Beyond Mere Alpha - December 2016

Monday, December 5, 2016 - 5:20pm

The accolades are piling up for the post-election rally in U.S. equities. The S&P 500 completed its best monthly advance in four years compared with a measure of global stocks, as investors speculated Donald Trump’s incoming administration will boost growth in the world’s largest economy, the U.S.A. You can see that effect on the left chart. Global stocks are mostly sputtering compared to the strength of the U.S. markets, which experienced several new lifetime highs hit in the month of November. The DOW, SPX, NASDAQ, and Russell are mostly moving in sync, too - a plus. On the right-side chart, employers added 178,000 jobs in November, while the jobless rate tumbled to a nine-year low, the U.S. Labor Department said Friday. The gain in hiring followed a 142,000 rise in October that was less than previously reported and was in line of estimates. At the same time, wages unexpectedly declined, providing a mixed picture of the labor market ahead of this month’s Federal Reserve interest-rate decision. At this point, we are observing investor sentiment for the impending Trump Administration.

The 30-year-old bull market in bonds looks to be ending with a dramatic bang. The Bloomberg Barclays Global Aggregate Total Return Index lost 4% in November, the deepest slump since the gauge’s inception in 1990. Bonds in Europe extended declines with their U.S. peers as OPEC’s agreement on Wednesday to cut oil production added to prospects of higher inflation. The “reflation” trade has been driving markets since Donald Trump’s presidential election win, due to promises of tax cuts and $1 trillion in infrastructure spending. All this has prompted investors to dump debt that was offering near-record-low yields in July and pile into stocks. We have made significant changes to our fixed income portfolio, Conservative Yield (CY), as worldwide Treasury yields are now taking a “more serious” uptick— and thus prices are making a significant downturn. It appears to me that the overall U.S. market is positioning itself for a “Risk ON” posture as we head into 2017. This could change, but that is the case as of now.

Regarding the SPX strength, Info Tech has now fallen out of the Leading Quadrant, falling into the Weakening Quadrant. This is easy to observe, as the NASDAQ at the very end of November was having weaker days than was the S&P. The Leading Quadrant is now headed by the Financials. The reason for this is straightforward: it is highly likely that interest rates will be rising in the U.S. this month, and then continue modestly higher in 2017. Joining the Financial Sector in the Leading Quadrant are the Industrials and Energy, both of which are historically “Risk On” sectors. The current market environment appears to favor Risk-On sectors heading into 2017. An additional measure of optimism is the exiting of the Materials and Consumer Discretionary Sectors from the Lagging Quadrant. If you remember earlier this summer, Info Technology was the only sector in the Leading Quadrant. Now there are three sectors in Leading, with two more poised to join those three. All the defensive sectors: Utilities, Consumer Staples, Telecommunications, Healthcare, and Real Estate, are moving even farther into the Lagging Quadrant. While all will eventually exit and show some strength, all five of them are in terrible downtrends at this time.

So the key question for me is this: will Info Tech rotate back up in Leading and “re-join” the other “Risk On” sectors? THAT is the key watch for me as 2016 ends and 2017 begins. Until next year! 

Please keep in mind that we will continue to watch your accounts, ready to adjust as we think it necessary in this volatile environment. Please remember that we don’t just manage your assets, we become one of them!        

* All data from Bloomberg, Optuma, and RRG Research.