Which Way Wednesday – Fed’s Balance Sheet Hits 25% of GDP

Which Way Wednesday – Fed’s Balance Sheet Hits 25% of GDP


That’s the size of the Fed’s balance sheet in relation to the US GDP. It’s gone from 6% in 2008 to 25% in 2015 so 19% in 7 years is 2.7% or about 180% of our 1.5% average GDP growth over that time. So all the money being printed by the Fed isn’t just responsible for the stock bubble because, without it, we’d still be CONTRACTING!

That’s why the markets get the shakes every time the Fed even hints at withdrawing what is still currently $65Bn per month that is being rolled over each month. If they stop rolling it over, that $780Bn/yr (4.3% of GDP) will have to come from somewhere else and, unfortunately, there is nowhere else for it to come from. Certainly don’t look to China, who have their own problems and just this morning disappointed their banks by failing to roll over $108Bn in 3-month loans that were supposed to be a “temporary” fix in March. Clearly the PBOC would rather not go down the Fed’s path to monetary madness if they can avoid it.

clostThe lack of a Chinese debt rollover tightens liquidity that’s already strained as 25 initial public offerings lock up funds and at least five regional governments sell bonds this week. The PBOC may add funds to the financial system by cutting lenders’ reserve requirements or in open-market operations – it remains to be seen how they rearrange the deck chairs on the titanic.

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Nonetheless, we took the money and ran on our China ETF (FXI) July $50 puts yesterday in our Live Member Chat Room as they hit the $3.95 mark, which was up over 100% from our $1.90 entry on 5/21. Our goal had been $45 by July and that would have been $5 for a $6,200 gain on 20 contracts in our Short-Term Portfolio but given the chance to take a $4,100 gain after less than a month with more than a month to go was the proverbial bird in the hand for us – especially as you never know when China will do something else to prop up the markets. This also, of course, terminates the FREE TRADE IDEA we gave you on 5/11 (“Market Manipulation: China’s Third Attempt“), when I said:

We have some China Large-Cap (NYSEARCA:FXI) June $50 puts in our Short-Term Portfolio and we’ve been hoping for a chance to double down at $1 since 4/21. I doubt we’ll go lower than $1.20 but it’s going to be tempting at that level as previous Monday pops in FXI have quickly corrected.

clostWith FXI at $46.99, those puts are $3.10 and up 158% from the $1.20 entry (you are very welcome!).

The same goes for our own Fed so we covered our aggressive S&P Ultra Short (SDS) hedges with some short calls that will hopefully pay us $4,200 come Friday if SDS is under $20.50 (now 20.45 with the S&P at 2,096). We were simply playing for the bounce we expected by selling the June $20.50 calls for 0.42 (100 contracts) to cover our long July $20 calls (same).

To offset those short calls, we took a quick short on both the S&P (/ES) and Russell (/TF) futures this morning and made less than we though, but a little is good because it means our option hedge is still on track as /ES held 2,090. We’ll continue to use Futures to offset a loss on the short SDS calls if that line breaks but, ultimately, we’ll roll the short calls to a July vertical if the S&P breaks below 2,080, which would be a sign of trouble for sure.

Which Way Wednesday – Fed’s Balance Sheet Hits 25% of GDPSpeaking of which, yesterday was a low-volume, BS rally but techincals are technicals and the bounce lines on our 5% Rule™ now look like this:

  • Dow 17,850 (weak) and 18,000 (strong)
  • S&P 2,090 (weak) and 2,100 (strong)
  • Nasdaq 5,025 (weak) and 5,050 (strong)
  • NYSE 10,970 (weak) and 11,050 (strong)
  • Russell 1,250 (weak) and 1,260 (strong)

Generally, we’re looking for 3 out of 5 green or red to tell us which way things are going. Since we made 4 of 5 of our weak bounces yesterday (as we predicted in the morning post), now we’ll need to see those hold for 2 straight sessions while we also need to see 3 of 5 strong bounce lines taken (and held) in the same period or we’ll be flipping more bearish.

As you can see from Dave Fry’s SPY chart, the volume in yesterday’s “rally” was pathetic and most of the volume into the close (1/3 of the day’s total) was selling. We have our Fed Statement at 2pm today and that’s keeping the Futures afloat as our man, Hilsenrath, has been hinting the Fed will be in no hurry to raise rates as they downgrade their economic forecast once again.

clostJapanese Imports were down a pretty shocking 8.7% this morning and that’s why we haven’t taken off our EWJ short position yet, though the Nikkei has been bouncy at 20,000 so far. We have the Japan ETF (EWJ) July $14 puts that we picked up for 0.90 back on May 18th in our Live Member Chat Room (see “Japan GDP Not Strong Enough – Now What?“).

Those are already $1.18, up 31% in less than 30 days and it’s a reflection of our feelings on Japan that we chose to take our China gains off the table and let the Japan shorts ride. If the Fed backs off easing, that should weaken the Dollar somewhat and that will strengthen the Yen and the Japanese markets never like that. If the Fed tightens and the Dollar goes higher, the US markets won’t like that and that should mitigate any enthusiasm Japan would have over a weaker Yen.

Meanwhile, it’s do or die today for the S&P as it bounces between the 100 dma at 2,090 and the 50 dma at 2,105. These are indeede “interesting times” and the Fed needs to deliver the goods to get us out of this downtrending channel. Despite yesterday’s rebound, the VIX remains elevated at 14.81, which is pretty high considering the recent range but certainly no indication of panic.

In fact, Bloomberg’s poll of 15 top European Stock Strategists couldn’t find a single bear in the crowd. Not even a neutral. All 15 of the forecasters had lowered their forecasts for the end of the year but all 15 still thought we’re end up higher than we are now, despite Greece, despite Italy, despite slumping German Confidence…

Of course, that’s what they are SAYING – what they are doing is a bit different as BAC is showing that EU Fund Managers have increased their CASH!!! allocations to 6-year highs. This is kind of like when GS goes on TV and tells you to buy oil while sending out a private letter to their HNW clients telling them to dump oil on the suckers they reeling in on TV. Happens all the time…

“It’s all heating up here,” Nomora’s Bahrke said. “If we’re in July and we don’t have a deal, I would expect some nasty volatility around European assets. This will also affect central banks and how the Fed thinks about external factors. It’s decisive for European assets.”

That’s why the EU can still be SHOCKED if Greece actually does fall apart and leaves the EU. No one is seriously entertaining the idea because the repercussions are simply too horrible to contemplate. So, like good ostriches, they are keeping their heads firmly in the sand to ignore the danger – much like US traders are doing as well.

But don’t worry, the Fed will fix everything….


Provided courtesy of
Phil’s Stock World.

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Philip R. Davis is a founder of Phil's Stock World (www.philstockworld.com), a stock and options trading site that teaches the art of options trading to newcomers and devises advanced strategies for expert traders. Mr. Davis is a serial entrepreneur, having founded software company Accu-Title, a real estate title insurance software solution, and is also the President of the Delphi Consulting Corp., an M&A consulting firm that helps large and small companies obtain funding and close deals. He was also the founder of Accu-Search, a property data corporation that was sold to DataTrace in 2004 and Personality Plus, a precursor to eHarmony.com. Phil was a former editor of a UMass/Amherst humor magazine and it shows in his writing -- which is filled with colorful commentary along with very specific ideas on stock option purchases (Phil rarely holds actual stocks).
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