Oct 18

Weekend Review and Watchlist

I met with several non-financial people this week, and it was interesting that the market became a subject of conversation, as it was more than the usual chit-chat because they know I’m involved in it, they actually wanted to ask about it, so it appears the market has become volatile enough that it has their attention.

What was even more intriguing however, was they associated it entirely with Ebola, and in the way that you might mention elements of the economy when talking about the market, they twinned the market and Ebola as if each twist and turn in the market was a reflection of the Ebola story.

Now to be fair, you can hardly blame them, because that is not dissimilar to how the media has portrayed it recently. The media will say they’re in an impossible situation as they can’t be seen to not be reporting on it, but if they do they get accused of scaremongering. It’s a fine line to walk for sure, but they’re clearly failing at it.

Sadly the truth is it’s inevitable that when people see panic over Ebola, and they also see stock market declines make the headlines, they immediately assign causality and link the two.

It’s also perhaps telling to see the suggestive symmetry that exists, that this move in the market is somehow seen as a panic commensurate with the panic surrounding Ebola. Which one do they see as a bigger more immediate threat I wonder? There are always risks in our lives, but clearly some much-needed perspective is in order.

I can’t help you out with the medical stuff, but I can certainly show you where we stand market-wise.

Here’s the updated Correction Roadmap for the S&P 500:-

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As of Wednesday’s close the correction was 7.43% off the high close of 9/18. We put in a modest bounce on Thursday, and then had a huge rally Friday, although we did finish off the highs.

Is that it? I have no idea. Certainly a correction of around 7% would fit very neatly into the typical range of corrections, and it would look very similar to the last test of the 200-day MA two years ago.

The 200-day hasn’t started to roll over just yet, but it will likely start to make its first marginal prints lower in the next few days. At this point the bears would love nothing more than to see a test of that break that subsequently fails, and then a resumption lower, that if it occurred would likely lead to a very fast move down to around 1815.

This is because any new long rentals of the last few days are likely using the midweek lows as their stop, and any breach of those levels could lead to an air-pocket type of move as those that never sold on the initial decline join them in using it as their signal to bail.

But I am getting way ahead of myself. That is purely subjective opinion and just one potential scenario. We could just as easily continue on up in the now traditional ‘V’ shaped pattern that has so often followed these moves.

I had gone over a week without any exits, but his week’s volatility was enough to trigger five additional stops leaving just the strongest holdings and 30-40% cash. However there were also three new entries as some individual names continued to shine and show absolute strength despite the broad decline in the market.

Let’s look at some exits first:-

$TSLA had triggered an exit signal last Friday for Monday’s open, which ended up being the high print of the day leaving only a modest loss, and it never got close to recovering those levels the rest of the week.

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$MSFT had also triggered an exit signal last Friday for Monday’s open having breached a trailing stop level.

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$AAPL had been consolidating for over 5 weeks, and with the rest of the market falling as it continued to hold up relatively well the base of that consolidation became an all too obvious support level, a break of which took us out, and I suspect many others. It’s since recovered and may continue to do so, but this is a good example of the discipline required when trend following stocks. Sometimes you need to get out at what could be the low for a move. You just don’t know. We had a similar thing occur in $MSFT (see above chart) earlier in the year, but were able to re-enter when it recovered to fresh highs. Whether $AAPL will do the same or not remains to be seen.

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The new entries were in $ED which had an impressive high-volume breakout and follow-through beyond our entry, $QLYS which has since retreated but which we’ve given a lot of room, and $CNSL with a high-volume breakout.

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Let’s now turn to a few of our open positions:-

$BRK.B – Nothing to see here. Although it’s a second close marginally below its 10-wk, $BRK.B actually finished higher this week. On the daily chart it’s nestled between its 20 and 50-day MA’s, a safe distance from our stop.

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$NKE was unchanged on the week, and is one of the few remaining names still above its rising MA’s.

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$COST got hit hard this week, pulling back to the 10-week MA in a test of its breakout level, but it remains in between its 20 and 50-day MA’s and a relatively safe distance from our stop.

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In terms of new opportunities there’s still a reasonable number of names on the watchlist. Utilities, which had dominated in the last couple of weeks have now pulled back, but healthcare, consumer goods, and consumer staples still have a strong showing. Within those areas, specific sectors like business services and specialty retail, such as beauty products feature prominently.

AMN Healthcare Svcs ($AHS)

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Advance Auto Parts ($AAP)

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Booz Allen ($BAH)

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Sally Beauty ($SBH)

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Oct 16

It’s Not 2007, It’s 2014

 

 

 

 

Oct 13

Could You Kill That Loss In Cold Blood?

(This is an updated version of a post originally published in March 2013.)

Sometimes, when you’re developing a trading system and you’re looking back through the trades it took, you come to a ‘market event’ type of move, one where we might gap lower, or skid relentlessly, a flash crash, or an actual big-boy crash. One could argue with the S&P 500 closing below its 200-day for the first time in two years we could potentially be entering such a period now, one that presents you with signals and opportunities in a fast market.

Whatever it is, we nonchalantly assume, yes, we would have taken that signal. Maybe you would, but as much as it’s necessary to lay down rules and guidelines in trading, if they’re in any way ambiguous or unrealistic, you risk leaving room for error, lack of discipline, or departing from your process just when you need it most.

I’m always flattered when a young trader will ask me for advice or be keen to show me their trading system, which they demonstrate to me via this absolutely perfect equity curve, as smooth as you can imagine. It’s obvious it’s been optimized and it will include trades they supposedly would have taken in the 1987 crash or in the fall of 2008.

In reality, not only might they not have taken the trade, but even if they did they may not have been able to execute it given the market conditions that existed. You just can’t recreate that stuff in a backtest. You also can’t recreate the fear, the panic, or the emotion, so you can’t know for sure you would act on a signal until you actually have to.

When I try to tell them that, it reminds me of a scene from one of my favorite movies “The Bridge On The River Kwai” where Jack Hawkins tries to recruit a young soldier but doubts his ability to execute under pressure. Here it is:-

jackhawkins

 

These gentlemen are thinking of taking you for a little hike into the jungle.

– Yes, sir.

You were an accountant in Montreal?

– Yes, sir. Not really an accountant, sir. That is, I didn’t have my charter.

Exactly what did you do then?

joyce

 

– Sir, I just checked columns and columns of figures which three or four people had checked before me… and then other people checked them after I had checked them.

 

colgreen

 

Sounds a frightful bore.

– Sir, it was a frightful bore.

How did you wind up here?

– Sir, I came over to London to enlist and about two years later, I volunteered for this work.

shears

 

You volunteered?

– Yes, sir. You see, the regular army–

Go ahead. You can be frank.

– Sir, the regular army sort of reminded me of my job in civilian life. They don’t expect you to think.

colgreen

 

Think about this. (Holds up knife with huge blade)

Are you quite sure you’d be able to use it in cold blood?

– I know how to use it, sir.

That’s not what I meant. Could you use it in cold blood?

Could you kill without hesitation?

 

joyce

– That’s a question I’ve often asked myself, sir. It’s worried me quite a bit.

What was the answer?

– I don’t honestly know, sir. I’ve tried to imagine myself–

– I suppose I find it hard to kid myself that killing isn’t a crime.

jackhawkins

 

It’s an old army problem. I think that’s all. Thank you, Joyce.

– Am I to go with the team, sir?

We’ll let you know. (Joyce leaves the room)

Now you see what I mean?

shears

 

 

At least he was honest about it, sir.

None of us ever knows the answer to that question until the moment arises.

 

 

 

 

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Fortunately for Joyce, Capt. Shears did know the answer and took great pleasure in executing his duty when the moment arrived…

 

 

 

 

Could YOU take that signal when the futures are limit down, when your stop is breached, when all seems lost?

Could you kill that loss in cold blood?

 

 

 

 

Oct 11

Why ‘Alpha Capture’?

Alpha Capture is the name given to the method by which hedge funds extract value from sell-side research and broker trade ideas by tracking and measuring their performance both in absolute terms and relative to their peers.

It was first developed by hedge fund Marshall Wace in London and has subsequently been used by numerous other well-known hedge funds and third-party platform providers. As a sales-trader to Marshall Wace in 2003 shortly after its introduction, and as someone who welcomes transparency, accountability and meritocracy in the world of trading and markets, it was something I thrived at and have carried elements of it forward in my work to this day.

In his book ‘Absolute Returns‘, Alexander Ineichen quotes Ian Wace:

This business has nothing to do with positive compounding; it has to do with avoiding negative compounding… The P&L is the only moderator of hubris. You are not given money to lose it.” *

This concept of avoiding negative compounding is something that has always resonated with me.

I feel it is commensurate with the basic tenets of trend following; letting winners run, cutting losses, not attempting to pick tops or bottoms, and in the case of stocks, not trying to beat the market through relative returns, but rather trying to capture most of an uptrend, avoid most of a downtrend, and in doing so coming out ahead of the market.

Ineichen echoes this in his footnote:

* “needless to say, neither are long-only managers hired to lose money. However, the absolute return focus puts more weight on preserving wealth in difficult market conditions… Managing volatility and avoiding losses subsequently results in superior long-term absolute as well as risk-adjusted performance.”

That’s what Alpha Capture means to me and why I chose it as the name for my blog.

 

 

Oct 11

Weekend Review and Watchlist

A fairly uneventful week. Just kidding. Although in some respects it wasn’t the week for me some might imagine. The previous week was much more eventful in terms of signals with five exits. This week, despite the volatility, it was looking as if I was going to go the whole week without any exits, and instead just have two entries, but the stock specific rout that took place in Friday’s session was enough to trigger two more trailing stops by the close.

As surprising as it might be to get entry signals in a week like this, you only need to look at the relative sector performance to understand why. I went through my process in this regard in this post, highlighting the strength that’s been shown in consumer staples this week.

One name that presented itself for an entry was $COST, following better than expected earnings that propelled the stock to new highs on increased volume. In spite of a huge market decline Thursday, it manage to consolidate its gains tightly, and went on to close at an all time high Friday, again on increased volume.

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Of existing holdings that remain, $AAPL, $DPS, $HD, $BRK.B, and $NKE still appear relatively unscathed.

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One thing that is clear and only gets reinforced during periods of volatility like this, is you absolutely have to take your exit signals when they come. There can be no second guessing. Some recent exits have been great examples of this. Look at this exit from the previous week in $JCP:-

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Was it frustrating to see a winner turn into a loser? Sure. But until it breached my stop and invalidated the trend for my timeframe I wouldn’t have been able to know for sure I was wrong. Once I am, I get out, no questions asked. Look at it now. And yes, it was also extremely frustrating to see it rally 10% in my face after I exited. But a stop is a stop. When faced with an exit signal I often have people ask “It’s oversold though, shouldn’t I wait for a bounce?” They’ll point to what happened here as validation for that, assuming they would have got out before it turned again.

Well, let’s look at $ATVI and $IPG, two more recent exits:-

$ATVI was the most oversold it had been in 8 months when the exit came. No bounce, and in free-fall since.

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$IPG was also oversold, an activist play, supposedly a potential takeover target, so plenty of reasons to keep you in. Except price. Again, no bounce. In fact that exit at the open was the high print of the day and ever since.

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Going forward, in terms of watchlist names it’s certainly true the numbers are fewer and it’s fair to say they are becoming more highly concentrated. Utilities and Consumer Goods/Staples were clear standouts this week.

I’ll leave you with four names that offer potentially good risk/reward setups depending on your timeframe and risk tolerance; $ED, $PEP, $ROST, and $TJX:-

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Oct 11

S&P Sector Review

Whenever I run my screens and filters for potential ideas I can occasionally get a feel for the relative strength of a given sector without even having to look at it, based on how dominant its constituents appear to be in the overall list of names. Initially you’ll see one or two from a sector that hasn’t showed up in a while, then three or four, then suddenly a dozen of them. Normally there’s always at least a handful of names from each major sector, but recently there’s been a notable disparity, and by the end of this week it had become the most significant I can remember.

Let’s run through the nine S&P SPDR sector ETF’s and I can show you what I mean. We’ll go from worst to best.

I seriously can’t remember the last time I saw an energy name on any screen I’ve run, and the last time I owned one was four months ago in June. Looking at the energy sector overall via $XLE it’s not hard to see why.

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That is one ugly chart. That gap and break of its 50-day in July kicked off the whole move. It did briefly recover its MA’s which by then were themselves rolling over, but it’s been hurtling lower ever since. I have no doubt that for ‘mean-reversion’ or ‘oversold’ players we could be close to getting some kind of bounce here, but it will likely be a long time before I see anything screen for me other than for shorter timeframes, like 5-week highs.

 

Basic Materials ($XLB) had actually been in a strong and steady trend for a while. My main play in the sector had been $AA which finally triggered an exit at the end of September, and it looks as if the broader sector effectively did the same once it broke the 50-day. In just two weeks $XLB has lost over 8%, slicing through the 200-day MA this week to 6-month lows.

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Although the Industrials ($XLI) find themselves at 8-month lows, I’ve ranked them slightly higher because the decline up to now has been far less dramatic and is arguably more readily recoverable. That said, it is still in a precarious position, below its MA’s with the 200-day now just starting to turn lower also.

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Consumer Discretionary ($XLY) is always a tricky one for me, I’d argue a company like Apple ($AAPL) is more a consumer discretionary stock than it is a tech stock, but these sectors and other market indices would say otherwise. Regardless, although $XLY was able to recover from a marginal break of its 200-day both this week and last, it couldn’t do it for a third time and finally followed through on Friday to 4-month lows.

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Technology ($XLK) has been holding up extremely well (no doubt helped by that 15% weighting in $AAPL), but Friday’s session saw a big decline in some major names like $GOOG, $MSFT, $INTC, sending the sector below its August lows and producing a 20 and 50-day MA crossover. Despite the slide $XLK remains above its 200-day.

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Financials ($XLF) is another sector that despite its ranking here has been curiously absent in my work. A couple of financials triggered when I didn’t have room, but other than that there was nothing screaming out to be bought. It’s interesting then that in this most recent market decline they are doing relatively well, although in this environment that’s not saying much. Longer-term $XLF’s uptrend is intact, but it’s just 1% above its 200-day now.

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Healthcare ($XLV) has been a phenomenally strong sector, arguably the most consistent sector trend over the last three years, but even $XLV wasn’t immune to some weakness this week, finishing at 6-week lows with a marginal break of its 50-day. I actually think the key component to watch here is Biotech via $IBB which finally broke its previous swing low late on Friday, and has been led by trend powerhouses like $CELG and $GILD.

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Utilities ($XLU) – not exactly the prettiest of trends but in this environment it’s hard to argue with something that’s above its 20, 50, and 200-day MA’s which are also stacked and rising. With its obvious ‘safe-haven’ status $XLU had a chance to really break away on Thursday but interestingly came back hard with the market, only recovering slightly Friday. On a relative basis it’s clearly outperforming, but looking at this chart it doesn’t surprise me why despite its high ranking here, I haven’t had many names signal for me, as I tend to prefer much cleaner patterns.

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Consumer Staples ($XLP) – It’s not even close. By a country mile $XLP is the best-looking sector out there. All time highs will do that you know. I’ve had nearly all of the top ten holdings in this ETF show up on my watchlist this week, with great strength in particular from $KO, $PEP, and $COST. The latter even triggered a buy signal for me and still finished the next day higher when the Dow dropped 330 points. That’s some performance.

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With the market down 5% from its high we’re at an interesting juncture. Many of the $XLP names were already in strong trends in their own right, so I think it would be disingenuous to suggest they’re only showing strongly here because the market has been weak and they’re defensive. In my experience those sentiments are normally quite fleeting whereas these trends have been built on a firmer footing. They’re certainly the kind of names where institutions can readily increase their weighting being safe dividend-paying liquid stocks, and with many of them having a logical stop around 5% away there are still some reasonable medium-term risk/reward trades to be had.

 

 

 

Oct 09

Correction Roadmap – You Are Here

It’s been a while since I’ve needed to pull out the correction roadmap, but we’re getting close to some interesting levels, and normally when I produce this chart it tends to mark a bottom, so let’s see if it’s still got the magic touch.

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Traders have all kinds of nomenclature for movements of different magnitude. It’s generally accepted that a decline of 20% is a bear market, and a decline of 10% is a correction, and it’s normally only once we’re down 5% from the high that we start to think about either of those. To be honest, it doesn’t matter what you call them.

Like Ms. Vito in ‘Cousin Vinny‘ said “Imagine you’re a deer… BAM! A bullet rips off part of your head! Your brains are laying on the ground in little bloody pieces! Now I ask ya. Would you give a **** what kind of pants the son of a bitch who shot you was wearing?

I tend to think of these periods in the market in the same way. When your account is laying there bleeding money you really shouldn’t be worrying about whether this is a pause, a dip, a consolidation, a pullback, a correction, or the beginning of a bear market, and you should be even less concerned about ‘why’ it’s happening. The labels of what something was or why it happened are semantics that can be debated in due course, all you need to worry about is how bad the wound is, what action needs to be taken, and what’s the risk it gets worse going forward.

It’s been two years since we’ve tested the 200-day MA, but with the sideways action of the last four months it’s finally started to catch up, meaning that a pullback no greater than the previous two of 5.76% would now see it tested again, and given the way this market is currently moving that could happen tomorrow. That level also coincides very conveniently with the previous swing low around 1909, so it would be no surprise to see some real fun and games around those levels.

Beyond that is where we really begin to speculate, but I can’t help but feel if that confluence around 1900 is taken out cleanly without reversing within a couple of sessions, then the selling that results could be enough to trigger a really fast move to 1815-1800. That’s totally subjective ‘feel’ on my part, but over the last 27 years I’ve seen on numerous occasions how these things begin and gather pace. But understand, you don’t need to try and trade it, you just need to have it be part of your expectations.

That’s really how I always recommend looking at charts like this, for context. More than anything when you look at that chart you need to know your timeframe and the risk it entails. What are the expectations for the strategy you’re following? How has your portfolio performed so far, is it still within those parameters?

How big (or small) does this move look to you in context of the overall trend? Look where we could go and yet still be in a longer-term uptrend. How would that impact your account? How would it impact you emotionally? If you’re hemorrhaging on a 4% pullback already, you’re probably taking way too much risk or have a very short-term focus.

Finally, you never want to be in a situation where you don’t know what you should do. Have a plan, a process, and avoid any distractions that would prevent you executing it. If things get ugly you’ll need to stay focused and disciplined, so don’t get sucked into watching TV. I can tell you already they’ll wheel out all the familiar perma-bears for a 5 minute slot, a minute for each year they’ve been wrong. You don’t need to listen to any of those guys, stick with what’s helped you ride most of this trend already, listen to price and react as necessary for your timeframe.

 

 

Oct 03

Weekend Review and Watchlist

An eventful week to say the least. Here’s a weekly chart of the $SPY since we last tested the 200-day MA in late 2012 (or in this case on a weekly, the 40-week MA).

I’ve been studying this chart for the last 10 minutes trying to discern a pattern (other than the trend itself) and even with my most subjective technical analyst hat on, I can’t find one that would be of any interest.

I was going to say that each break of the 10-week was followed by an up week which then kicked off a huge rally, so next week is the big test, but then I saw the pullback at the beginning of this year actually had a shallow follow-through before reversing higher, so that ruined that line of thinking.

Does this ‘feel’ different? Well yes, it does.

I wrote earlier this week about how these moves slowly impact one timeframe to the next and how it has just entered into my territory, triggering 5 exits this week, but having said that, I think all of the pullbacks of the last two years have felt slightly different to the last as they unfolded, even if they appeared to have resolved in the same way with a vicious V-shaped rally back to the highs. Everything always ‘feels’ different when you’re in the moment, it’s only with calm reflection months and years later with those emotions absent we see what we think are consistent patterns and confidently state how we would have bought here or sold there.

So whilst I’m aware of how this feels, I know to only act on what price is telling me. Longer-term that trend is clearly intact, but I took 5 exits this week, and even had one new entry, leaving me with a decent amount of cash for the first time in quite a while.

That tells the story.

Some longer-term trends have faded and hit trailing stops, others remain, and whilst new opportunities are fewer, they haven’t disappeared altogether.

This week triggered exit signals in $HPQ, $JCP, $SWKS, $MAR, $DIS. With the exception of $SWKS, which spat us out pretty quickly, they were all trailing stops as the uptrend for our timeframe was invalidated.

When you have the kind of daily volatility that we’ve seen recently, I know it sucks to exit a position and watch it rip back up after you got out, but you just cannot know what it’s going to do. Don’t fall into the trap of thinking ‘It’s oversold, so shouldn’t I wait for it to bounce and then exit?’ Look at a recent exit like $ATVI, or $QIHU which both just kept on going south after we got out.

You can never know where you are in a trend, but you can know where the risk/reward that justified your initial entry is invalidated, and that’s when you have to get out no matter what and move on to the next one.

This week, that ‘next one’ was Alexion Pharma ($ALXN) with an entry signal at Friday’s close after it staged an impressive breakout.

 

Having had so many exits this week, we were left with only the strongest positions, all of which still looked good heading into the weekend:-

$FISV had a strong week closing above its MA’s and is less than 1% from fresh highs.

 

$DPS remains in a solid trend.

 

$LMT had a pretty steep pullback midweek but recovered to retake its 20EMA on increased volume. We may be able to trail our stop up to that $173 level soon.

 

$HD was really impressive this week finishing at fresh highs triggering a potential entry point for new positions or an opportunity to add with the stop moving up to $88.84 on a weekly close basis.

 

$BRK.B saw only limited downside midweek and recovered swiftly to close higher on the week.

 

$NKE traced out a beautiful follow through to the previous week’s earnings-related moonshot allowing us to move our stop up to $81.81.

 

Positions in $MSFT, $GILD, $AAPL, $TSLA are also all still valid.

Despite the volatility in the market this week, there weren’t many changes to the watchlist with many names suffering only a modest pullback without invalidating their trends. Here are 5 to watch:-

Celgene ($CELG)

 

Goldman Sachs ($GS)

 

Micron ($MU)

 

Norfolk Southern ($NSC)

 

Twitter ($TWTR)

 

 

 

 

 

 

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