Last week my brother and sister in-law took their family to Lake Louise in Canada’s historic Banff National Park. Ski season was winding down, but my brother-in-law and daughter headed to the slopes for some spring skiing. At one point they were separated. My niece skied down to a lift only to find it closed. When she asked why, the lift attendant responded there was a grizzly bear sighting. “Geez, I better let my dad know” my niece thought to herself. Well, little did she know there was no need to tell her dad.
My brother-in-law does not often ski and he had unfortunately fallen. While he was getting himself back together, out of the bush wandered a big grizzly. Although Lake Louise is one of Canada’s most famous ski hills, it is also a National Park, and the authorities do not move bears unless they are direct threats to humans.
Higher up the run, another skier watched in horror as the grizzly who had just woken up from the winter’s hibernation, headed towards my brother-in-law. After calling 911, the skier took a video of the incident. Although you can scare away a black bear with loud noises, for grizzlies, calm retreat is generally the best option, so there was no way for the other skier to help.
Luckily the grizzly decided to leave my brother-in-law alone. I don’t know if it was still sleepy, or maybe my brother-in-law’s hairiness resulted in a little professional courtesy, but we are all glad it ended up being a great story as opposed to a nightmare.
The trouble with bears
And that’s the trouble with bears. They are either not around when you want them, or they show up at the most inopportune moments. Bear markets are no different.
Consider for a moment the oil market. Two months ago, after crude oil had plunged from $110 to $27, investors became convinced oil was headed to $10.
This was not an isolated opinion. If you dared suggest oil might bounce you were labeled an idiot who just didn’t understand the oil market.
However nothing like a 75% increase in price to change everyone’s opinion. Suddenly, specs are no longer hoping for the bear market to continue. Instead they have flipped to massively long. In fact, specs are now as long as they have ever been. Have a look at this great chart by energy analyst John Kemp. He aggregated all the different crude oil products to produce a total positioning chart across all the exchanges:
Specs are now longer than the 2013 $110 peak.
The commodity rally of the past couple of months has been vicious and painful for all the deflationistas. The number of wounded bears is off the charts.
I have been lucky enough to be a big inflation bull which has skated me onside with many of these rallies in commodities. But I sense we are due for a pause.
I don’t want to give away too many of my positions, so I am loathe to ring the register on too many hard fought wins. Yet I want some protection if we get a US dollar rally and a subsequent pause in the inflation trade.
Crude oil is vulnerable to a big back up. The fundamentals still stink. There is too much crude oil, and this rally has actually hurt the long term demand supply picture as it has allowed way too many energy companies to survive. When you combine that with the crowded speculative long positioning, you get a market that offers a decent risk reward on the short side.
And I am not limiting my short position to actual crude oil. I am dipping my toe in on shorting energy stocks. The rally in energy equities has bordered on illogical. I know stocks often discount future price improvement, but it has gotten way ahead of itself. I have put a short position on the XOP energy ETF.
I would actually prefer to be short pure North American oil plays as I am still constructive on natural gas. In the mean time, until I figure out individual names, I am leaning short XOP and crude oil.
Although I am shorting crude oil, I am still long way too much other commodity plays. By no means am I thinking we are returning to some sort of deflationary feedback loop like we saw in early January. I just want some insurance and think the crude oil market offers a good opportunity.
But remember, bear markets never show up when we want. Just ask my brother-in-law…
Thanks for reading,