False Narratives

A few important things I’ve learned over the years:

1) The prevailing narrative always follows price.

2) Prices can be very wrong at times (the market is NOT always right).

3) When prices are wrong, narratives become nonsense.

4) Chasing nonsense (false narratives) is not an effective investing strategy.

Just before midnight on election night last November, the narrative was decidedly bearish. The odds of a Trump win had surged higher, and doomsday prophecies piled in. What were they based on?

This, and this alone…

S&P 500 futures traded limit down, the Mexican Peso suffered its worst decline since the Tequila crisis in 1994, and safe haven trades (Treasuries and Gold) moved sharply higher.

“The markets are sending a clear message: Trump is bad for risk assets. All of them. Sell everything.”

Tweet by Charlie Bilello forecasting future of markets

By the open the next morning, the narrative already started to change. The S&P 500 had recovered all of its overnight losses while Gold and Treasuries had given up all of their gains. A new narrative was formed: “Maybe Trump isn’t as bad for risk assets as we thought but there’s no possible way he can be good. The volatility over the last 10 hours is a clear sign of things to come. Expect record volatility in the coming months as the market comes to terms with his erratic tweets and more erratic agenda.”

Graph showing US SPX 500 Futures

What happened next? Naturally, instead of record high volatility, we saw record low volatility. The market has a tendency to inflict pain on the maximum number of participants possible, and the pain trade for most participants at the time was a low volatility ramp higher. Following this script, in the months that followed the election investors would witness one of the most peaceful market ramps in history.

S&P 500 consecutive trading days without a 1% intraday move graph from 1962 to 2017

A month after the election, the market had come to terms with Trump’s “policies,” but not in the way anyone expected. Record short-term gains were seen in bank stocks (KBE), financials (XLF), small caps (IWM), and transports (IYT). At the same time, Treasuries were crushed (interest rates spiked), Gold (GLD) was slaughtered, the Dollar (DXY) surged higher, and Emerging Market stocks, bonds and currencies moved sharply lower.

A new narrative was born: “U.S.A, U.S.A., U.S.A.! Trump is going to usher in a new era of economic prosperity for the U.S., with 5% real GDP growth, a boom in building and infrastructure projects, massive deregulation and tax cuts, and trade deals only favorable to America. This growth boom is going to push interest rates much higher (talk of 6% 10-year treasury yields by 2018), push the Dollar much higher, hit safe havens (Gold and Treasuries), and be disastrous for all Emerging Markets, especially Mexico.”

Tweet by Charlie Belillo in December 2016 about the stock markets

Oh, and lest we forget: “Trump is bad for technology, which should be abundantly clear to anyone given his adversarial statements towards Facebook/Amazon and the underperformance of tech shares (XLK) following the election.”

Tweet by Charlie Bilello in December 2016 about S&P 500 sectors since election

Fast forward to 2017 and most of these post-election narratives have faded into oblivion. Why? Because one by one, the initial overreaction on the part of investors reversed course:

1) By late January, Emerging Market High Yield bonds (EMHY) and stocks (EEM) recovered all of their post-election losses.

Graph showing Emerging Market High Yield bonds (EMHY) recovering all of their post-election lossesGraph showing Emerging Market ETF (EEM) recovering all of their post-election losses

2) By early February, the Chinese Yuan (CYB) recovered all of its post-election losses.

Graph showing Chinese Yuan (CYB) recovering all of its post-election losses

3) By late February, Emerging Market currencies (CEW) turned positive.

Graph showing Emerging Market currencies (CEW) turned positive

4) Then it was Silver’s (SLV) turn.

Graph showing Emerging Market Currency ETF (CEW)

5) By late March, Emerging Market bonds, local currency (EMLC) and U.S. dollar-denominated (EMB), recovered all of their losses.

Graph showing emerging market local currency bond ETF and their total return since electionGraph showing USD Emerging market bond ETF (EMB) and their return since election

6) Gold (GLD) reversed all of its post-election losses by mid-April.

Graph showing Gold (GLD) recovering all of its post-election losses by mid-April

7) The Yield Curve (10-year minus 2-year) has reversed all of its post-election steepening and is now flatter since election day.

Graph showing the Yield Curve reversing all of its post-election steepening and is now flatter since election day

8) Bonds (AGG) have now recovered most of their post-election losses as interest rates have moved back to election week levels.

Graph showing the US aggregate bond ETF and their total return since the election

Graph showing long bond yields since election

9) Even the Mexican Peso has recovered nearly all of its post-election losses.

Graph showing Mexican Peso and the US Dollar and their return since election

10) The relative outperformance of Transports has turned negative.

Graph showing the relative outperformance of Transports turning negative

11) Technology reversed its relative losses and is now outperforming since the election.

Graph showing the Technology reversing its relative losses and now outperforming since the election

12) Small Caps have reversed most of their post-election outperformance.

Graph showing Small caps and Large caps and the relative outperformance of Small caps since the election

13) With the exception the few days after the election, financials and bank stocks (KBE) have reversed all of their relative gains.

Graph showing the financial and bank stocks (KBE) reversing all of their relative gains

14) And finally, excluding the week after the election, the U.S. Dollar Index (UUP) has reversed all of its gains.

Graph showing the U.S. Dollar Index (UUP) reversing all of its gains

One by one, as the post-election moves reversed course, the false narratives were exposed. Traders who saw them for what they were, fairy-tales, profited by going against the herd. Traders who chased after them on the belief that “markets are always right” have suffered.

The question for traders today is whether the reversal in narratives persists. Will risk-on trades continue to fade and risk-off trades continue to rebound until we come full circle, as if the post-election moves never happened? I don’t have an answer for that as it involves predicting the future. But given the shift in focus from taxes/deregulation/domestic policy to war/interventionist policy, it would be hard to say such a move would be unwarranted.

Can you make a cogent case that bombing Syria and playing war games with two nuclear powers (Russia and North Korea) is going to help get us to 5% real GDP growth or be beneficial to bank stocks? What about the rush to push forth the American Health Care Act, a truly awful bill that no one had time to read and which had the support of only 17% of Americans? Is that evidence of strategic planning that warrants unrealistic expectations for economic prosperity and multiple expansion? It would be hard to say so.

And so at some point this year (no, I don’t know when), we should not be surprised at all to see a repeat of the initial reaction on election night, with the corresponding narrative in place…

“The markets are sending a clear message: Trump is bad for risk assets. All of them. Sell everything.”

Whether you believe that narrative to be true or false when it comes is up to you. That’s what makes a market.  Better yet, you don’t have to play such games at all, for learning to ignore the narrative noise is a far more valuable skill.


Related Posts:

Manias, Panics, and All-Time Highs

The Market is Always Right?

To sign up for our free newsletter, click here.

This writing is for informational purposes only. It does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction. It also does not offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.



Charlie Bilello is the Director of Research at Pension Partners, LLC, an investment advisor that manages mutual funds and separate accounts.  He is the co-author of four award-winning research papers on market anomalies and investing. Mr. Bilello is responsible for strategy development, investment research and communicating the firm’s investment themes and portfolio positioning to clients. Prior to joining Pension Partners, he was the Managing Member of Momentum Global Advisors. He previously held positions as a Credit, Equity and Hedge Fund Analyst at billion dollar alternative investment firms.

Mr. Bilello holds a J.D. and M.B.A. in Finance and Accounting from Fordham University. He has also done a B.A. in Economics from Binghamton University. He is a Chartered Market Technician (CMT) and a Member of the Market Technicians Association. Mr. Bilello also holds the Certified Public Accountant (CPA) certificate.

You can follow Charlie on twitter here.


Comments are closed.