It happens…

All our trade decisions are based on three factors:  Probabilities, risk, and reward.  In terms of the overall market, at the start of December we started noticing cracks in the fundamentals that drive these factors, and after only 8 trading days into the month those cracks appear to be widening.

Here then, is our rationale to move into cash and wait on the side lines:

1.  S&P at All Time Highs

The fact that indexes are hitting all time highs is not bearish in itself, however indexes have been making new highs all year long, and in order for large funds to realize those gains to make the year end bonus, they are going to have to sell what they’re holding.   The best forecasts are calling for further gains in 2014, but markets rarely go straight up and it is likely that there will be some corrections along the way.

2.  Correlations and Patterns Breaking Down

We scan over 700 stocks daily to determine trading probabilities and overall market sentiment.  Occasionally we see patterns which historically have been profitable in the past, start to break down or even reverse – this usually happens in individual stocks, but occasionally it will happen across the universe of stocks we scan.   The last time we saw this happen was in October, when after we made the call to move to cash the S&P dropped 50 points in the next 5 days.  Last Monday, we noticed this happen again and tweeted the observation , and this morning Zerohedge posted an observation from Deutsche Bank which supports this thesis.

3.  Signs of Selling

Large funds who need get get out of a position typically sell into rallies so as not to negatively affect the stock’s price.  If you manage billions of dollars of other peoples’ money (or in the case of Norway or BlackRock – trillions), and need out of your position, the best way to execute is to take out smaller buy orders with your own sell orders over a period of time.  In theory, your trading will fly under the radar and will not alert the market to your actions.   Nanex, which analyzes such trading patterns, has observed this practice all week with ‘small lots’ being filled at a higher frequency than usual.

Given these reasons above, it’s a good idea to move into cash and wait for market conditions to be more favorable.  It’s not a Buyer’s market by any means.  It isn’t even a Seller’s market right now – it’s simply a time of year where large fund managers are going to enjoy their gains before the markets get a chance to wipe them out.

We will continue to scan individual stocks and post trades that match our 3 criteria, however we are taking existing positions off the table until markets again can resolve themselves.