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Market Waking Up

Update on Three Opportunities

            Well, it’s been a very dull month in the financial markets since our last update on July 12th, and I know most of you are paying more attention to your time with friends and family, but things are starting to move again with some notable new leadership and trends developing.  We continue to believe the next 6-9 months are going to be critically important in terms of positioning your investments for what lies ahead.

Since Our Last Update

            As you know, we provide updates when there are important things to talk about.  There hasn’t been much to talk about frankly as different segments of the market have generated equally unimpressive gains or losses in the last month.  For instance, large cap growth is up less than 0.50%, small cap value is up 0.29%, but the MSCI All Country World Index is down -0.45% through yesterday.  Bonds are up… +0.10% and commodities are down -0.29%. 

Yawn 

But, there are some interesting trends worth noting underneath a very quiet “market”.  Specifically, leadership and the orientation of the markets is changing its character to favor defensive sectors and recessionary asset classes.  You might be scratching your head as the business news cycle continues to focus on blow out earnings and a 4% GDP growth rate.  But, the market is clearly favoring defense since the last peak on June 12th.  At the top of the list are the healthcare, utilities, consumer staples, investment grade and short term treasury bonds.  At the bottom of the leadership board are technology, financials, materials, commodities, and emerging markets.  This is not what strong risk appetite looks like. In fact, it is, quite the opposite.  As prices are now working their way back up to the January highs, we’re also seeing the condition of our Net Exposure model deteriorate again. In fact, as of August 10th, our weighted average of indicators moved back to zero after hitting only a high of +6.  The range of values is +20 to -20 so again, we’re not really seeing anything to indicate near term strength or weakness. 

           

As we have said many times this year, 2018 is going to be unproductive for most investors with significantly higher volatility.  That’s exactly what’s happening since the January peak.  Stay patient, there are opportunities coming!  Speaking of…

Three Big Opportunities – Getting Closer

 

            To remind you, the three real opportunities for investors are as follows.

  • A Cyclical Shift from Growth to Value

As we mentioned in the last update, we continue to see quiet but persistent accumulation in the deep value side of the market, while growth names are showing signs of fatigue.  Any owner of Facebook or Netflix shares can certainly understand what I’m talking about, as they are down more than 17% and 18% in the last month or two.  Meanwhile, deeply oversold names found in big box retail, airlines, select financials and pharma are now rocketing out of multi-year basing patterns.  This is exciting stuff for active managers like us as it provides a nice opportunity for us to grab shares among companies where real value lives and see those investments generate real returns.  What a concept!  Perhaps the markets are rational after all.  Really, most professionals in our business are just exhausted living in a market environment where the only perceptive “opportunity” is to buy something that is ridiculously overbought and hope to sell it at an even higher price.   Thankfully, that situation seems to be changing and we’re positioning ourselves appropriately.

  • Emerging Markets/International Outperformance

Well, this certainly isn’t happening in 2018, as much as it did in 2017.  But, nothing has changed in our expectations.  YTD, aggregate emerging market (EM) funds and indices are down almost 10%, much more if you own the likes of Turkey!  But, we view this action as corrective within a longer term outperformance cycle that began as early as January of 2016.  Remember, EM was up 37% just in 2017.  Here’s the good news and a picture to follow.  Prices in most EM funds are fast approaching a serious long term support level established by the highs of the last decade.  We are only 2% above that level and we expect to start rebuilding our EM position shortly.  The chart below shows the classic EEM exchange traded fund and the white support line drawn across the multiyear price tops (now support).   This again is where real value and growth lives among global indices.  This is where economy is actually rising and developing with real activity, not financial engineering built on massive debt and easy monetary policy like I see in some much of the developed world.  Stay focused and committed to EM and you will thank me in the next 5-7 years.  We’re getting ready to buy back in across all Tactical Equity and Blended Asset strategies assuming the conditions set up properly.



  • Preserve Capital During the Next Bear Market

This is our 3rd and probably most important “opportunity” that has yet to materialize.  We are not in a bear market and thus we are not yet in capital preservation mode.  With that said, there is some short term risk as prices are now approaching the old highs and our Net Exposure model isn’t giving us much reason to expect a broad based market move out to new highs yet.  Now that earnings season is really wrapping up and won’t provide much of a catalyst for higher prices for the rest of the quarter, we’re really just left with a lot of headline risk, continuing saga from the White House, trade war concerns, bad seasonality, etc.  In the short term, we won’t be surprised to see market volatility rise with some mild declines into October, perhaps November.  Then we have elections to contend with and you must know that Wall Street will hate it if congress flips back to Democratic control.  Don’t shoot the messenger, but the financial markets are married to a Republican controlled White House and Congress.  If that marriage breaks up, I’m going to expect a bear market to begin.  I have no idea what’s going to happen in November so prices might just flounder until we see the results just like the period prior to the presidential election in 2016.  Either way, there will be a time in the not too distant future, when preservation of capital is going to be the best opportunity you have.  Why?  Because we’ll have the OPPORTUNITY to buy back at much lower levels with our wealth intact and make some real money. 

 That’s it for now, stay tuned as the market seems to be waking up from its summer nap.

Cheers

Sam Jones