• "One more thing." -- Lt. Columbo

Cheeseburger, cheeseburger!

Cheeseburger bubble popped? Shake Shack (SHAK) was down $9/share today.

Thanks for reading my Diary today and enjoy the evening.

Accordinng to Deutsche Bank, covenant-lite loans represent 80% of new issuance and are now 60% of outstanding loans!

No wonder Janet Yellen is concerned!

It is time to again review George Lindsay's "Three Peaks and a Domed House." 

Here is Stock Trader Almanac's Jeffery Hirsch's interpretation of where we might be in the Three Peaks configuration. 

Three Peaks and a Domed House

www.tradenavigator.com

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Jeff thinks it is getting more likely that Three Peaks may be developing but he recognizes that the bull market can continue to drag on for some time to come.

Speaking of technical analysis, here are two additional charts that make me fearful:  New high minus new lows is negative, terrible and never rallied much even as we were making all-time highs in the NYSE:

New Highs Minus New Lows

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And then percent of stocks above their 200-day moving average ¿ again, terrible participation with the NYSE having made all-time highs.

200-Day Moving Averages

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New tech is learning the way of rumors.

"Exploring a sale" is the new "actually getting acquired"....

Like "orange is the new black."

Yelp (YELP)

View Chart »

I forgot to mention in my "takeaways" column that there is also growing evidence this week and today that bank stocks will emerge as relative leaders.

As I mentioned yesterday, the recent market action indicates to me that there is a rising probability  that the market's topping process will morph into a more significant market correction at "some point of time."

That said, it will likely be irregular and full of opportunities on the long and short sides.

Today's action has been wild -- with (from bottom to high) S&P futures traveling over 25 handles and Nasdaq futures journeying 65 handles.

So my takeaway from today is that volatility in the weeks and months ahead is going to be substantially higher than in the recent past. (Think about taking  my advice to reduce your portfolio's risk profile more seriously.)

My tactical strategy has shifted from "shorting the rips and buying the dips" to "shorting the rips and holding my shorts in the dips."

• From Sir Arthur Cashin:

The key event of the morning remains the dip in 10-year yields, which puts a bid under stocks. S&P may face some resistance at the 2090/2095 level.

Traders guess the market may avoid any big move today in front of what could be a very volatile payroll day. If payrolls are under 200K, as some are guessing, bonds could spike sharply.

Run rate later.

"Clearly, sustained low inflation implies less uncertainty about the future, and lower risk premiums imply higher prices of stocks and other earning assets. We can see that in the inverse relationship exhibited by price/earnings ratios and the rate of inflation in the past. But how do we know whenirrational exuberancehas unduly escalated asset values, which then become subject to unexpected and prolonged contractions as they have in Japan over the past decade?" -- Alan Greenspan, "The Challenge of Central Banking in a Democratic Society," Dec. 5, 1996

Yesterday, numerous market commentators expressed the view that the Fed Chair Yellen's comments that the U.S. stock market and bond market are overvalued were wrong-footed or inappropriate.

Many went back to former Fed head Alan Greenspan's 1996 "irrational exuberance" statement given in a speech to the American Enterprise Institute. Over time, Greenspan's phrase made its way into colloquial speech as a "catchphrase." Though few heeded Greenspan's warnings (as the market headed steadily higher after his speech) his phrase has been well remembered. 

Some critically recalled Yellen's comments that biotech stocks were overvalued -- right before a sharp climb in the sector's share prices.

Both have now provoked a strong reaction in financial circles. Most of the responses have been critical.

I have a different reaction.

"I would highlight that equity market valuations at this point generally are quite high ... there are potential dangers there ... when the Fed decides it's time to begin raising rates, these term premiums could move up and we could see a sharp jump in long-term rates. So we're trying to ... communicate as clearly about our monetary policy so we don't take markets by surprise." -- Janet Yellen, Finance and Society Conference (yesterday) 

Yellen didn't slam stocks as materially overvalued. She couched and qualified her comments (as did Warren Buffett last weekend) with the notion that stocks were highly priced but were not as expensive as bonds. In addition, Yellen said bond rates could be moving higher in response to future monetary policy moves.

In essence, she has prepared markets for more risk in the future.

To this observer, she had a right to say what she did and spoke her mind in a balanced and thoughtful manner. 

Over history, multiple Federal Reserve chairs have expressed similar views on the capital markets -- as one of the Fed's stated mandates and missions (right on its website!) is to defend our economy against the emergence of systemic risk, to monitor systemic risk and to promote financial stability.

Finally and importantly, I find it hypocritical of the many "free market" ideologues who condemn Yellen's (and Greenspan's) cautionary comments while accepting the notion of the Fed's frequent positive comments (at capital market price lows or after significant market corrections) and those of other central bankers (Draghi comes to mind). 

Stated simply, investors and traders can't have it both ways.

Over the last few weeks, we have gotten a taste for both random price moves and volatile price moves.

In a "two-way market," we should all be adjusting our weightings and size our positions differently.  

When markets get increasingly volatile (like now), it's usually a good idea to reduce your gross exposure (on both the long and short sides) because with the same-sized positions, your portfolio's "value at risk" rises with heightened volatility. As a result, smaller positions have a similar effect on your portfolio's daily profit and loss statement.

I am scaling into more June S&P 500 ETF (SPY) 210 puts on the market rebound.

• Mid-morning musings from Sir Arthur Cashin:

Stocks in minor tug of war between technical damage done in selloff and bullish push from softening bond yields.

Overnight, the yield on the ten year spiked above 2.3%. That drove equity futures sharply lower. Yields then reversed and stocks benefitted.

Barry Habib, who has had a hot hand in bonds, thinks the ten year may be technically set up for a potential sharp rally (lower yields). He thinks a favorable (soft) NFP number could be the trigger.

I am adding to my June 210 SPY puts with a $5.45 limit.

I have doubled my exposure in closed-end municipal bond funds this week.

Thus far. 

Morgan Stanley highlights the rapid cash burn at Tesla (TSLA), something that was one of the centerpieces of my analysis Wednesday afternoon.

When safe haven investments (fixed income) are no longer safe -- can equities be far behind?

This morning, in a span of about three hours, the 10-year German Bund yield went from 0.63% to 0.81% and back to 0.63%.

At the same time, the 10-year U.S. note yield went from 2.23% to 2.31% back to 2.23%.

Both the New York Stock Exchange (at Broad and Wall Street) and the Bond Market (somewhere up in the cloud!) have now become the Wild Wild West.

The shootout might have just started.

"Why, now more than ever, we can ask ...'Is it live or is it Memorex?'"

--Memorex commercial

In the famous commercial in the 1970s, "Is It Live or Is It Memorex?" a taped recording of Ella Fitzgerald singing is essentially indistinguishable by composer and band leader Nelson Riddle from her live voice. 

The $64,000 question is whether the market's decline this week is real or just another fake-out.

As I wrote yesterday I now believe the market topping process is in place and a more serious drop in equities is at hand.

I have been a vocal advocate that artificially low interest rates has been the mother of malinvestment in numerous asset classes (including -- but not restricted to -- lofty stock valuations  , absurdly low bond yields, the proliferation of leverage and covenant-free lending, record high-end residential and commercial real estate values, fanciful private company valuations and, most importantly, in an undeserved faith in our central bankers ).

Yesterday, Fed Chair Yellen checked some of the boxes of malinvestment -- in stocks bonds and in the underwriting standards in leveraged loans.

In the fullness of time, historians will check the other malinvestment boxes that cry out so clearly to many of us.

As I have feared, the Fed is "in a box," the bond vigilantes have taken over the asylum and the "Ah- Ha Moment" is upon us, in which faith in the Federal Reserve is lost. 

Check out my entry on bond vigilantes emerging from their caves, from May 5.

For some of the reasons listed below, this week's market decline is not likely Memorex:

• Rapid Interest Rate Rise. Unlike some of the recent market drops, the bond vigilantes have emerged with a vengeance. German Bund prices have crashed (yields have risen from six basis points to nearly eighty basis points in their 10-year). After decades of inertia, the vigilantes are hungry, and have abruptly wrested control of the markets from Mario Draghi. As I have written, U.S. bond yields have, in fact, ratcheted higher once the anchor of low EU interest rates was lost.
• Valuations Impaired by Higher Rates. Almost every model that calculates market valuation relies on imputing and discounting of a risk free rate of return. Stated simply, high rates increase the hurdle rate and reduce theoretical price earnings multiples in a fair market calculation.
• Weakening Economic Data. Recent high-frequency data in the U.S. and outside of the U.S. remain mixed to lower than consensus expectations. Thus, before this week's downside equity move, the chasm between financial asset prices and the real economy widened ever further.
• Inflation and Inflationary Expectations Rising. Inflation is being buoyed by higher employment compensation, lower jobless claims, a reversal of U.S. dollar strength, rising rents and home prices and higher oil and non-energy commodities prices.
• Too Bullish Investor Sentiment. Complacency, as measured by still-buoyant retail investor sentiment (up until this week) and in (according to ISI) a sharp rise in hedge fund net long exposure, produced a lot of "offside" players who did not anticipate the equity downturn.

All these factors have conspired to produce an unfavorable reward v risk equation -- as  outlined in "There is No Margin of Safety Left".

Finally, downside price momentum -- the last important part of the market puzzle (at least to me!) -- appears to be confirming my concerns

To this observer, this week's market decline sounds real.