Thursday, December 29, 2016

The Mega Fractal Turns In The Markets I Wrote About In June Have Made Themselves Known

Back in June I posted "Fractal Condition of Several Key Markets At Mega Turn Points" where I submitted that there was about to be a big turn into either bull or bear mode (I was thinking bear at the time) and since then, these markets have indeed made a decisive turn. I have reposted the original article in black, and I have added in red what each of these has done since June.

Recently I wrote an article on gold's fractal dimension showing that it had built to a high level not seen for at least 10 years. Well you may be scratching your head asking "fractal what?" I briefly explained that it is a "high math" way of quantifying any moving object's reversion-to-mean force after it has been in a trendless state for awhile.

For something that can be charted, like a market, there are two dimensions. The fractal dimension at any point is a mathematical summation of something's behavior as either something that can be described with one dimension (a strong, straight-line trend) or by two dimensions (a meandering, chaotic range). Thus the dimension is calculated as being between 1.0 and 2.0 (between one and two dimensions).  We typically just take the decimal portion and refer to it like basis points.  So a fractal dimension of 1.35 is just called "35".  This "line vs chaos" thing in theory happens at all different time scales, minutes, years, what have you, and you have to divide all this rightly for it to mean anything in the scale that's significant to you.  The guiding mantra of all fractals is always "same thing, different scale". 

This also applies to the geometrical rescaling and repeating that markets tend to do.  Back in early February, I wrote an article, "Gold's Bull/Bear Status" on gold's apparent "new" bull market, which is likely just a repetition of a rescaled, typical, and oft repeated bull market fractal that is really all one bull market

Anyway, enough math.  After looking at gold, and seeing that it currently has a very unusual fractal condition, I looked at several other key markets and found that there is a similar fractal abnormality in them as well. First, let's look again at gold: (click on image to view)

As the graph shows, gold is currently at 55, highest in 10 plus years, presaging a very strong trend coming, either up or down.

Since June, gold has moved down from the top of the range shown, but the fractal dimension is still at 55. So gold is still moving in a range, undecided how to dissipate the 55.

Gold is linked to many other markets, so let's take a look at the US dollar with this measure:

"Historically unstable" would be a good description of the dollar's fractal behavior since the 2014 power move up and subsequent chaotic range. The peg-to-peg gyration from 30 to 60 is very unusual for a major index, especially a supposedly stable currency, even on the weekly scale as this fractal dimensioning is calculated.

Since June, the dollar quickly reversed this formation break back to the upside, reflated the fractal dimension back to 60, and the dollar has been on a tear since, dissipating its fractal dimension down to 45. 

Of course gold is also supposed to be an inverse play to the stock market, although I beg to differ with that take as there have been extended periods with both rising gold and stocks, with 2002 to 2007 being a prime example.  But historically, and especially lately, gold is inversely related.  So let's look at stocks via the Russell 2000, because it is a broad stock market and it is a leading group. Let's calculate some fractal dimensions:

Amazingly, we find that the stock market is also jam packed with the highest fractal energy level in over 10 years.  But just from this, we don't really know which way it wants to go, up or down, from looking at these graphs as they just show its fractal condition. 

Since June, the Russell has blitzed to the upside, deflating its dimension down to 52. This is still very high for a major index and suggests a lot more upside to come.

Is there something that we could check that could be more suggestive of the direction ? 

Consider copper.  "Every bull market has a copper top" is ancient wisdom, noting that copper puts in a top somewhere in the late stages of a bull.  And it is referred to as Dr. Copper because it has a PhD in economics.  It did indeed peak clear back in 2011 before the transports, European banks or any other leader.  Copper has put in attempts at bottoming ranges amidst a pronounced decline, and recently it has attracted attention to the $2.00 level as a major line in the sand.

There is the technical read where $2.00 is a Fibonacci level.  But then there is the basic fact that the world's biggest trafficker in dangerous derivatives, Deutsche Bank, is highly levered to Glencore, and Glencore is very highly levered to copper staying above $2.00 a pound.  An article, from Business Insider recently explained "Barclays: Glencore Is In Big Trouble If Copper Gets $0.30 Cheaper".  Copper was $2.34 at the time. The article states at the top:
Glencore is a strange hybrid company, both a commodities trader and a mining company, and it has a complicated balance sheet loaded up with different kinds of debt.  There are a lot of different ways to analyze the company but perhaps the best way to think of it is like a bank that's hitting a crisis, like Lehman Brothers ... if the price of copper falls below $2/lb, you begin to get some seriously sweaty palms in Glencore's finance department
If this level gives way, it will be a serious debt problem with the banking system.  And because $2.00 is also a psychological level, breached only in the March, 2009 and January, 2016 market debacles, it would also involve a confidence shock to all the other markets.  In fractal terms, this is how copper looks now:

Each of the ranges in the decline where the fractal dimension went to over 50 resulted in a sharp collapse downward.  The $2.00 per pound line in the sand is right at the red arrow I've drawn illustrating the current range.  And currently we have copper at a fractal dimension of 55, the highest of the entire decline, strongly suggesting another sharp drop, this time through the $2.00 barrier.  Of course, the direction could be up from here, but there is a very strong primary trend at work with copper, so the more likely outcome of the fractal situation is a continuation of this primary trend. It's showing no signs of reversal.

Since June, copper's dimension continued to build and slammed hard on 60 (the upper peg) and has since gone into a power climb with current dimension at 45 - still a lot of room to power climb.

Oil is in a similar but much less profound state of weakness.  It went to an extreme fractal dimension of 60 (monthly) in mid 2014 with oil seemingly stable at around $105.  The massive move to $45 in just 6 months that followed sent the fractal dimension to below 40 in a flash.  On the weekly scale, the fractal dimension went to 52 in mid 2015 with oil steady at $60, went back down to 30 as oil plummeted to $28, and is swiftly going back up as oil struggles in the $40s.  It is a similar plateau and plummet progression as copper, but not nearly as fractally strong, and with the primary down trend in question as oil is trading well above its 200 day moving average.

But there is yet another market index with a once-in-10 year fractal event going on where the direction is probably more clear.  Let's take a look at the VIX:

The fractal dimension reacted strongly to the 2008 event with a big build to 53, then a big dissipation clear down to 34.  It didn't seem to react as strongly to the 2011 Greece scare, as if it knew it was just a passing cry of "wolf".  But it has again gone to an extreme level, being violently pegged at 60 for some time now.  So there would seem to be an extremely large move coming. But if it were down, it would be to an absurd VIX level of around 10 or less. 

Not that this hasn't happened before.  We were cruising into 2007 up until March with the VIX at 10-12 before hardly anyone was worried about housing, or anything.  But in our day, this would imply that stock markets will sudden go to a PE of 30, or an unprecedented burst of earnings will suddenly materialize from a weak economy seemingly beyond the resuscitation of monetary policy, the rising debt defaults will suddenly stop from the mountain of shaky loans, interest rates will "normalize", the lion shall lie down with the lamb, and pigs will fly.

Since June, the VIX has stayed pegged about as low as it can go and its dimension is still pegged at 60.

It may not be just your imagination that the global economy, markets, and interest rates are going into some kind of twilight zone. The cold science of fractal analysis backs you up on that.

The collective fractal wisdom is saying buckle your seat belts, and the VIX is saying a big move will either be another big decline in stocks or a sudden trip to nirvana. I guess we could be going to nirvana, but until the evidence is convincing, it may be wise to make some preparation the other way.

Since June, we have gone to nirvana. How long will that last? I don't know, but there is a lot of fractal energy that says enjoy the ride!

If you would like more information on the fractal dimension in markets, you can read the works of Benoit Mandelbrot, who discovered and wrote about this phenomena in all areas of science. He coined the label "fractal" and founded the Chaos Theory approach to analyzing markets.  His book The (Mis)Behavior of Markets has been called "the deepest and most realistic finance book ever published".  There are a few product offerings that give you an FDI (fractal dimension index or indicator) along with the RSI and other technical indicators. One is from QUANTSHARE  Trading
Software.  If you are a programmer, there is code written for this calculation by AmiBroker and others.  You can also use someone's code at MetaStock with their Indicator Builder feature.

Friday, December 16, 2016

From The Makers Of Wal-Mart And Bank Of The Ozarks Comes Bear State Bank

What's up with these regional US banks? So many of them are growth stories nowadays with crazy stock climbs in a weak economy. And that was before the election. Since then, the small banks have been amazing - the best performing group .

Banks are certainly Trump stocks, but there was something cooking with them even before this year. As Thomas Michaud, CEO of the investment banking firm KBW said on CNBC's 12/21/15 interview, "there is a rise of regional champions" going on with merger activity among the well run regional banks looking to grow. Some of these growth stories have been stunning with stocks tripling or more despite junk debt and lack of economic growth.
There is your basic economic cycle. As rates rise, banks will benefit from a return to the classic business model of making profit from the yield curve between deposits and loans. But a big difference in this rate cycle could be our escape from the aberrant zero interest era. As explained in this article, the Fed is now paying interest to banks over the prevailing rate to keep the massive QE flood on banks' balance sheets and out of lending into the economy to prevent inflation from going out of control. The Fed is "bribing" banks to keep a lid on inflation.

This will be $24 billion yearly per 1/4 point rate increase. This was described as a problem back in 2013 as the commercial banks' reserves held at the Fed ballooned to over $2 trillion as noted in the Wikipedia account on this feature of the Fed:
As the economy began to show signs of recovery in 2013, the Fed began to worry about the public relations problem that paying dozens of billions of dollars in interest on excess reserves (IOER) would cause when interest rates rise. St. Louis Fed president James B. Bullard said, "paying them something of the order of $50 billion [is] more than the entire profits of the largest banks."
This fallout from the Fed's tom foolery with creating an artificial market in everything looks like a windfall "subsidy" for the banks. There is another megatrend that makes this development more significant - the drastic shrinkage in the number of banks as featured in a Wall Street Journal piece. Since 1985, the number of U.S. banks has shrunk from 18000 to around 6500 while squeezing deposit assets up from $3 trillion to about $10 trillion.

The weak banks being gobbled up by the strong is making the players left fewer and stronger. On top of that, not all commercial banks get this interest from the Fed, just the ones who are Fed member banks. You have to meet certain qualifications for that, and only about one out of three are member banks. This federally guaranteed largess, being funneled into select banks, is perhaps one reason why the fast growing "regional champions" are doing so great the last couple years. The Trump effect is looking to amplify all this. So we're seeing the post election jumps in these stocks.
I have been very negative on banks in some of my other writings. Have I changed my mind? Well, banks are like Italian families. Some are involved in the mafia and are neck deep in nefarious global doings. And some families just like toughening up their kids as they raise them, like Frank Barone of  Everybody Loves Raymond. They're all tough Italian families - but there is a huge difference in the mortality rate. It's the big global banks I am avoiding. There is a vast difference in the growing U.S. regionals run by tough, smart people, and the big banks drowning in derivatives and bad debt.

But do we want to buy banks into what appears to be a down debt cycle? The gloomy side of banking is centered around the commodity/junk debt problem that I wrote about in my 2015 article "The Debt Cycle And Rhymes of Lehman Brothers". In that article last year, I said of this gloom,"Personally I suspect this lopsided view of next year's stock market will be wrong" and I pointed out that "history has seen stock and debt markets act independently before, and next year [2016] may well be a case of that (hopefully) as was the year 1980." And I made this obsevation:
There we saw a nice climb for stocks even though we were entering the weak economy of '80-'82. The debt cycle was down as with any recession, and in fact snowballed into the Savings and Loan Crisis of the '80s that eventually saw one third of these banks go under! ... 1980 was an election year as is next year. To the extent you believe market forces are politically controlled, you have to put those forces all to the upside for 2016.
After the earthquake in Washington November 9, you must suspect, as in the early '80s, that we could see a down debt cycle with an up stock market, including the best run regional banks not being destroyed by debt.

Enter Bear State. It's a trick to find them before they have done big climbs and attracted attention. I offer Bear State Financial as such a find. It is a Fed member bank. Although it is obscure to say the least, it has started on a growth track being orchestrated by some most able growth people on the planet. It was formulated as a dramatic reorganization of a struggling bank, First Federal of Harrison, in 2011. A corporate raider restructure was done by one Rick Massey. As the Bear State Financial website describes it:
On May 3, 2011, Bear State Financial Holdings made a $46.3 million investment in the Company to recapitalize First Federal Bank. Company Chairman Richard N. Massey led the Bear State group, which brought a new management team to the Bank. In June 2014, First Federal Bancshares of Arkansas, Inc. changed its name to Bear State Financial, Inc. (NASDAQ:BSF). Bear State Financial is the parent company for Bear State Bank.
In the Form SC13D (Statement of beneficial ownership) filed May 11, 2011 in conjunction with this $46 million "investment" in First Federal, it's clear it was a one man takeover by Massey. The name officially changed from First Federal with ticker FFBH to Bear State Financial with ticker BSF in June, 2014. The name Bear State is for all the black bears in Arkansas.
So how has this heavy handed takeover worked out so far?


Not too bad. Overall, there seems to be a turn into fast growth taking hold.

These results, as nice as they are, may not be the star attraction here. It's the Board. The Board of Directors for Bear State is an intriguing mix of success and power with Little Rock's movers and shakers. The Stephens Group, a diversified investment banker, officed in Little Rock, is the largest brokerage outside of Wall Street, New York. It has had a strange, bipartisan habit of rubbing shoulders with presidential power ever since Jackson Stephens attended the US Naval Academy and became friends with Jimmy Carter. He later became financially involved with his administration. Then the "king maker" was a big backer of Reagan in the early '80s and has been given varying degrees of credit for installing Arkansas Governor Bill Clinton in the White House.
Jack Stephens epitomizes winning friends and influencing people. The football field at the US Naval Academy is named Jack Stephens Field to honor him. He underwrote the initial public offering for Wal-Mart Stores. Wal-Mart is now the largest company in the world by revenue. The Stephens Group also had a hand in building Tyson Foods and Alltel into giants. Alltel started in 1943 putting up telephone poles in Arkansas. By the mid 2000s, Alltel operated the largest network in the United States by area. Then Verizon gobbled them up.

Stephens and friends know growth. As the Wikipedia write up on him states it:
Jack began to grow Stephens by providing private equity to many young growing companies, much in the way of the British Merchant Bank investing model, predating by decades the private equity endeavors of Wall Street firms. Jack's acumen as an investor was combined in remarkable fashion with his ability to form enduring personal relationships with his partners. Several generations of companies and business leaders came to know Jack as not only a smart investment banker, but as a loyal and reliable friend as well. Jack's influence grew well beyond Arkansas to the boardrooms of corporate America and to the halls of Washington D.C.
What does this Arkansas power connection have to do with Bear State? Wal-Mart and Alltel are old news with this bunch, What they seem to be into now are regional banks. Many of the growth stories in the regional banks are launching from here including Home Bancshares, Inc. (NASDAQ:HOMB) of Conway and Bank of the Ozarks (NASDAQ:OZRK) of Little Rock. If you peek at what these two stocks have done the last 5 years, you see HOMB growing four fold and OZRK five fold.

Bank Director, the premier bankers' industry magazine, does a yearly ranking of banks by small, mid, and large size categories, and OZRK has held the number one ranking in the nation for the last four years running in its small, then mid size categories including its current number one rank in mid size. They rank the 300 best run banks out of about 6500 banks in the country. That's the top 1/2 of one % - it's an honor to even be in their ranking list.
In the SEC Prospectus filing for the 1997 IPO for Bank of the Ozarks, Stephens, Inc. is the chief underwriter. In this filing, it is amazing to read that the two main banks that came together to form Bank of the Ozarks were headquartered in Jasper, population 498, just a few miles south of Harrison, and Ozark, population 3525, just a few more miles south of Harrison. Wal-Mart's ground zero was actually this same Harrison.

After setting up shop in Rogers, AR, where I live, Wal-Mart's first store in 1962 labored as a local loner for almost 3 years. We didn't even think of it as a chain. Sam Walton himself described it in his book as an "experiment", trying his lower cost mass merchandising in a modest, unappealing building just to see if the concept itself would work. There's an antique mall in there today. I shop there.

They put gigantic "W A L - M A R T" letters on top - the first appearance of this name on a building on the planet. In 1965, when this store proved very popular and profitable, the Waltons began the real building and expansion blitz we know of today, opening over 20 stores between 1965 and 1967 - starting with store #2 in Harrison, population 13,000. The Rogers "store" was still in the flea market as the building spree blasted into the '70s. Stephens took the company public in 1970.

What is it with Harrison anyway? I go over there a lot, and it's beautiful, but it's a real cultural throwback. There's a joke that says if the world were to end, you'd want to be there, because it would end 30 years later. Why does the business elite of Little Rock like launching some of Wall Street's biggest growth behemoths from these backward hills? Is Harrison an alter ego of New York - the phantom Wall Street of the Ozarks?
Will The Phantom Strike Again with Bear State? Little Bear State is also from Harrison. Bear State could now almost be considered a branch of the Stephen's Group. For years before 2011, First Federal was thought of as a "Stephens controlled bank". And this piece from the Bear State website back in 2011 suggests a Stephens orchestrated rescue of First Federal in describing Bear's new board. Both Massey and Scott Ford had been key chiefs at Alltel, and Massey was Managing Director at Stephens for six years.

With Home Bancshares Inc. and Bank of the Ozarks, the role of Stephens was the public launch of those companies. With Bear State in 2011, there was no public launch, First Federal was already public. But Stephens supplied the board leadership that has essentially launched a new company. As promising as Bear State is, you see almost nothing being written about them. Bear State is already on a buying spree as detailed in this story published at Talk Business and Politics when they acquired Metropolitan National Bank last year. This was a quantum leap for Bear State as the MNB banks headquartered in Springfield, Mo. pushed total assets up by about a third, and breached the Missouri state line.
Already, a scant four years from reorganizing a failing bank, they are into the elite Banking Director list at #127 in the small category - a remarkable feat in and of itself. So could this tiny backwoods regional bank be another embryonic Stephens growth beast springing from the Arkansas Outback?  Watching the green Bear State signs popping up in front of banks around here is starting to remind me of the very early days of the Wal-Marts, taking first steps in and around Harrison and here in Rogers, then creeping over the state lines of Missouri and Oklahoma with zero national attention.