Wednesday, July 18, 2018

Fund Managers' Current Asset Allocation - July

Summary: Fund managers came into 2018 very bullish equities, with cash levels at 4-year lows and allocations to global equities at 3-year highs. Our view at the time was that "this is a headwind to further gains" in equities. That post is here.

7 months later, global equity allocations have fallen to the lowest level since the November 2016 election, and cash balances are relatively high. Investors are no longer bullish, although the global equity correction has not made them outright bearish by most measures.

The US has been the best performing region of the world in the past year, yet fund managers have been consistently underweight. That has now changed; in July, US allocations rose to a 17-month high. It's not yet extreme, but a big tailwind behind US outperformance is now gone.

Emerging markets have massively underperformed since April when allocations to the region rose to a 7-year high. In July, allocations fell to the lowest since January 2017. This region is now a modest contrarian long again.

Fund managers' are close to neutral on bonds, but their inflation expectations remain near a 14-year high and their commodity allocations are near an 8-year high. This has previously led US 10-year yields to stagnate or fall.

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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 commodities, underweight equities. Enlarge any image by clicking on it.
Within equities, the US is now overweight while emerging markets in particular are now underweight. This is a significant change from the past year.
A pure contrarian would overweight emerging markets equities relative to the US and underweight cash. 

Friday, July 6, 2018

July Macro Update: The Economy Is Fine. Trade War Rhetoric Is The Main Risk

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 largest risk to the economy is the escalation in trade war rhetoric.

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 10 months and in several instances as long as 2-3 years. On this basis, the current expansion will likely last through 2018 at a minimum. Enlarge any image by clicking on it.

Sunday, July 1, 2018

Weekly Market Summary

Summary:  US equities are up three months in a row and positive for the year. Historically, equities have a very strong propensity to end the year higher under these circumstances. That remains our long term view.

Shorter-term, the S&P remains in a 5 month consolidation/trading range. These periods can last 6-12 months. July is a seasonal tailwind, and several sentiment indicators suggest a bias higher (to the top of the range) is warranted. On strength this month, beware; it is followed by the two worst months of the year.

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US equities rose for a third month in a row in June. SPX and small caps gained 0.5% and NDX gained 1.1%. The laggard in the US is the Dow, which lost 0.5% in June.

The picture is not much different on YTD basis. At the year's mid-point, SPX is up 2.5%, NDX is up 10% and small caps are up 7%. The Dow is down almost 2%. Part of these results are explained by the upward bias in the dollar, which favors domestic-focused small caps relative to internationally-weighted large caps.  Enlarge any chart by clicking on it.

Friday, June 29, 2018

The Money Gods' Price For Achieving High Returns

Summary:  During their lifetime, most investors will likely endure another decade-long bear market like the ones in the 1970's and 2000's. Younger investors will probably suffer through at least two.

When thinking about the last 20 years, investors easily recall the tech bubble, the financial crisis and the flash crash in 2010 that together form the most recent lost decade for equities. These negative events dominate our decision making. The (more important) 300% return from equities during this time does not.

For all the time spent worrying about bear market risks, the overwhelming majority of short term traders and professional fund managers haven't found a way to avoid it. And if they have, it has been at the expense of also missing out on the gains during bull markets.

If you are going to do better than most, it won't be by continually anticipating a market crash. That has invariably been an exit ramp onto a dead end street. Tuning out noise and consistently following investment rules and hard data is far more challenging than it sounds, but the performance of those that who do it can be in the top 5%, maybe the top 1%.

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If you are in your 40's or 50's, you will probably endure another lost decade like the 2000's, where stocks did not appreciate on a net basis. If you are in your 20's or 30's, there's a good chance you will endure at least two such periods in your lifetime.

The future could turn out different than the past, but the pattern over the past 120 years is that expansions alternate with long periods where equity markets churn sideways. That's true even if you include dividends and assume dollar-cost averaging (DCA). The chart below shows the length of time US equities have spent getting back to breakeven from a peak (from Lance Roberts; read his recommended article here). Enlarge any chart by clicking on it.

Thursday, June 28, 2018

Interview on Real Vision Television

We were interviewed on Real Vision Television on May 29th. During the interview, we discuss our long term equity market view, the current macro-economic environment and market technicals.

Our thanks to Real Vision for the opportunity to share our thoughts. Click here to become a subscriber.

To watch the interview, click here.

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