Market Outlook for 2018 – Second Half

Six months have passed since we came out with our forecast for 2018. It’s time to revisit these forecasts, recap and make adjustments where necessary.

As a reminder, here are the key points from our article published at the end of December 2017:

The 8020 Investors’ Idea Pool for 2018

• Long Vola! Financial insurance hasn’t been so cheap for a long time.
• Long gold and silver – it’s shiny!
• Short second and third tier companies which profited from theme and ETF buying.
• Short Junk Bonds! They will live up to their name!
• Watch China! We have to get used to the idea that “When China sneezes, the world catches a cold.”
• Short Bitcoin and other Cryptos.
• Oil long.

Market Forecasts for the Second Half 2018

1. Since December 2017, stock market volatility as measured by the VIX index has increased substantially. Coming from below 10 to today at 16.09, with a huge spike in February reaching 35 and higher, is certainly a testament that market conditions have changed substantially from the good years of 2016 and 2017. It is a strong indication that something is afoot that makes investors worldwide nervous this year (see Part 2 – “View from Above”). The VIX might have come down and shorting Vola has been a very good short-term trade, but more sudden spikes are in the pipeline for 2018. LONG Vola at 16.
2. Gold and silver might not have moved much since the beginning of 2018, but these precious metals are meant more as a hedge than an object of speculation. While the continuous dollar strength will cap upside potential, do as the Russians have been doing for months: buy on dips and accumulate your own gold hoard. LONG Gold at $1,254 because it’s still shiny and “cannot be hacked!”
3. Shorting second and third tier companies as opposed to FAANG stocks has worked like a charm. If you include a wider range of segments, we can see a clear trend emerging. For example, European financials, emerging market stocks and second-tier tech stocks have been performing terribly in the first half of 2018. As of last week, Chinese stocks are officially in bear market territory, and this is surprising. Like Saudi Arabia, China has been included in the MSCI index – a big deal as institutional investors will be forced to change country allocations. That hasn’t helped much to support Chinese stocks so far – down 20% from this year’s highs. Several emerging markets have been suffering under a strong dollar, including Turkey, Argentina and Brazil. This trend won’t stop with US interest rates on the rise. In general, stay clear of emerging market stocks and bonds.
4. FAANG will continue to drive major indices – they are the new NIFTY FIFTY and the only game in town. Tech now makes almost 26% of major benchmarks, with FAANGs occupying by far the largest part of that slice. Yet, it’s a very risky strategy going forward. Apple has come down from it’s $950 billion valuations and Netflix lost 6% in one single trading day. The air is getting thinner even for the beloved FAANG stocks.
5. Junk bonds. Just look at how Tesla bonds are trading. With a coupon of 5.3% and maturity in 2025 (Rated B3 by Moody’s), it dropped below 87 this year, currently trading at 88 thanks only to Musk’s frivolous tweets about production goals. The first quarter of 2019 will be the break-or-make year for many junk bonds.  In the first half of 2019, many corporate bonds will expire – what is known among insiders as the “maturity wall.” In other words, those secondary companies that lend money under exceptionally good market conditions will not be able to refinance it at the same conditions next year. Leveraged to the hilt today, this will mean “game over” next year.
6. We already mentioned China and Chinese stocks, and the direction is clear in our point of view. Down! Regardless of what institutional investors will have to do to reshuffle their index portfolios. China is about to sneeze and we all have to live with the consequences (Read “View from above”).

Miscellanies Outlook:

1. Cryptos and Bitcoin: We mentioned that many ICOs will approach zero. Right now we are spot on. With Bitcoin trading at below 60% since its highs last year, I don’t see why it should recover any time soon. Yes, there might be some bullish price manipulation going forward and a few technical reactions will give some short-term hope for “hodlers,” but the real winners have been the “Lambo” owners, if you catch my drift. Those few familiar with the FIFO principle have cashed out already. The rest will have to struggle for months to come as their patience will run thin and forced selling will have become a familiar term among the remaining hodlers.
2. Oil: Interesting developments for crude oil. As expected, oil is trading higher since the beginning of 2018, but much more than we had anticipated. OPEC came to a rare agreement, while Trump encourages Saudi Arabia to increase output. No wonder, if he plans to cut off Iran from global oil markets. It’s the key commodity to watch going forward, as we shall make a case for returning inflation and subsequent higher interest rates.
3. Uranium: Long Uranium miners. The industry has been suffering from declining demand, bad political reputation and consequently shrinking mining capacity. According to industry experts, we have reached a turning point, where demand has been increasing but the supply can’t keep up. China is building nuclear reactors at a rate of 7 to 8  per year. Japan is openly rethinking its energy policy with a possible return to more nuclear power. Higher uranium prices are likely with miners profiting exponentially.

How to Trade the Second Half of 2018

In summary, most of our predictions have panned out so far. Some quicker and stronger than we expected, but that hasn’t changed our general forecast for the second half of 2018. Volatility will continue to be high with occasional super spikes. There is still plenty of liquidity in markets following the adage of “buying on dips,” with an ever-increasing concentration in a few “Teflon Stocks” – the new Nifty Fifty. But with each passing month, the clouds are getting thicker, and they will unload themselves into a thundering blast with long-term repercussions.

We missed explicitly recommending shorting European financials and Chinese stocks. In hindsight, these were clear shorts at the beginning of 2018 – no-brainer shorts, so to say. Instead, we were a bit too aggressive on recommending shorting some of the FAANGs, even though we were fully aware of their trading dynamics. On top of that, we should have given more explicit trading signals to cover our short recommendations when they were trading with substantial book gains. Our Facebook short is a good example when they tanked after the data scandal. On the positive side, our adjustments have already worked well so far, with various new short positions, such as Dropbox, Spotify and other hot but failing IPO stocks.

Going forward, we recommend watching oil and China very closely, as they will prepare us for the coming paradigm shift that we at the Monthly Truffle anticipate within the next 6 to 12 months.

The second half, including the summer months, will be very exciting to watch as recent developments in global politics and monetary policy will begin to unravel a new trend. Sit tight, subscribe to our Monthly Truffle Newsletter and enjoy the coming action!