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2.13.2019 - Free Investment Newsletter Bookmark

Wag the Dog


First off a note that should make you all pretty happy. This letter will be much shorter than my usual rants. Evidently I hurt my wrist pretty bad Sunday, and had to go to the urgent care on Tuesday to get it looked at. I’m pretty resistant to pain, but this became unbearable.   So, I’m in a soft wrap cast, and typing is, well, frustrating. ( and painful)



So I got a question from a reader asking the correlation between the futures, the S&P and the SPY. I think it was in response to how I was saying that the Plunge patrol was/is the main reason behind the 8 week “melt up” in the market.  I mentioned that they use the futures pit for their handiwork.


First, is the plunge protection team real? Yes, absolutely. For years we’d be called conspiracy nuts for even mentioning something so “out there” but as time went on, people realized that there’s a group called “The presidents working group on Financial markets.”  This from the NY Post:

The President’s Working Group on Financial Markets was created by President Reagan in March 1988, when he signed Executive Order 12631.

If you are old enough, you will remember that the stock market nearly crashed in 1987, and it left investors stunned.

The Working Group had three jobs, all seemingly pretty vanilla.


It was to “identify and consider” the major issues surrounding the near-crash of ’87; “consult, as appropriate, with representatives of various exchanges, clearinghouses” and other Wall Street bodies; and — last — report to Reagan within 60 days and regularly afterwards on its progress and recommended changes.

In other words, it was to be a liaison between Wall Street and Washington to keep bad things from happening.


Well Vanilla doesn’t fit the bill. These guys do a whole lot more than consult. They manage the market when things get iffy. They have almost unlimited funds, but they hide their games pretty well.


If you remember, the market puked big time in December. It fell faster and further than any time since the Great depression. Because of that, Steve Mnuchin got the “boyz” together to “fix” things.  Oh and fix things they did. Literally from the day of that meeting the market has gone straight up, barely pausing along the way.


So how do they do it?  Well, there’s a lot of things they can use, but their favorite is via the futures market. Don’t you wonder about those “out of the blue” gigantic futures buys that we often see when the market’s in a funk? Well, wonder no more.

Okay, so why do they use the futures market to move the stock market? One is that there’s a ton of leverage via using futures. Because of this leverage, one only needs about 3 - 12% of the actual contracts value. So for a relatively small amount of outlay, they can buy an outlandish amount of the actual futures contracts.

Now enter arbitrage. When the algobots notice a bunch of futures contracts being bought up, it gets them excited about the idea that some form of good news is coming. So, they fire off stock buys, to get the spread between the futures and the actual stock price closer.


Think of the concept of ‘shoot first and ask questions later”. When the machines see that big volume of futures contracts being bought, they blindly buy the underlying stock, thus driving up the stock prices. Now, when we’re talking about the S&P, “E-Mini” if they’ve bought S&P futures to goose the market, it’s the S&P basket that gets bought. However, not all the Arb’s have the ability to buy the S&P index itself, and some of the buying gets funneled into the SPY, which is the EFT proxy for the S&P.


As far as the S&P vs SPY goes, The SPY is supposed to trade for 1/10th the value of a share of S&P. Theoretically if the S&P was 10 bucks, the SPY would be “one buck”.  But it’s not always that simple. Because of incidentals ( stocks paying dividends, interest rate discrepancies, timing, etc) it’s rarely an exact science. Again if the S&P is 10 bucks, the SPY might be .97 cents or 1.04. And that can swing up and down during the day. The bottom line is that it “loosely” tracks the S&P by a 1/10 ratio.


Obviously if the Plunge folks are buying S&P futures and the S&P moves higher, then yes the SPY will move higher also.  This is the mechanism that the Plunge folks use to divert a big market plunge. They use enormous leverage to buy futures, the algo-bots see the spread widening and buy the S&P, and because the SPY mimics the S&P, it moves up too.


I hope that helps explain how Uncle Sam and his “boyz” can influence the markets, and why you often see very curious “out of the blue” stock moves on horrid down days.


The Market:


Every day we get some form of ‘news” about the China/US trade and the market pops higher in anticipation of a real deal. Eventually we’re going to have to get something solid or it’s going to be akin to crying wolf too many times.


Yesterday we had a big fat up day, and today they looked like they were  going to really pour it on again.  But after seeing the DOW flirt with + 240 points, it couldn’t hold such lofty levels and we cruised into the close up 117.


One of two things is going to happen shortly. Either we’re going to get a China deal and the market’s going to love it so much we soar and possibly challenge the all time highs, OR… we get a deal, and just like the old market adage we’ve “bought the rumor and sold the news.”

I can harp about how extended the market is, how overbought it is and go on whining for ages. But this market is controlled with deep pockets goosing the futures market when they want to. Look at the Volume on the SPY again today. Only 61 million shares on a day when the S&P was up 8 points. That’s pretty mediocre volume. In fact, there still tends to be more money coming out of equity funds than are going in. So, who’s buying??  I think we know.


A couple weeks ago, I sold my SPY position. It was up over 10 bucks a share for us and we figured the bounce was getting long in the tooth. But I did write to you all that since the market’s main focus is to confound as many people as possible, the thing that would “hurt” the most amount of people is if it kept climbing higher.


That way, all the people that got short the market when it looked like the run was over, would have to cover for even higher prices. Well that’s just what happened. I bailed out too soon and they just kept on jamming things higher.

I’m almost convinced that if we get a China deal, the market will rejoice, but very possibly only for a short time, and then just when everyone’s in looking for the big run to glory, they yank the rug and pocket some profits.

It could be a big run however. It could be substantial, sucking everyone in that was/is doubting the run so far. So, if we get it, we want to be in it. But we don’t want to just buy and hold it, we want to watch it close and hopefully get our profits out before the rug yank. 

We should know the “do or die” by Friday. The high level talks with China are tomorrow, and into Friday am. If we don’t’ hear anything substantial by Friday afternoon, things could get dicey. So it’s sort of do or die time tomorrow and Friday.

I’m betting on a deal substantial enough that they like it, but not big enough that it sends us to new highs. Stay tuned, we’ll know soon.

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