Behind the Market Headlines

Entering at your own risk

2009-07-15T17:10:00.016-04:00

Much better expected earnings from tech bellwether, INTC, after market close Tuesday is all market needed today, the broad equity markets enjoy one of the biggest gain days in the second quarter. Since opening bell, all indexes were steadily moved upward throughout day. However, underneath this optimism, there were certainly some, say the least, doubts about how long this three day rally may last. Most noticeable sentiment indexes, VIX and VXN, moved up lock steps with SPX and NDX, closed at 25.89 and 25.28 respectively (see chart below.) VIX was actually 3.4% higher than previous day. Even markets rally, the "fear" seems increased as the trading session progressed during the day. There was only one occasion when the market (S&P500) climbed over 2% and VIX also increased since 2005 (data no shown,) coincidentally or not, it was one month ago (6/1). We knew what happened in the month of June.

For the near term bull believers, the bad news may come from the derivative markets. For the first time in the last two years, the total call option open interests exceeded 1.6 millions contracts (see Bloomberg chart below, only 1 yr data shown.) we may not be surprised to see VIX spikes and some stormy trading sessions near term.

Updated: Will AAPL be $125-150 by July?

2009-06-09T13:47:00.006-04:00

In late March, we saw significant bullish bets on AAPL in option markets. In my post "Will AAPL be $125-150 by July?", we noticed a huge call spread position (10,000 contract) hit the tape on March 25. AAPL was closed at 106 and change, and has rallied more than 35%, which certainly make the owner of this long bull spread position smile proudly. So how much profit we are looking at right now if the investor exits the position today? At this moment, AAPL July 125 call is traded at about $19.50 and July 150 call around $4.20. Ignoring the transaction cost, each contract is worth about $1,530, so the total position is $15,300,000. Remembering that the initial investment was only about $3,950,000, and so net profit would be $11,350,000. The trade almost triples the initial investment just over two months! Not a small feast considering the limited risk profile.

A yellow light or red light?

2009-04-02T16:53:00.007-04:00

Equity markets, measured by SP500 index, jumped almost 3% today. But the broad market volatility index, VIX, was barely moved at all, actually as equity index steadily climbed throughout today's trading hours, VIX went up along equity index rather than declined as the market would have expected. Is the derivative market trying to send signal the bumping road in near term? The fact that front month VIX futures still traded higher than spot may added some weight to this argument, that is, in the next few weeks, it is probably not all green lights.

If there is a hurdle for this market to jump over it, it probably would be VIX. The index has stubbornly stayed around 40-45 range in last few weeks. As matter of fact, today VIX sit exactly at 42.02, a 200-day moving average. Until we see truly broken down below 40, the equity rallies may be not going to last very long.

Will AAPL be $125-150 by July?

2009-03-25T16:21:00.013-04:00

This morning, one large AAPL option block trade hit the tape. It appears that an institution investor (trader) took a long position on 10,000 contracts of AAPL July call bull spread with strikes at $125 and $150 at net cost of $3.95 per contract, or total cost of $3,950,000! The investor obviously very bullish on AAPL and hence long a far out-of-money bull spread. Instead of outright to long $125 strike call at $4.90, a higher strike, $150 call was sold at $0.95 to reduce the out pocket cost. The strategy expects AAPL would appreciate at least 20% by this July. In order to break even for the investor, AAPL need to reach about $130 area at expiration, or about 20% from current level. The best scenario is that AAPL get to $150 and with maximum profit about $21,050,000! That would be a real juice return with capital investment of $3,950,000 in a three months, in other words, a return of >530%. Well, we have to wait and see where AAPL will be in 2-4 months.

Disclose: long AAPL LEAPS

Are there any bulls left?

2009-03-05T12:23:00.011-05:00

Today's AAII (American Association of Individual Investors) bull and bear sentiment index are just another statistics that paint the bleak mood of markets. The Bears were over 70, an all time high level since the survey started 7/87, and the Bulls barely registered at 19, also a muti-year low. The difference between Bulls and Bears, a commonly used contrarian indicator based AAII survey, dropped below -50 (see the bottom panel of the chart), it only happened once in early October, 1990. Is the market bottom finally here? The bull-bear contrarian indicator has worked quite amiable in the past. If all the bulls have thrown in the white towels, we just might be at the bottom NOW.

Market P/E droped to single digit first time in almost 25 years

2009-03-02T16:58:00.010-05:00

The broad market valuation, measured by trailing P/E of S&P500 index, for the first time since 1/1985 dropped below 10x today according to Bloomberg (see chart below; red line - P/E, yellow - price/book, green - price/sales and white - SP500). It looks like this negative momentum created by economic uncertainties and extreme risk reversion are still the dominate sentiments. We might be heading to 7-8x multiple soon. Talking about about insane and efficient markets!

Is crude about to go higher?

2009-02-12T16:02:00.000-05:00

Since hitting the multi-year low $33.87 measured by front month future contracts trading on ICE on 12/19/08, Western Texas Intermediate (WTI) light sweet has been stuck at a trading range between $34 and $48 so far this year. Today front month contract was closed at $33.98, almost exactly the same lowest level occurred two months ago. The most interesting question, intriguing many commodity and equity investors alike, is this the temporary bottom or just the beginning of another leg downward spiral to further unwinding excess bullish positions that had built up prior to the July peak last year. If we examine the current future term structure, we may come out with the conclusions that likely outcome in next few weeks WTI would go higher than lower. Since the term structure shifted from backwardation in late July last year to current contango, the spread between front month and 2nd month contracts has increased steadily. Today the spread reached highest level, about $8 (see Bloomberg chart below). Popular media provide some convenient and logical seasonal for current crude declining, such inventory buildup (highest seasonal level in last 10 years, but ironically the current inventory is below that last July, at the time crude reached all time high of $148), global economy melt-down and strong greenback etc. But the major driving force may be from commodity indexed ETFs and mutual funds "rolling" front month contract into next month causing this historical steepness in the front part of curve. It should not surprised that we are going to see some crude rebound in next week or so when the March contract expires at least in the shot term. After that, we would have to see how market can overlook current pessimistic statistics and look one step ahead.

VXN converging to VIX

2009-01-12T17:07:00.009-05:00

Nasdaq markets have been dominated by some of well know large cap tech companies and many smaller less know names too. Not surprisingly, Nasdaq markets measured by NASAQ-100 have been much volatile than SP500. However, since tech bubble busted in 2000, the Nasdaq volatiles measured by VXN declined dramatically and has gradually converged to broad market volatility represented by SP500, VIX (see Bloomberg chart below). Actually, as credit and mortgage market began to melt 18+ months ago, VIX and VXN have been almost in parities. SP500 was much volatile than NASDAQ100 in two of these period, first when Bear Sterns hedge funds fiasco and second time happened in last Nov when financial system was in the breaking point. Financial sector was the one of largest sectors until last year because of market value evaporation from some celebrated financial names, like Bear Sterns, FNMA and Freddie, Lehman and Citi. Almost all these financial firms were traded at the big board and are members of SP500. For the first time in history, we saw VIX and VXN essentially at the same level. Are we going to see the VIX gradually back down and traded at discount to VXN down the road when the credit mess is finally over or does the market structure change from this financial system shake-up? I guess only time will tell.

One of interesting observation today is that VIX and VXN stay in synch throughout today trading except in the final moment VXN drop 4 points in the last half hour for no obvious reason even though the selling of NASDAQ100 was accelerated in the closing hour. Is this mean tomorrow going to be a good day for QQQQ?

What if AAPL and RIM use the same accounting rule?

2008-12-22T20:49:00.003-05:00

BlackBerry device maker, RIM, report its the 3rd quarter results after the bell, as expected, the company's earnings were significantly impeded by the global economy slow down, GAAP net income increased about 7.0% from $370mm to $396mm ($0.70 vs $0.66 per share) with revenue coming in at $2.8 billions.

Most interesting to me in the earning release, though, was that RIMM sold 6.7 million BlackBerry devices and booked $2.3 billion revenue. For comparison, in AAPL last quarter (ended 9/27/08), AAPL sold 6.9 million iPhone, but only $806 millions revenue was recognized. So even about 200,000 more iPhone were sold with assumed higher ASP than Blackberries in three month period, AAPL booked 2/3 less revenue than RIMM. The culprit is that AAPL book its iPhone sales using so-called "subscription accounting", namely recognized revenue over 24 month period, but not as sales occur. When AAPL only sold average about 1 mm iPhone in each previous few quarters, iPhone sales have limited impacts on its bottom lines and valuation measures. The exploding growth of 3G iPhone and increasing importance in AAPL's product/revenue mix present difficulties to make a fair relative market valuation comparing to RIMM because the iPhone deferred revenues were entered as liabilities, which offset by cash in its balance sheet. In the latest AAPL quarterly financials, the total liabilities on B/S was $18 billions, but almost a half of this ($8.5 billions) belongs to deferred revenues mostly attributed to iPhone!

What if AAPL booked iPhone revenue the same way as RIMM did with Blackberries? It is almost impossible to re-structure AAPL's financial statements without detail breakdown iPhone sales data. But based on AAPL published financials, we can make some basic estimated adjustments on AAPL's market measurements assuming current margin remains constant. The table below lists fiscal 2008 iPhone units (company's earning release) sold and GAAP revenues booked by AAPL and pro forma revenue if AAPL book iPhone sales as RIMM would.So AAPL would recognize $4.5 billion sales from iPhone, instead of only $1.8 billions as reported for the fiscal year 08. Also worth to note though, $4.5 billions is just about 1/2 of the deferred revenue. AAPL actual earnings for fiscal 08 should have been about $6.13 per share, a 15% higher than reported of $5.36.

Comparing to the new tech companies, namely RIMM and GOOG, as well as some "old" large tech names, like MSFT and CSCO, AAPL has been traded at significant discount to these companies using current reported financials. If AAPL uses the same accounting rule to recognize iPhone sales as Blackberry, AAPL would be valued even much deep discount by most valuation measures such as Price/Sale, Price/Book and EV/Sale and cash flow (see table below). Market values AAPL at discount to its peers may be partly due to analyst's underestimates of iPhone earning powers. Another factor is that AAPL has always try to tamper and manage sometimes over-optimistic/unrealistic market expectations over new products or earning growth. On the contrary, if you read RIMM's latest earning reports, you can sense/see that the management have tried very hard (excluding "unfavorable" currency movement) to meet market expectations and try to paint much rosy picture. There is no question that Steve Job's health and succession plan may be a much bigger drag for the valuation, but it seems that current AAPL market valuation may have priced this adversary information already. Be prepared for the positive surprise in the coming earning report on 1/20.

SPIKE of short term trading index

2008-12-01T17:15:00.009-05:00

Following the significant equity market consolidation or profit taking in Asian markets overnight, the stocks in the states were under enormous pressures from the opening bell in the morning. The declines were broad based and no safe place to hide (only two stocks of S & P 500 index ended in positive territory). However, the sell-off was due to happen considering the historical magnitude of rallies we have witnessed in the last week (>17% in 5 sessions) and potential huge amount tax related portfolio balancing at the year end. Any opportunities to book meaningful gain or any any sign of momentum shift would trigger consolidations. Today's movement is no exception, the broad based indexes steadily went to downward throughout morning session (we can see the ARMS gradually reach the usual upper limit of 2.0, then the index suddenly spiked right over 6.0 around 2:45. After this momentum shift the market went to unstoppable downward spiral. Because of the way that ARMS constructed, we might speculate that it is quite likely somebody or some "big guns" were exiting huge positions real fast willingly or unwillingly.

Time for TIPS

2008-11-26T21:36:00.021-05:00

The financial chaos and sudden downward spiral of global economy have created a wide spread fear in the market places that the impending risk is the possibility of deflation as Japan had experienced in the last decade. This left "real" yield on current 5 yr treasury TIPS at 2.293%, about 29 bps HIGHER than the nominal yield on its big brother, 5-yr treasury note, which was traded at about 2.00%. The yield differences between 5 yr note and TIPS reached at par about a month ago and have steadily declined into negative territories (see the Bloomberg chart below). The spread for 10yr sector also collapsed from long term historical average 210 bps to only a few basis points above zero according to Bloomberg data.

What market offer now for investors is you can lock-in at least 2.20% "real" yield if the security is hold until maturity and if there is any positive inflation comparing to the negative "real" yield for the nominal treasury notes. The only risk to hold TIPS now is that the US economy DOES slid into extended period deflation, which would erode capital (inflation) of the total return components. We can also look TIPS in another way, since the real yield on TIPS is higher than or at par with nominal bonds, investor effectively get inflation component of return for free. In the case of 5 year sector, investors were paid over 20 bps for to own TIPS!

The fear of deflation is extremely overblown, first of all, the latest significant declining headline CPI was mainly attributed to the unprecedented crash in commodities. The October core reading was down about 0.1% from September, but still remain at 2.2% YOY. The deflation pressure is likely temporary or transitional in normal business cycle. We can not ignore the fact that Japanese made her mistakes for taking too long to make the fiscal and monetary policy adjustments. We have witnessed coordinated efforts from central banks across the globe to pump up liquidity and unfreeze credit markets. Even the credit market is still fragile but has improved significantly measured by many credit spreads. Another important aspect is that cultural and social differences between US and Japan, or in broad sense, the West and East Asia. In the eastern culture societies, especially Japanese and Chinese, savings and risk aversion are deep rooted and highly regarded merits. Consumer consumption is the major driver for GDP growth. Contrast to the East, US is proud of risk taking and consumption dominates social and daily life. The cost of money is effective negative (fed funds target 1.00%, but has traded between 0.125-0.75% for a quite while) for banks and some financial or other institutions if inflation is taken into consideration, . If Fed does what market has expected in its meeting next month, the stated Fed funds would be close to zero even in nominal term. When you literally drop money from helicopter, it is only when not if the rationality and reality will settle in. Risk taking by business and consumers will be back. The most likely outcome in the 2-5 horizon is not deflation but rather inflation considering the enormous monetary stimulus (Uncle Sam has committed about 7-8 trillions according to Bloomberg, about a half of GDP, Chinese also plan about $600 billions efforts.) Most of time, if not all the time, what everyone has expected rarely turn out to be true because of the forward looking nature of market.

Total return for 5 yr TIPS is expected to be at about 7.00-8.00% depending on inflation expectation (3.00-4.10%), and close to 4.00% even with zero inflation assuption if hold security to 5 yr maturity. For an investment instrument, when there is no credit risk and highly remote chance principal erosion from deflation, this may just one of those rare opportunities.

Negative Swap Spread

2008-10-23T13:37:00.021-04:00

One of most intriguing event, which barely got any attention in the market, was that, for the first time in the history, 30 year USD swap spread dropped into negative territory today. The US treasury 30 year bond traded at 4.027% and the same maturity US dollar swap traded at 4.051%, i.e, 30 year swap spread was about -2.4 bps (see attached Bloomberg chart below) . The 30 year swap rate only go back to early 1994 in Bloomberg data base, in the last 14 years, swap curve was always and should traded at discount to the treasury benchmark, "risk-free" bogey. So what is mean for the equity and credit market? Or most importantly, is the swap market trying or pricing the much deep recession or an early signal of Japanese-style deflation market has feared in 2003? Is the US treasury credit quality put into challenges? Or just the abnormally due to temporary market forces? Isn't the market facing the greatest CREDIT crisis we ever face since the Great Depression? Should we expect credit spread widening?
Short end part of swap curve behave just opposite to the long end, 2 year swap spreads jumped to the peak about 160 in early Oct and have narrowed in last two weeks reflecting credit alleviation due to "Bern & Paulson" efforts. However, the short end spreads are still at the extreme and indicated credit stress conditions. The second Bloomberg chart illustrates this contradictory market of long vs short swap curve movement. If there is anything we can bank on, it sure looks like abundant opportunities if you have the appetite for risks.

Speculators Held Highest Net Long S&P Futures

2008-10-10T22:35:00.010-04:00

Today's dramatic 1000 point reversal of Dow 30 may be just the capitulation point that market has been looking for in this free fall market. Many other sentiment indicators, such as AAII bull and bear readings, VIX and 52 week high/low also point to the extremes. Underneath this gloomy and Armageddon scenario, one of most significant and interesting piece of data is in the futures market, specifically speculator's reading in this scary market. According to today's data release from CFTC, it looks that speculators have positioned for market (S&P500) turnaround. As this past Tuesday, speculators have built more than 102,000 long S&P500 positions, a highest in last five years. More importantly, the speculators also have reduced the bearish bet, short positions to just about 43,000, a lowest level in two years. Without questions, in the last few weeks, the equity market was the darkest period for the long side, but the end may be in sight at least in the short term. The largest net long positions of S&P500 futures contracts, about 59,000 provides some good news for long the market or warning signs ig you are short market in the near term (please refer the Bloomberg chart).

If there is anything positive over the weekend from G-7 financial rescue efforts in Washington, we should not be surprised by the huge rebound in equity market from the extreme oversold conditions.

Community Bank's Easy Leverage Strategy

2008-10-03T13:07:00.031-04:00

The credit scare/crunch may present a great opportunity for many independent banks who depended on regional home bank system for the funding. This morning Fed funds traded at only 0.25-0.75%, plenty liquidity for banks if you can access it. At the same time Libor 1M and 3M rates went up over 10 bps at 4.11% and 4.33%, indicating extremely tight credit markets. Due to the enormous liquidity Fed has pumped into the system, the funding cost from FHLB, like FHLB Boston, are significantly cheaper than Libor markets. For example, FHLB Boston this morning offered 0.85%, 0.95%, 1.19% and 1.75% for 1 week, 2 week, 1 month and 2 month fundings for its members. On the asset sides, agency (Fannie , Freddie and FHLB) debts were priced at level never seen before in term of spread to treasury in history. Two year agency yield spread is 100 bp over same maturity treasury, historically it has been only between 20 - 30 bps (see the first chart from Bloomberg) and 2 year swap spread had widen over 150 bps over treasury, a historical record (the second Bloomberg chart). FHLB issued $400 millions 1 yr maturity callable note (Bermuda) at 4.00% yesterday. For community banks, this offers a great opportunity to take advantages the dislocations between Fed fund market and Libor market to book some real juice spreads by leveraging balance with very limited interest risk exposure.

If we laddered FHLB short term funding from 1 week to 3 month, and invest in the new 1 yr/3m nc agenecy note at par with yield 4.00%, the bank would be able to lock in spread of whopping 250 bps for next couple of month (See table below).

	50 bps Down	Base case	50 bps Up
1 wk	0.35%	0.85%	1.35%
2 wk	0.45%	0.95%	1.45%
1 month	0.69%	1.19%	1.69%
2 month	1.25%	1.75%	2.25%
3 month	2.25%	2.75%	3.25%
Blended Short term FHLB Funding	1.00%	1.50%	2.00%

FHLB 4.00 10/6/09	4.00%	4.00%	4.00%
Yield Spread	3.00%	2.50%	2.00%
Price Return	0.01%	0.00%	-0.25%
Total Return	3.01%	2.50%	1.75%

Parallel curve shift assumed; horizon date 4/1/2009

The most likely outcome is that asset will be called away considering the extraordinary fear and uncertainty in the credit market, we should not be surprised if calm and rational gradually return in the next couple of quarters with or without $700 billions government's rescue packages. The credit spread would narrow and eventually back to norm. The agency spread to treasury currently is not only wide but even much wider than before Uncle Sam took over Freddie and Fannie. Agency debts got the explicit back from government, this temporary indiscriminate sell off from distressed institutions would come to end. Any sign of relief in the market, the asset will come off book so you enjoy 250 bps spread for a quarter. Certainly the only downside is that relative short during of asset and only enjoy income for a quarter or so.

RIMM collaps should suprise no one.

2008-09-26T16:48:00.032-04:00

The momentum darling, RIMM, gave up over $20 after releasing the Q2 financial results (missed by a penny vs expectation, $0.88 vs 0.89), and lower Q3 bottom line and margin on Thursday after market closed. The management downplayed AAPL eroding its profitability and attributed the disappointment to shrinking margins due to increase SGAN and R&D to expand its market share.

It is quite interesting even RIMM has shined for so long in the last two years and certainly a bright star among analysts and investors, underneath this seemingly unstoppable bull run, there have been gradual but significant build-up of doubts and worries when we examined the derivative markets. After RIMM skyrocketed about five-folds from fall 2006 t0 Oct 2007, and peaked about 133 in Nov 2007, the bearish sentiment began to emerge. We can assess the sentiment by studying the relative positions of the underlying call and put option open interests during the period. The open interests of call option began to slide while the total contract numbers of put option open interest increased after RIMM broke $100, as measured by the ratio total call option open interest to total put option open interest (see the first chart below). The chart indicates that call/put open interest ratio made a significant drop from about 1.2 to barely over 1.00 when RIMM first broke 100 in Q4 2007, and the ratio stayed at the depressed level since then. Even during the latest two RIMM pull backs in July and this week, few investors stepped in measured by the call/put ratio as typically one would expect investors would see it as an opportunity to build positions. It is true the ratio improved somewhat (from about 0.9 to above 1.0). However, the sentiment, at the best, would be regarded as neutral rather than bullish comparing to its historical level. For comparison purpose, when we examined AAPL, a total different picture emerged. As we can see from the second chart, call/put open interest ratio is almost exactly opposite RIMM in the last two years. The bullish momentum has continued to build as AAPL moved up in general trend. Whenever there was pull back in AAPL prices, there were spikes in call/put open interest ratio, such as in summer 07, early 08 and last week. The ratio registered over 1.40 on the 19th, the highest, for every put contracts, there were 1.4 call unmatched contracts. The derivative market seems indicating much strong bullish signal for AAPL.

Even AAPL and RIMM are two favorite momentum players in the last two years among investors, it seems that market conveys much more convictions and belief for AAPL than RIMM, and it seems that RIMM has lost quite bit of its mojo.

Disclosures: Own LEAP AAPL calls

Michael Masters - The Commodity Speculator Crusher?

2008-09-10T10:32:00.021-04:00

Michael Masters, the hedge fund (Masters Capital Management LLC.) manager, made some headlines in the Hill and markets for his champions that speculators cause skyrocket high prices for commodities from agricultural grains to metal zinc. Media has raised the questions regarding Mr. Masters's motive because of his investments concentration in transportation. I pull out the his q2 13F regulatory filings via Bloomberg (see the chart below from Bloomberg), it is interesting to note that he increased weights on industries and utilities, two sectors by 6.1% and 5.8% respectively over 1st q this year. Not surprisingly, two of his top 5 holdings, Delta and US Ariways, make up 33% portfolio. During the quarter, US Airways positions were increased from 2 millions to 4 millions shares, and Delta was almost double the positions too (from 1.05 to 2 millions shares.) I guess the pain must be unbearable when the benchmark crude rocked to over $140 from less than $100 during the quarter. Certainly it is not his best interest to see crude oil going higher and stay there.

On the surface, Masters's conflict interest certainly does not serve him well in the argument. But then we can not ignore the fact that commodity market dynamic have evolved in terms of market participants and operations. I have serious doubts when a single factor or variable was cited as the cause or reason for price movement in equity or commodity markets, or any other form capital markets. There is no question that speculation/investment in commodities, more precisely, the rising demand from alternative investment vehicles (physical commodities and related instruments) since late 90's, have morphed commodities from dull pure raw material that was driven by supply-demand and economic cycle into something more "magic" investment instruments with a great potential appreciation. We would expect that commodities were primarily driven by supply-demand when the market participants were dominated by producers and end-users a decade ago, but commodities have draw more financial institution investors and speculators. For example, the total contracts of crude oil futures from speculators doubled to about 400,000 in early 2004 from the end of 2001, and over 800,000 in early 2006 and doubled again to over 1,600,000 early this year (see the chart below.) The dismissals of increasing speculation activities in commodity market and its impacts on the extreme violent movements of commodity at least in the short term, probably overlooked the simple facts. The question is not if but how to quantify the impacts. But history has demonstrated repeatedly that government intervention is wrong medicine for curing oil dependence.

What is driving the markets?

2008-09-03T16:45:00.022-04:00

According to latest Q2 SEC 13F filings, institutional investors (hedge funds, pension funds and endowments and banks) increased their positions in 4 out of 10 S&P economic sectors, namely energy, material, information technology and utilities. Most notably, the 3.0% energy sector incremental increase over the 1st quarter, and significantly underweight in financial and consumer discretionary (see the chart "% weighting changes from 1st Q" on the right panel.) The dramatic market sell-off we experienced lately, especially last two sessions, caught many people by surprise, especially the pounding on technology sector and small cap sectors.

If we compare the institutional investors' holdings and sector performance, we would not have much difficulties to find that current market behavior may be largely driven by the asset allocations and "locking-in" gain on the 1st half's best performers, namely energy, materials and technology. As the chart on the left shows that energy and material sectors performed the best, especially energy as everybody witnessed in the 1st six months this year . Immediately entering the 3rd calendar quarter, the physical commodities markets start to crumble, and also equity markets. From the chart on the left, we can see that the best performance of four sectors in the first six months, i.e., energy, material, technology and utilities switched the positions with the worst four sectors (financial, consumer discretionary, staples and health care) in last two months. The speeds of market declines in the last few days seems to suggest that "big guys" were rushing to the emergency exits. And the rumors of hedge funds liquidated positions certainly added fuel to fire.

data source: Bloomberg

Updates on Hedge Funds 13F Filings

2008-08-27T16:33:00.009-04:00

In my previous post on Q2 SEC quarterly filings from a limited numbers (182) of available hedge funds, we noticed that hedge funds had significantly over-weighted energy and material sectors, two of best performing groups among the 10 S&P sectors. It might be purely coincidental but we can not help to ponder the implications for these two tumbling sectors.

As today (8/27), almost 1000 hedge funds filed their last quarter's 13F based according to Bloomberg. The screen below from Bloomberg shows that hedge funds as a group places their biggest bets on energy as we discussed previously. Considering the short term natural of their holdings, it should not surprising many that the unwinding process of energy names will continue in the current quarter. We probably won't see much improvement until the end of next month when the "window dressing" is finally over.

Which way will crude market go?

2008-08-23T21:32:00.020-04:00

Speculators maintained a net long position of 11,659 crude futures contracts at NYMEX markets according to this Friday's CFTC release, ended three consecutive weeks net short positions since 7/22 (see the first chart below, green circle). Considering the CFTC data were as market closed on Tuesday (8/18), one day early than $11 plus up and down movements on Thursday and Friday, if there are any indications, it certainly points to more turbulence ahead.

Popular media stories attributed the $5 gain and $6 loss of light sweet crude price on Thursday and Friday to dollar and geopolitical factors (Georgia, Russian conflicts and cold war rhetoric), and thin volumes could also exacerbate magnitude of pricing movement. Dollars and geopolitical tensions have been part of equations that drive crude prices, but the relationships may be in a non-linear fashion and much more complex than headline news indicates. The Georgia and Russian conflicts began two weeks ago, crude price did not show much reactions when the news hit the public domain until this past Thursday, that was a real long delayed reaction! Making the direct connections between strong gain of crude price on Thursday to Georgia/Russian/US was a stretch, say the least, when EU brokered the agreement for Russian troop withdrawal. The relationship between dollar and crude may have become "chicken or egg" issue. It is hardly to decipher which one is the driving force, and most likely driven by the momentum and sentiment than fundamentals. The magnitude of dollar movement certainly was not in the position to explain oil price changes in last few days.

The possible reasons for the dramatic shift of oil price actions in last week were likely related to the technical factors in the crude futures market. At the NYMEX, the last trading day for Sept contract was Wed (8/20), the upward movement we witnessed on Thursday might be partly due to futures rolling into Oct contracts. Another contributor for the huge upward movement might also come from severely oversold conditions and the persistence of oil staying above $110 level, a major technical support level.
Does the net long position after almost a month bearish bets signal the coming back of raging oil bulls? I would argue as long as financial malaise stay in headlines, long oil and overweight energy on equity side are probably a little bit too early considering the extreme commodity bullish sentiment built-up over last two years and unsettled credit markets .

MBS spread widen at historical levels

2008-08-08T16:42:00.009-04:00

The turmoils at FNM and FRE created great anxieties and opportunities for both equities and debt TRADERS. The newly passed housing rescued packages by the Congress and signed the President essentially changed the "implied" to "explicit" US government backings on both quasi agency's outstanding debts. Their spreads to US treasuries have tightened in last few weeks. However, the most liquid 15 yr and 30 yr fixed MBS from Freddie and Fannie were under great pressures in last few days. Using 10 yr swap rate as benchmark, FNCI (15 yr Fannie MBS TBA) was priced to 5.50% with spread of 78 bps, that was 4 times of historical 10 year average (see the first chart). FNCI was traded at the cheapest level since 1998. The 78 bp spread to the swap was about four sigmas of the mean. FNCL (30 yr Fannie MBS TBA) was also trade at the lowest level that we have not seen in the last decade (second chart). Comparing to other investment alternatives, current fixed MBS provided the most attractive risk-reward profiles for long term investors.

What do hedge funds Q2 13F filings tell us?

2008-08-07T17:16:00.013-04:00

There were 182 hedge fund managers filed form 13F with SEC as Thursday (8/7/08) for Q2 according to Bloomberg. On aggregate level, one of striking similarities among hedge funds were heavy overweight on energy sector comparing to S&P. There were no surprises that hedge funds also significantly underweighted financial and consumer sectors in the second quarter, and maintained neutral stands among other major sectors. Was the 4% overweight on energy sector a major driver of 20% sector gain (based on XLE) during the 3 month period?

If it was not the ANSWER, there was no questions that gorging of energy names by the deep pocket hedge funds were one of forces contributing to one of dramatic energy bull run until the end of second quarter. We are looking at the rear mirror of hedge fund manager actions, but today's energy related commodities wreck probably won't end soon considering many hedge funds might continue their unwinding energy positions and asset class re-allocations.

Speculators still negative on crude oil

2008-08-02T21:19:00.009-04:00

Speculators held net short positions first time last week since March, 2006. According to this Friday's CFTC data, speculators were still leaning on the bearish side in crude futures markets. The speculator's overall positions were net short of 660 contracts (see chart below).

The chart shows that speculator's long (green line) and short (red line) positions as well as light crude futures prices (shaded column) since Jan/06. Speculators build the second highest long positions (263,300 contracts) two months ago (5/13), just 1,000 shy from the all-time high (264,400) reached exactly 1 year ago (7/310/7). However, the long positions never broke out above 264,500 even though crude reached all time high of above $147 in early July. In fact, speculator's sentiment became bearish (or most likely locking-in gains and off to summer vacation) since reached the second highest level and began to close out their long positions and accumulated short position bets about 2-3 months ago. The short positions broke 200,000 contracts first time on the July 4th weekend and had maintained at about the same level in the last two weeks.

In the last two year's crude oil bull run, there are some evidences that the speculator's position provides some leading indication for crude market direction movement. Since we have such difficulties (impossible?) to predict future, the next best alternative would be using history as a guide. The last time speculators held the largest net long positions to the end of net short positions last about 5 months (from Sept 06 to Feb 07), and light crude declined about 30% during the period. It won't surprised if crude retreated about similar magnitude to around $100, from all-time high $147. A 100-110 dollars per barrel for light crude are considered as very important technical levels. Like any other investable assets, the speed of market correction or bear market are usually much faster than when markets are on the uptrend. In the near term, we could see more volatile movements, either up or down. But I would place high probabilities on declining than raising in 3-6 months horizon.

Speculators Held Crude Net Short Positions First Time in 17 Months!

2008-07-25T22:58:00.016-04:00

In my 7/8 post (Just the beginning?), speculator's futures and options contract positions were examined, it indicated that crude would begin long over due correction. I used speculator's futures contract positions this week to assess the indication of crude oil movement.

US crude futures market had a very significant sentiment change based on this Friday's data from CFTC's release for market close 7/22. For the first time in the last 17+ months, "non-commercial" participants, or speculators held net short crude futures positions at NYMEX (see chart "Crude weekly price and speculator net crude
futures positions"). The net short positions of 3,640 contracts were mainly caused by closing nearly 12,000 long positions and increasing over 14,000 short positions for the week. The total outstanding short positions for speculators stood at over 201,600, the second highest level (the highest level was 203,000, happened two weeks ago on 7/8) since the beginning 2006, the long positions declined to 198,000. Actually, speculators had steadily reduced long positions starting June and increasing the short exposures.

The NYMEX crude futures sent out some warning signs based on the extreme readings on speculator short and long futures contract commitments in later June and early July. The last time speculators held net short position, crude was traded just below $60 on 2/13/07, and prior to that week, speculators changed their heavy long position in the fall 2006 to net short and neutral positions in the next few months. How long will speculators be in the bear camp this time around ? Only time will tell, but it would be highly doubtful that the momentum will turnaround in the short time period considering the excess fear/greed was built into crude prices in the last few months.

One of interesting statistics from this week data was that speculator's "spreading" (both long and short) positions spiked to about 1.2 millions in the last two weeks, all time high according to the available data. This could imply more volatile crude market ahead.

Sliver Lining of Existing Home Sales

2008-07-24T12:01:00.000-04:00

The headline news of this morning's NAR reports on US existing home sales did not paint a pretty picture at all for current US real estate markets. The existing home sales tumbled to the lowest level since data was compiled in 1999. The median home price dropped more than 6% from previous year. The report seems providing no indications the ending of housing market slide. However, if there was any silver lining from this report, it was the single family home prices had stabilized and actually on a gradual climb monthly since the 1st quarter. The chart below depicts single family median and average price monthly change since the end of 2007. As the chart showed that home price dipped the most in Jan, then had been increasing month over month since.

News media picked up the headline numbers of y-o-y declining 6.1% for median price and and 16.7% drop in total sales. But it is quite evident that entering the second quarter this year the speeds of declining home price had decelerated significantly. Existing home prices actually increased month over month since March. Certainly this might have something to do with seasonality and weather. If we examined the yearly price changes (which minimize seasonal factor, see chart below), it also showed that the price deterioration was slowing since March. The trend of price increasing should not be overlooked. Are we at the end of worst housing market? Not quite sure, but I guarantee we are closer to the bottom than one quarter or one year ago:)

VIX Spike

2008-07-22T17:03:00.012-04:00

Equity market experienced some major corrections in response to credit stumbles in Jan, March and July this year, VIX spiked over 30% in both Jan 22 and March 17, but failed to close above this perceived extreme reading in the latest equity sell-off in last two weeks. Many market pundits were expecting to see the spike of VIX over 30%, and which were believed to be the indicator that the market finally reached "capitulation" point and hence short term "bottom." The 30% has been regarded as such an important bogey might come from the observations that VIX pierced through the 30% every time when S&P500 index went through risk repricing (corrections) process since last August (see the chart "Historical VIX and SPX" below.)

However, VIX didn't broke above this "magical" mark during the latest downturn (VIX did briefly touch 30% intra-day on 7/15 though), the final indicator for the market bottom. Most of other market sentiment indicators reached the historical extreme pessimistic readings, which lend the arguments that the markets have priced most risk and reach temporary bottom. If we examined the VIX option market, we might find the answer that market indeed in panic mood ("capitulation") but it was not reflected in the reading of VIX, but call options on VIX. The Bloomberg chart (red line represents the call volume on VIX and white line - VIX) below illustrates that the volume of call option on VIX peeked at about 269,000 contract on 7/15 since last year. Even though VIX is based on the options on SPX futures, market panic would prompt participants to purchase put options for protection and drive up VIX. Using call option on VIX may provide another efficient way to hedge the portfolio.

Applaud AAPL Management

2008-07-22T11:42:00.001-04:00

AAPL delivered another great quarter after market closing yesterday (7/21) , beating both EPS and revenue street estimates ($1.19 and $7.46 billion vs. $1.08 and $7.37 billion.) The stock took a beating after AAPL failed the Wall Street's expectations in gross margin and EPS for the coming Q4 and concerning of Steve Jobs's health. It is well known and perceived for many on the street that AAPL has traditionally provided very conservative guidance for coming quarters so that the management have some insurances to delivery positive surprise when it is time reporting earning. I believe there is significant truth about the practice and it is common for some market participants to use the tactics to spin the lack luster business operation into positive light.

For long term (>1 year) investors, however, what AAPL did may prove to be a responsible management strategy. Considering the fact that AAPL has continuously developed some amazing new products distinguished them with "cool" factor with unparalleled fan loyalties, and constant superior financial performance for stake holders, the expectations for AAPL certainly have grown exponentially since the 1st IPod was introduced 7 years ago. Without AAPL management's lowball guidance in the last few years, AAPL might have been traded at much higher level and certainly at a much great risk level. If excess expectation is not tempered, it can feed on itself and on new product frenzy, investors can become irrational euphoria. Any minor miss or miscue in the operations and financial performance due to management or business/economic variables could have devastating impacts on equity performance and business operation. To maintain long term brand and business vitality, it would be important for the management to "immunize" the expectations to prevent euphoria and put too much risk into the stock.

Besides the headlines news that 1mm units 3G iPhone was sold over the 3 day weekend and had sold out in most Apple Stores since the release in the US, we may get some insights on IPhone phenomenon by examining the traffic on Google search using Google Trends. It is a surprise to find that even though IPhone is just entering overseas market, the #1 ranking for searching language is Russian and #1 region is Hong Kong for "IPhone" search traffic. If we use "3G IPhone" as search phrase in Google Trend to examine the traffic for last 12 months (see chart), the #1 searching language, ready for this, Vietnamese, the #1 region is Hong Kong and #2 is Vietnam. The US comes only at #4 after Russian! For comparison, "BlackBerry" or "BlackBerry Bold" search will give you no surprise results, that is English as #1 in language and Canada as #1 in the regions, US comes in the 2nd.

For what happened in last night and today, I can only assume what management did is to manage the expectations for the long term business health. If that is the case, I think it is a savior and responsible business strategy to anchor the market expectation. Is any truth that the guidance is in fact directly related to economic weakness and "product transition"? It probably have something to with it, but I would not surprise that for the sake of long-term benefits and health, the management would not want to see "frenzy" go too far. For investors, this provide a great opportunity to establish positions.

Disclosures: long AAPL calls

Arguments for Equity Short Term Bottom

2008-07-20T17:04:00.000-04:00

I made an argument that the S&P500 may have reached the bottom in previous post (7/13) by using speculator's net S&P500 index futures and options as a proxy. The speculators have build up their long positions for last three weeks and most importantly that the net long positions increased incrementally from closing short position and increasing long positions. There are two other market sentiment indices also point to the possible S&P500 bottom in the near term.

The first measure is the ratio of numbers of stock reaching 52 week high to 52 week low for the total US markets (52HL ratio, thereafter) calculated from Bloomberg database (the data is available beginning on 10/25/02). Using the last 5+ years data, the 52HL ratio is a very good contrarian market indicator (See chart below). For all the market corrections we have experienced during the study period, the 52HL ratio exhibited as an almost perfect turnaround indicator. Whenever the ratio reading was close to 0.1, i.e., stock 52 week low numbers is 10 times greater than the 52 high, the S&P 500 index reached the bottom (see the chart "S&P500 and Ratio of 52wk high to 52wk low", the red line represents S&P500 index, the shaded column is the 52HL ratio).

The critical level of 0.1 worked perfectly for all the market corrections occurred in 5/2004, 8/2004, 10/2005, 6/2006 and 8/2007. From the chart we can see that entering 2008, the 52HL ratio readings indicate two characteristics: 1.) Very negative breath, throughout 2008, the numbers of stock with 52wk high almost were always lower than than 52 week low, represented by ratio less than 1 (represented by area below the horizontal axis=1); 2.) The 52HL ratio reached all-time lows, less than 0.05, in three occasions (Jan, March and July) this year. As matter of fact, there were only 44 stocks hitting 52 week high on both 7/3 and 7/7, a level we had not seen for the study period (10/25/2002 - 7/16/08), and the corresponding 52HL ratio were 0.03 and 0.04 respectively. The lowest of reading on 52HL ratio was 0.02, only occurred once on 1/22/08 and the next lowest was 0.03. Even mathematically it is possible for the 52HL ratio going lower, it won't be surprised that the worst case scenarios may already be priced in the markets, and the extreme negative sentiment on July 4th weekend may become a turning point.

The second market sentiment measure, AAII (American Association Individual Investors) weekly bullish and bearish statistics. AAII % bulls or bears had not proved to be reliable indicators for the short-term market direction. But the extreme readings, especially the % bulls provided some valid indication for market momentum shift. Using the data from last 10 years, % bull readings dropped below 23 only four different period times, 98 emerging market currency crisis, spring 2003 the bottom of tech bubble bear market and spring 2005 unwinding JPY carry-trade, and current subprime crisis (see the chart below, black line represent S&P500 historical price, green line is % bulls and red line is %bears). In all three previous occasions (marked by blue circles), the reading below 23 for %bulls pointed to the bottom of the equity markets (represented by S&P 500). Is this time going to be different from previous three? It is possible, but "history may not repeat itself, but it does rhyme" (Mark Twain). I do love the risk-reward for the current market if you are not in the market for a quick buck or two.

Lastly, when you examine the massive negative media hoopla on the current market distress, you have to wonder its impacts on the psyche of investors and hence the aggregate markets. The chart below was generated by using Google Trend, it shows the Internet traffic of "bear market". The search traffic and news coverage hit the all time high at the July 4th weekend. It is general consensus that economy probably won't accelerate this quarter, but the key question probably should be how bad the economy has been priced in the equity markets. Comparing to alternative asset classes, especially bond market, equity looks like a bargain for me.

The missing link

2008-07-19T21:16:00.000-04:00

Since reaching all-time high of 13.31, natural gas has joined with crude oil beginning their equally breath-taking downward spiral as when they marched up at beginning the year. In my early post (7/4), I made a case that natural gas might have much room left to continue its upward momentum comparing to crude oil. The arguments were partly based on the futures market data on Henry Hub (HH) natural gas futures swap that the speculators have incremental increased their bullish bets (net long positions) since starting of 08. There have been no signs that the smart money reduce their bets on long side based on this Friday's CFTC release, granted the net long positions declined somewhat but still on significant on the bullish camp. This really puzzled me considering the size and momentum of long positions on the HH natural gas swap futures market. If the momentum for natural gas has shifted, we certainly would expect the speculators, if not lead the pack, at least join the crowd. This seems don't make a whole lot sense at all.

When I studied the plain vanilla crude oil futures and options data from CFTC, I was even more puzzled with what I found. The results were almost perfect opposite to the HH swap futures data (see the chart below, the red line is HH natural gas spot price and the shaded area represents the net futures and option positions).

As the chart indicates that speculators in the futures and options market have increased their net short positions since the beginning of last year, a startling contrast to HH natural gas swap futures market. The wager on the natural gas decline has accelerated entering 2008 and current net short positions almost were almost triples from the beginning of 2008.

This really presents a interesting and confusing situation. On the surface, it seems that the speculators of HH natural gas swap futures market express total opposite view (very bullish) to the strong bearish positions of the speculators at plain vanilla natural gas futures and options market. How can this be? Is something missing here? Is possible the so-call non-commercial "speculators" in the HH swap futures market not true speculators but commercial users or the so-called index speculators (they typically only hold the long positions and roll the contracts) ? Hope someone can provide more insights.

Close to the bottom

2008-07-13T22:06:00.000-04:00

The dramatic equity pricing gyrations, the spike of VIX (briefly broke 30 intraday on 7/15) and heavy trading volumes on Friday just might be the early signs that the market is inching closer and closer to the near term bottom, if not the bottom, many have been waiting for or expecting in the last few months. If there is any bright spot in this seemingly dismal markets from a contrarian perspective, then looking no further than the equity futures markets.

Even the market looks and feels horrific, the smart money has significantly reduced the bets on declining S&P500. This Thursday's (7/10) release of the exchange short interests shows that short sales on both NYSE and NASD declined in the late June. And most importantly in the futures market, the non-commercial users, or so-called speculators, have significantly increased their wagers on the S&P 500 turn around, at least in the near term. The speculators have maintained net long positions on S&P500 index since 6/24 for 2nd consecutive weeks. In the latest CFTC filings, speculators have increased net long positions from 5,320 to 17,372 contracts. The last time that the speculators were in net long positions on SPX is exactly 13 months ago, 5/22/07 (see attached chart, the red line represents the weekly historical SPX closing price and shade column is speculators' SPX futures net positions).

Chaos creates opportunities and 24/7 real-time media and "marketing" certainly make any good news a great news and bad news would be close to the end of world. It can not get any better than this.

What really Happened?

2008-07-13T17:01:00.001-04:00

The fear of Fredie Mac (FRE) and Fannie Mae (FNM) might go under and seems never ending worries of financial system health created chaotic trading on Friday (7/11). On this very "scary" and almost panic market with VIX almost hit 30 intraday, one would fully expect to see the capital flow to the ultra safe US treasuries. However, on the contrary, across the curve, the treasuries tumbled as soon as the equity market opening bell rang, 10yr note fell 1-10/32 and yield shoot up from about 3.80% to close 4.00%, while the Freddie and Fannie bills and notes as well as fixed MBS were attracted quite some interests. For example, the spread of 2-yr agency note to treasury was tightened almost 20 bp from 71.4 bp on Thursday to 52.0 bp on Friday, while on 10 yr part curve, the spread was narrowed from 101.6 to 86.4. Freddie and Fannie CDS were also tightening but not widening. It is amazing to see the risk premium was declining when the risk of underlying companies seems at the highest and almost unthinkable if the market is "efficient."

The popular and convenient explanations for the tumble of treasuries and relative strong performance of agency debts were the possibilities (hope) of the government intervention and rescued both Freddie and Fannie to save the debt investors at the expense of existing equity investors. This sounds logical but can not explained by the fact the treasury sell-off was never stopping from the beginning of early morning, a far earlier than Reuters news story the Fed might open the discount window to both firms. Was the market telling us that the government is for sure going to step in for rescuing or something else? Could this possible that the market sentiment has hit the bottom and some of capitals rotate out of the most over-valued asset class, namely treasuries, back into equity market?

Credit Concerns?

2008-07-09T20:11:00.001-04:00

One of today's market headlines from a major outlets read something like "... stock market tumble.., treasuries rally .. on concerning credit issues and housing markets getting worse...". If this obvious and convenient explanations can hold any water, we would expect to see the credit products, like corporate bond, agency note and MBS, spreads to treasury should widen comparing to yesterday (obviously not credit concerning day). Well, the prices for agency (FNMA, FHLMC) 15 and 30 yr fixed rate MBS have been rallied along with treasuries and the yield spreads of current coupon 15 and 30 yr MBS to the 10 yr treasury declined from declined from 158 bp and 201 bp to about 134 and 189 bp from yesterday. The agency bullet spread over treasuries were also narrow, and same can be said on corporate bond yield curve too. I had hard time to find the credit "concerns" that lead to today's equity sell-off.

It is our human nature to identify the CAUSE when something happened. Certainly there is no exception for the media reporting on financial markets. The linear relationship between "cause" and "effect" rarely exists except on the textbooks.

Just the beginning ?

2008-07-08T22:20:00.004-04:00

As mentioned in my previous post "Natural Gas Momentum Marches on!" in this blog that even though the "speculators" have remained net long futures and option positions in NYMEX (see chart below) based on the data from CFTC as last Tuesday (July 1st), the outstanding contracts for long positions, however, have been closed out continuously in the last 5 weeks. The total contracts of long position declined from over 260,000 to

just above 210,000. At the same time period, the short positions remained at relatively consistent level of about 190,000.

The nearly $10 slide of Western Texas sweet crude in last two trading sessions (7/7 and 7/8) hardly can be explained by the popular media/talking head's hypotheses, namely dollar related trade, China/India growing demand/limited oil production capacities, mid-East geopolitical tensions etc. True, the greenback has been strengthening since ECB indicated the 25 bp increase on 7/2 might be enough to fend off inflation pressure, but the strengthening of dollar from about $1.58 to $1.56 against the Euro would be a real stretch to account for the crude movement. The notion that crude market SUDDENLY woke up on Monday and realized that global economy is slowing down or worse the global economy may be in the recession is just a laughable news media headline stories. It may sound logical and reasonable, but it may far from the true picture.

Is this just the beginning of "hot money" leaving the crude market for the summer vacation or capital rotating into alternative assets with better risk-reward outlook? We may have some indications on Wed, after EIA release its Weekly Petroleum Status Report.

7/9/08
Well, EIA weekly report came out with quite bullish bias, a huge decline of 5.8 millions barrels of crude stocks. Oil responded with initially up almost $2, it seems that raging crude bulls were going to show its muscles again like in so many previous occasions, i.e., any bullish news, rumor or stats, would propel oil to a new higher ground, to recover the $5 loss yesterday. But not today, even weakening dollar was not able to provide much to sustain the early gain. The crude oil gave back early gain and ended at flat line. Another ominous sign for oil bulls this time was that the fireworks show of long range missiles from Iran did nothing to help oil upward trajectory today. That certainly was not good news if you are oil bulls. Or this may be just the beginning that we have been long waiting for the correction of crude "irrational" run.

Natural Gas Momentum Marches on!

2008-07-04T13:25:00.000-04:00

Crude (West Texas Intermediate) spot price has gone up about 51% from $96 to $145 since beginning the year and has grabbed all the attentions and headlines from media, politicians and Main Street alike. Natural gas, on the contrary, quietly has sneaked up over 68% over the same period and got much less fanfare than its “big brother” from general public. However, at the NYMEX, non-commercial market participants (“speculators”) have keen interests and got all their attentions. The speculator’s long positions for Henry Hub natural gas swap futures has skyrocketed from less 560,000 to over 1,400,000 contracts, while the short positions maintain at about 200,000 during the 1st half year. The attached chart (natural gas is represented by red line and the net long position is presented in shade column) shows clear close association between the incremental accumulations of net long positions for the speculators and spot prices for Henry Hub natural gas. It seems that upward moment for natural gas is much intact and no indications to abate at all.

In the last decade, on average crude oil was traded about 6-8 times over natural gas. If we do assume the regression to the mean does hold here. Current 11 times crude to natural gas ratio could mean that 1) natural gas keeps moving up if crude remain relatively stable level, 2) natural gas accelerates faster than crude oil if oil continues the current upward trajectory, 3) certainly natural gas may also decline from bearish statistical/economic data or simply capital rotation out of natural gas and lock-up the gain and heading for beaches at Hampton for the summer, and or 4) the commodity bubbles finally burst and both crude and natural gas along with metals and agricultural commodities all spiral downward. And certainly some unexpected extraneous events could happen and change everything.

One of caveat, though, even the seemingly unstoppable crude upward movement, the crude speculators have been continuing closing out their bullish bet (NYMEX speculators crude long positions declined from about 260k to 210k) in the last month, while their short positions remain at about 190k level. This may be not a good sign for the oil bulls out there.

What will happen next, that is always the most important question.

Dollar and crude oil price

2007-11-12T13:36:00.007-05:00

The skidding of dollars against the major foreign currencies, especially Euro were constantly blamed for the seemingly unstoppable skyrocketing crude oil price. The logical explanation for this relationship often quoted was that crude is traded in dollar and the weakening the dollar is the major reason the higher crude oil and hence gasoline price paid at pump.

If the arguments for this negative relationship contributing to a high crude price. We would expect a significant correlations between crude price and dollar strength. Are there any significant correlations between oil and dollar?

Regressing crude price with dollar index (DXY), we did found the strong negative correlations between the two beginning early 2006 up to now. The correlations reached to the highest at -0.96 today. However, this relationship were neither stable nor constant over time. We can see from the attached chart (the green area represents positive correlations and red areas indicated negative relationships.) In 2005, crude price positively correlated with dollar, prior to that we saw a period of negative relationship in 2004. It seems that the correlations alternative between positive and negative during the last 5 years.

There is no question that correlation between dollar and crude prices became much stronger in the last year or so. But this correlation didn't mean that the depreciation of dollar caused the rising of oil price. The rising of oil price may be many different forces at work and dollar depreciation is certainly not helpful.