Tuesday, November 13, 2018

Fund Managers' Current Asset Allocation - November

Summary: Although US equities are up about 2% in 2018, Europe is down 10% and emerging markets are down more than 15%. Part of the reason: fund managers came into 2018 very bullish, with cash levels at 4-year lows and allocations to global equities at 3-year highs.

How have fund managers responded to an increasingly tough environment for equities?

In one respect, they are still bullish: global equity allocations are still 31% overweight. Into the major lows in 2011, 2012 and 2016, fund managers were underweight. Allocations could easily fall much further before global equities reach a bottom.

But in most other respects, fund managers are already very bearish:
They are overweight cash (by nearly one standard deviation), which is typically a tailwind for equities.
They view the US dollar as the most overvalued in 12 years, which has a very good track record of marking a turn to dollar weakness, a tailwind for US multi-nationals as well as ex-US equities.
Their profit expectations are the most bearish in 6 years, and at a level which also marked equity lows in 2010, 2011, 2012 and 2016. 
Their global macro growth expectations are the most pessimistic in 10 years, more than at the major equity bottoms in 2011 and 2016.  
A third believe the world's largest equity benchmark, the S&P 500, has already peaked. This number holding this view has doubled in just one month.
They believe 'value' will outperform 'growth' stocks; similar peaks (in 2009, 2014, 2016 and 2017) marked excellent times to be long equities, especially growth stocks. 
The US is the most favored region in the world. That's not surprising: during a global equity sell off, the US is usually regarded as the safest haven. It should underperform. Europe is the most hated region and is likely to outperform.

* * *

Among the various ways of measuring investor sentiment, the Bank of America Merrill Lynch (BAML) survey of global fund managers is one of the best as the results reflect how managers are allocated in various asset classes. These managers oversee a combined $600b in assets.

Our sincere gratitude to BAML for the use of this data.

The data should be viewed mostly from a contrarian perspective; that is, when equities fall in price, allocations to cash go higher and allocations to equities go lower as investors become bearish, setting up a buy signal. When prices rise, the opposite occurs, setting up a sell signal. We did a recap of this pattern in December 2014 (post).

Let's review the highlights from the past month.

Overall: Relative to history, fund managers are overweight cash and neutral equities. Enlarge any image by clicking on it.
Within equities, the US is overweight while Europe, in particular, is underweight. This is a significant change from the past year.
A pure contrarian would overweight European equities relative to the US and underweight cash. 

Monday, November 12, 2018

Weekly Market Summary

Summary:  US equities rallied more than 6% from the October 29 closing low, but have since fallen back 3%. This is likely part of the "low retest" that accompanies most market corrections; "V-bounces" are not the norm.

The trend is bearish, but it is at odds with the solid economic environment. That conflict almost always ultimately resolves in favor of the bulls. By some measures, investor sentiment is among the most bearish since March 2009; even in a bear market, equities will experience a strong rally before rolling over. Seasonality is a substantial tailwind through year-end. Risk-reward over that period is again skewed higher.

* * *

After falling 10% during October, US equities have rallied the past two weeks, with SPX gaining more than 2% each week. NDX fell 3% today but it is up the most - about 7% - so far in 2018 (table from alphatrends.net).  Enlarge any chart by clicking on it.

Friday, November 2, 2018

November Macro Update: New Employment Among Highest Since 2000

SummaryThe macro data from the past month continues to mostly point to positive growth. On balance, the evidence suggests the imminent onset of a recession is unlikely.

The bond market agrees with the macro data. The yield curve has 'inverted' (10 year yields less than 2-year yields) ahead of every recession in the past 40 years (arrows). The lag between inversion and the start of the next recession has been long: at least 8 months and in several instances as long as 2-3 years. On this basis, the current expansion will likely last into mid-2019 at a minimum. Enlarge any image by clicking on it.

Wednesday, October 31, 2018

What Today's Trend Following Sell Signal Implies For The Months Ahead

Summary:  With SPX closing below its 10-month moving average, a sell signal for a popular trend following system triggered today. This system has handily beaten the long-term performance of just holding SPX.

So what happens next? Using data from the last 38 years, there is an even chance that SPX reverses direction and moves higher from here over the months ahead. But the October low - or very close to it - appears likely to be retested in November.

* * *

After rising every month for 6 months since the end of March, and in the process gaining more than 10%, US equities fell hard in October. SPX dropped 7%, NDX 9% and small caps 11%.

This was the third worst month since the bull market started 116 months ago in March 2009; only May 2010 (flash crash) and August 2011 (European debt crisis) were worse.

The fall was enough to trigger a sell signal in a popular trend following system.

Trend following dispenses with the debate about recessions, the actions of the Fed, corporate earnings, valuations, China, investor sentiment, market breadth, and all the rest. It focuses purely on price and implicitly assumes that it reflects the most useful information available.

How does it work? As described by Meb Faber here, investors stay long when SPX is above its 10-month moving average (MMA) at month end and move to cash when it closes below. That's it. The system's long term track record is excellent (red line), handily beating the SPX (blue line) and 80-90% of professional investors (more on that here). Enlarge any chart by clicking on it.

Sunday, October 28, 2018

Weekly Market Summary

Summary:  US equities are down 10% from their all-time highs just 5 weeks ago. The trend in equities has turned bearish, and that is not something that should be taken lightly. The evidence pointing to a major top being formed has further increased. But the set up for higher prices, at least before a significantly lower low, appears to be very strong. This is not a certainty, but it is a high probability.

* * *

After falling 4% two weeks ago, and then closing a bit higher last week, US equities this week again fell 4%. They are down about 10% for the month of October. The nearly 10% gain in 2018 at the end of September for SPX is now all gone. Small caps have been hit the hardest and are now down 3% for the year (table from alphatrends.net).  Enlarge any chart by clicking on it.