What Does A Melt-Up Look Like?
Currently, the stock-bond ratio is 3-standard deviations above the 3-year moving average. The angle and duration of the ascent have all the earmarks of a “melt-up.”
“A melt-up is a sustained and often unexpected improvement in the markets, driven partly by a stampede of investors who don’t want to miss out on its rise, rather than by fundamental improvements in the economy. Gains that a melt-up creates are considered to be unreliable indications of the direction the market is ultimately headed. Melt-ups often precede meltdowns.” – Investopedia
Investors Really Are “All In”
The “melt-up,” as noted, is driven by investors piling into equities under the assumption they are missing out.
Will the mid-month VIX pattern hold yet again?
The graph of the VIX (volatility) below highlights a fairly reliable pattern that has been occurring mid-month for the last year. As shown, VIX tends to decline into the middle part of most months, rally sharply for a few days, and head lower again. The pattern has been especially pronounced the last three months. One likely cause is the combination of mid-month options expiration and low volumes. The volume of trades needed to cover and roll options contracts may be enough to push volatility higher at these times.
September is thus far looking to repeat the pattern. A nice short-term trade may again occur if VIX approaches the 16.00-16.50 range later next week. 16 has been the recent floor so if you do get long the VIX and try to take advantage of the pattern, keep risk targets in place below 16.
Deteriorating Optimism
The Citi Economic Surprise Index continues to decline. Any reading below zero denotes economists’ forecasts are too optimistic.
The recent string of weaker economic data has caught them off guard. Despite the implications of weakening economic growth, the positive correlation between the graph and stock prices has significantly deteriorated over the last year.
Taxing Stock Buybacks
An idea floating around Democrat circles in Washington is taxing stock buybacks or treating them as taxable dividends. Is it likely? Probably not, given the massive lobbying efforts of corporate America. However, if they are able to pass such legislation, a key driver of stock prices may have a limited effect going forward. While we think the odds of passage are low, this bears watching closely.
