets, especially when the U.S. market starts to print days in which there are notable reversal moves.

M&A Q3 Recap

BHP Billiton and Intel help drive M&A to the busiest quarter in two years.  In Q3 we saw $562.5 billion in announced transactions, according to Bloomberg.  BHP, Sanofi-Aventis, and Intel led the way with BHP offer Potash $40 billion, Sanofi offered GENZ $18.5 billion and Intel announced its largest acquisition, the $7.7 billion takeout of MFE.

There is also potential for big deals down the road.  Oracle Corp. said last week it’s seeking to purchase chipmakers and ex­tend its push into computer hardware, while Procter & Gamble Co. Chief Executive Of­ficer Bob McDonald said this month his company is on the lookout for brands with international appeal. Oracle has been rumored to be looking at NVIDIA and AMD.

Peter Weinberg, partner and co-founder of Parella Weinberg Partners expects M&A to be most robust in financial services, technology, and natural resources.  Jeffrey Raich of Moelis & Co. thinks we could see takeouts accelerate later this year as firms race to sell assets ahead of possible tax changes in the U.S.

Hostile vs. Friendly

The volume of hostile takeovers has soared in 2010 mostly due to BHP for POT which would result in the fourth largest hostile of all time. 

Deals by Sector

Energy was far and away the dominant sector for Q3 M&A at almost 20%, here’s a chart to look at the breakdown.

Deals by Region

Trading Plan Continued: Rules for Trading

Today I continued on my quest to outline a comprehensive plan for my trading.  Once this document has been completed it will be posted to the website; hopefully our members can benefit from the knowledge I have gleaned in my short, yet dense career.  The excerpt below is from a section that outlines several cardinal rules for trading.

1.1.    Plan every trade: Before executing a trade, know exactly what prices you plan to enter and exit.  Know exactly how much money you are trying to make for every trade and how much money you are willing to lose.  Properly planning a trade and executing within the parameters of that plan demonstrate discipline, the most important quality for a trader to possess.  Remember, he who fails to plan plans to fail.

1.2.    Always trade according to the pivot signal: When trading to the long side, the equity must be on an S3 or R4 buy signal.  When trading to the short side, the equity must be on an R3 or S4 sell signal.  If you are trading on a signal, you should stop out as soon as the opposite signal is confirmed.

1.3.    Every trade must have a risk to reward of at least 2 to 1: Knowing your risk to reward ratio is an important part of rule number 1, planning your trade.  By achieving a risk to reward of 2 to 1 or greater on every trade, over time you will be able to be profitable by keeping your winning trades greater than your losing trades.  Remember, your risk to reward is greatest the nearer you are to your stop and least the nearer you are to your exit point.

1.4.    Space out your entries: By spreading your entries over a greater price range, you will be able to improve your average cost and maximize your risk to reward ratio.  Sometimes, traders are tempted to build into large positions quickly believing that they are right.  The market has a tendency for inflicting the maximum amount of pain and will almost always squeeze these traders out of a winning trade because they are forced to cut their positions to limit P&L losses.  By spreading orders, you avoid this pain when the trade is working against you and maximize your winnings when the trade eventually moves in your favor.

1.5.    Stick to your stops: If you follow rules one through three, you will always have a chosen stop out price.  Remember that this price was chosen for a reason and falls within the guise of your plan.  Changing your stop once it has been set shows lack of discipline and will almost always lead to failure.  If you believe that you are being stopped out too frequently, consider revising the way you plan your trades rather than changing your plan once it has been set.

1.6.    Be aware of external forces: Before entering a trade, be aware of any external forces that may cause the trade to behave in an unexpected manner.  These forces include economic numbers, earnings reports, M&A activity, major news, and unexpected exogenous factors.  When planning a trade, be aware of these forces and be prepared in the event of an unexpected shock.

Premarket Strength, Sign of Strong Day in the Market Ahead?


Morning Notes

-       Overnight trading skewed to the downside

-       Japan PMI came in weak, falling for the first time since June 2009

-       Other data from Japan also came in weak including Industrial Production, Retail Sales, Retail trade figures

-       Yen still strong

-       All this pushed Nikkei down ~2%

-       However, Shanghai showed decent strength, up ~1.7%, with strength attributed to China’s govt loosening measures to tighten real estate mkt

-       European mkts down small

-       In Ireland, AIB bail out would be as much as 34.3B EUR (at worst) and AIB needs to raise capital

-       Spain downgraded by Moody’s this AM (was somewhat expected): euro sold off on news, but has since recovered

-       German unemployment rate came in in line for month of September, perceived well by the street

-       Initial Jobless Claims: 453K vs. 460K; prior revised up to 469K from 465K

-       Continuing Claims: 4.457M vs. 4.470M

-       Futures pushing higher off data release

-       Q2 GDP: 1.7%, up from 1.6%

-       Core PCE q/q: 1.0%, down from 1.1%

-       Premarket strength may be a good sign of strong day in the market ahead

The Magical E-Book That Will Get Your Kids To Read More

An article out in Reuters today highlighted a study that suggests that unlike other mobile tech devices like cell phones and portable gaming devices,  e-books may bring kids to engage in more educational activities like reading.  The widespread concerns of parents who believe that all these tech developments for mobile devices and increased access to the Internet will rot their children’s brains, basically.  And I think these worries are completely legitimate.  I know kids will come up with a million excuses as to why mobile devices won’t detract from more mind enhancing activities, but let’s face it- at the end of the day, all kids want to do is play.  Parents rightfully are concerned that their children will, as a result of the increasingly popularity of mobile devices and other personal tech gadgets, end up spending less time with family, or reading.

In a study by Scholastic and Harrison Group in which 1,000 children and parents were surveyed, 40% of parents responded that “time spent online or on mobile devices would reduce time for books or engaging in physical activities” (Reuters article).  33% of parents expressed concerns over cut backs on family time.  Meanwhile, when the children were surveyed, they seemed to express willingness to read more with greater access to e-books.  The following chart displays the children’s survey results:

The number the study focuses on appears to be that 1/3 population of children who said they would read more books for fun should e-books become more readily available to them.  The Chief Academic Officer of Scholastic stated that e-books can prove to serve a crucial role in education for kids.

My skepticism (of which I possess too much, I know) lies in first and foremost the fact that kids are answering the survey questions.  I cannot give much credence to their responses as what they claim, or truly think, to do may be far from the case.  They may think they will read more, especially given this “oh so cool” new gadget that could replace physical books, but in reality, reading is reading, no matter the medium.  Simply moving from physical books to e-books won’t change the frequency of reading for kids.  On what grounds could that claim possibly be validated?  Kids get attached to mobile devices because the content on there is addicting, for entertainment purposes.  Get literature (which is perceived as less fun) on there, and I guarantee you children won’t be as drawn.  Bottom line: kids being attached to the Internet and mobile gadgets won’t translate to them getting addicted to e-book readers.

How to Outperform the Market

Today was a banner day for the firm as our P&L closed up over $50,000 with the S&P finishing down two handles.  To put this in perspective, last Friday our P&L topped $50,000; however, the futures were up over 20 handles.  This feat was a combination of several factors coming together to create the perfect storm of P&L.  First, our trading of the hedge was spot on.  In the overnight session we laid out 15 contracts between 1144 and 1147 and were lifted on all but two futures.  This allowed us to begin our day up $8,000 in the hedge book with the futures flat.  Furthermore, we were able to cover a number of contracts near S3, which happened to be the lows of the morning.  This created several thousand dollars of additional alpha. Next, the names in our portfolio finally performed in the manner we had been expecting.  Some of the names that had been weakest over the past several days were the names that topped out biggest winners list today.  RIMM, CREE, ATLS and WDC all performed quite well and we were able to recover a good portion of the losses we have incurred in these names waiting for a day like today.

There has been a great deal of debate between Jeremy and I regarding which names we should be trading intraday.  I insist that we should be building our size in the strongest names on the belief that money will continue to flow into proven winners throughout the day session.  He believes that it is important to buy weaker names as investors will be looking for bargain stocks when the market begins to move up rather than chase the stronger names.  I believe there is validity in both of these arguments.  Today we saw the battered financial sector catch a significant bid during the middle of the day as strong names like ATLS and SNDK continue their rallies throughout the session. In order to identify which names are strong and which names are weak we employed a new strategy.  We put out bids and offers away from the market on our entire portfolio.  By tracking which offers were lifted and which bids were hit we were able to see which names showed relative strength and weakness.  Overall, a tremendous day for the portfolio…excited to follow it up.

Where will the futures move next?

The chart above is the S&P 500 futures (Spooz) since the beginning of June.  Since June we have rallied into a Fed day three times, but, the current pattern is deviating from the prior two.

Following the past two Fed meeting’s the market has gotten hammered for a loss of 20 handles and 35 handles, respectively.  Last, week we rallied into the Fed meeting and then held support well as the market had a small pull back the following three days.  The shorts tried to push the market lower, but, following solid durable goods and new home sales numbers the market ripped higher above the trend line.

The market is currently trading just above the trend line on the futures and comfortably above the trend line on the cash (pictured below), but, initial jobless claims and ISM numbers will be the deciding factor as to whether or not we rally into mid-term elections.

- This analysis and much more is available at http://www.hedgefundlive.com/content/1717.

The Death of Cable TV

I have what is called a media streamer at home.  With this device I can stream video content from my computer to my TV.  What this means is that I can watch things like Hulu or CBS.com or Netflix in the comfort of my sofa with the convenience of my remote control.  In order for my media streamer to do some of the streaming that it does, I need a piece of software called PlayOn running on my computer.  This software allows things like Hulu and Netflix to work on my WDTV Live streamer.  PlayOn has been sending me emails recently reminding me to upgrade to the PlayOn Premium service so I can get even more content on my TV via my streamer.  The cost of this additional content is either $40 for life or $5 for the first year and $20 per year thereafter.  As the level of available content grows on my streamer I wonder why I continue to pay for cable TV which is costing me around $60 per MONTH.  I think many other people are starting to wonder the same thing.  I was checking the internet to see what others were doing about the upgrade to PlayOn Premium and what I found was that not only are people upgrading but they are also canceling their cable subscriptions as well and they have enough video content available to them via their streaming devices.  This is not only something I’ve been talking about for about a year now, but it is  a HUGE problem for the cable companies like TWC, CVC and CMCSA that isn’t big enough to show up in their numbers just yet but as people slowly realize that they don’t have to pay for cable to watch TV I think that they will cancel their cable TV subscriptions is droves.  Now, the cable companies will defend their revenue by raising the cost of internet subscriptions but I still see this as a problem for the cable companies simply because a year from now there will be even better wireless internet options which will keep a lid on the cable companies ability to raise their internet pricing.  Even worse off are the satellite companies like DTV and DISH which only offer video.

The night is darkest before the dawn….

Since my first day, I am constantly reminded  how expendable I am as an employee. One person was fired last week while prospect A resigned this week. It seemed like a case of “You can either walk away or leave in a body bag.” The truth is that I enjoy working here. Some might call that sadism. Prospect A certainly didn’t enjoy the TFG environment. His body language and facial expressions only told half the story of his plight. On the bright side JF no longer refers to me as “Prospect B.” Just “Prospect.” The first light of dawn doesn’t seem too far away.

Started the day with an ambiguous argument about Storm Trooper helmets. Being the Star Wars dilettante that I am, I was naturally lost. Today I learnt that the helmets for the Clone Army were cloned from Jango Fett’s; and subsequently served as a template for the Imperial Stormtroopers. I don’t even know who Jango Fett is. As a matter of fact, I think I have only watched episodes three to six; And the first season of Star Wars Clone Wars which was very hard to follow.

The economic landscape continues to look grim. Goldman closed their prop trading desk, DE Shaw let go of 150 employees and Paulson reckons double-digit recession will hit the nation by 2012. According to Paulson, and I quote, “If you don’t own a home buy one. If you own one home, buy another one, and if you own two homes buy a third and lend your relatives the money to buy a home.” He believes that paper wealth is going to be severely devalued and investing in gold, real estate and commodities is the way to go. Gee…. John, JP, if you’re offering I wouldn’t mind obliging.

And on a final note, Dean claims that Kelly Hu had a crush on him in high school. Yeah…. jury is still out on that one.


I am more convinced then ever that Hedge Fund Live is going to be a terrific educational tool. I recently walked the Associate Dean of the Rutgers Business School through the site. He essentially said that his biggest challenge is bringing the real world to his students and HFL would do exactly that. The next day he sent me an email with 7 suggestions on how he could expose his students to HFL. The first suggestion was for Jeremy and I to speak at their weekly class which he called their “Business Forum Class”. There are 275 students in the class and I think we are going to introduce HFL to 2 different sections in early November. Sure, its great for us to get exposure to 500 students but my real take away is that the Dean really “gets it”. B School is about exposure and preparation to entering the real world. Much different philosophy from my school days……