By Nick Rokke, analyst, The Palm Beach Daily

On January 10, Bloomberg issued the following report: “China Weighs Slowing or Halting Purchases of U.S. Treasuries.”

Turmoil followed…

Over the next hour, yields on the 10-year U.S. Treasury jumped from 2.54% to almost 2.60%. That may not look like much to you, but that’s double the daily average move in this market… And it happened in just an hour.

Here’s the thing… The Bloomberg report made no sense. I’ll tell you why in a moment. But the day after Bloomberg published the report, observers declared the news “fake.”

(Later that day, the AFP news service reported that “China denies report it could halt U.S. bond purchases.”)

I’m not telling you this to complain about fake news. I’m sharing this story because it shows one way rational investors like you and me can take advantage of distortions in the market.

If you look beyond the headlines and can spot fake news, you can find surefire trading opportunities.

How Fake News Affects the Markets

Over the past 5–10 years, trading algorithms (also called trading bots) have taken over Wall Street. These computer programs use mathematical equations and artificial intelligence to place trades faster than any human can react.

These bots have made Wall Street billions of dollars. They give insiders an advantage to trading the news.

And that’s fine… Trading the news hasn’t been a good strategy for 99% of investors.

But here’s the problem with using bots… We’re now in an era of “fake news.”

You see, the artificial intelligence behind these programs may be fast. But they do have a weakness—they can’t distinguish between “fake” and “real” news.

That gives rational investors a chance to outsmart the bots… and profit from their shortcomings.

Bots Can’t Read Between the Lines

Bots don’t reflect on the quality of news. They trade first and ask questions later.

That’s why Treasuries tanked last week. Automated bots dumped U.S. government bonds on the Bloomberg headline alone.

Fake news tricked the bots…

If you’re an investor with a pulse, you can use this to your advantage.

When reading the news, always ask yourself, “Does this make sense?” and “Who stands to gain from this news?”

In the case of China dumping U.S. bonds, the dots didn’t connect.

Why the China News Was “Fake”

China holds almost $1.2 trillion in U.S. Treasuries. That’s more than anyone else in the world.

So, it makes no sense for China to announce that it was “slowing or halting purchases of U.S. Treasuries.”

Let me explain…

If China were to publicly announce it was halting purchases of U.S. bonds, their value would immediately decrease. Everyone knows that.

Ask yourself this: Why would China purposefully lower the value of its holdings right before selling?

That alone should have made you take the opposite side of the trade made by the bots.

But that’s not the only reason to doubt the report…

I’m not going to bore you with the details of foreign exchange… But when China buys U.S. Treasuries, it strengthens the U.S. dollar and weakens the Chinese yuan.

That makes Chinese exports to the U.S. cheaper. Americans buy these cheap goods. And that keeps Chinese factories running.

Not only would announcing this news hurt the prices of Chinese investments, it would ruin China’s economy. There’s no way an “unnamed Chinese official” would announce this news.

Maybe it was a political stunt by China to let the U.S. know it can affect our markets… Trade negotiations between the two countries might get tougher this year.

The only other person with something to gain from this news would be short Treasuries. So, maybe it was a ploy to make a quick buck on the trade. Who knows?

Either way, the story wasn’t for your benefit.

How to Profit From Fake News

Like it or not, fake news is proliferating… And it’s here to stay. Media outlets get more clicks and can sell more ads with sensational stories.

So, we just need to accept it. And learn how to profit from it.

If you’re not sure whether a news story is real, stop and ask yourself:

  • Why would the “source” say this?

  • What do they have to gain?

  • Does this make sense?

  • If not, who stands to gain?

And if the answers don’t line up, chances are it’s fake news.

If you’re an investor, here’s how to handle it:

  • If you’re a long-term investor, stick to your investing plan. Don’t let the news cycle shake you out of an investment.

  • If you’re a short-term trader, the best trade is to fade the move (do the opposite of the market).

That would have worked well with this news. You could have easily gone long Treasuries the morning of January 10 and made a killing as bond prices went back up.

The action above may not look like much… But each single cent move in the bond price translates into a $10 move on the futures contract.

Many traders use leverage to buy futures contracts… So, moves like this are very meaningful.

Bots sold Treasuries without thinking twice. But at the Daily, we invest rationally. We do our due diligence before making any trade.

Be on the lookout for fake news. And if you see it, don’t let it suck you into a bad investment decision.

Regards,

Nick Rokke, CFA
Analyst, The Palm Beach Daily

P.S. Have you lost (or made) money investing off fake news? Tell us what you did right here…

MAILBAG

From Greg E.: In the January 9 Mailbag, you said that people following your "Elite 25" strategy shouldn’t deviate from the monthly recommendations. Are we to ignore your general guidelines of setting acceptable losses? Put another way, will there be any level of loss where an Elite 25 stock is no longer a good investment?

Nick’s Reply: Greg, there are many kinds of stop losses. In The Palm Beach Letter and Palm Beach Confidential, we use trailing and hard stops. So, if a stock falls a certain percentage or hits a preset price, we’ll sell it. But that’s just one strategy for managing stocks.

The Elite 25 uses a “qualitative” stop strategy. That means as long as a stock meets my standards of a quality company, I’ll hold on.

In fact, if it gets cheaper, I’m tempted to double down on my position.

Every month, we check our portfolio to make sure the companies in it still meet our criteria. If they’re profitable, growing, and trading cheaply, they’re still a buy… No matter what happened the previous month.

We only sell when a company no longer fits our criteria for quality or becomes too expensive.

IN CASE YOU MISSED IT…

Jeff Sessions’ anti-pot campaign has backfired. The Washington Post headline screams, “Why Jeff Sessions’ Marijuana Crackdown is Going to Make Legalization More Likely.” The Chicago Tribune wrote, “Jeff Sessions helps the cause of legalizing pot.”

Sessions has all but guaranteed the end of marijuana prohibition. And opened the floodgates for fortunes to be made in little-known pot stocks.

Sessions’ outburst just gave investors the best buy opportunity in the past three years. Learn more right here…