Fund Managers' Current Asset Allocation - January

Every month, we review the latest BAML survey of global fund managers. Among the various ways of measuring investor sentiment, this is one of the better ones as the results reflect how managers are allocated in various asset classes. These managers oversee a combined $700b in assets.

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.

To this end, fund managers became very bullish in July, September, November and December, and stocks have subsequently sold off each time. Contrariwise, there were some relative bearish extremes reached in August and October to set up new rallies. We did a recap of this pattern last month (post).

Let's review the highlights from January.

Fund managers dropped their cash levels to 4.5%. While this is relatively high on a historical basis, note that cash levels haven't been much below 4.5% since 2013. We consider current levels to be neutral. 

Weekly Market Summary

US equities have now fallen three weeks in a row. At its low on Friday, SPX was 5% off its high on December 29.

The lows a week ago pierced the 20-weekly ma. Strong uptrends remain above this line (arrows).  This week, the market fell through again and then recovered, again. In the past, a close below the 20-wma has often led to a touch of the weekly Bollinger band bottom, currently at 189 (yellow). The key 20-wma level is now 200.5.

Weekly Market Summary

After hitting new all-time highs in the days after Christmas, US equities have now fallen two weeks in a row, an auspicious way to start the new year.

The lows this week pierced the 20-weekly ma. Strong uptrends remain above this line (arrows). A quick return to this level in the weeks ahead likely leads much lower. In the past, a close below the 20-wma has often led to a touch of the weekly Bollinger band bottom, currently at 189 (yellow).

January Macro Update: The Best Month For Macro Since the Recession

In May we started a recurring monthly review of all the main economic data (prior posts are here).

At the time, the consensus view was that growth in wages and employment were accelerating and that this would soon lead to a meaningful increase in inflation above the Fed's 2% target. Our monthly review of the data has consistently shown this view to be wrong.

This post updates the story with the latest data from the past month. We are now starting to see better growth. Highlights:

• Real final sales growth of 2.8% was the highest in 8 years
• Industrial production growth of 5.2% was the highest in 4 years and, coming six years into the recovery, was arguably the most impressive report since 2000. 
• Employment growth in 2014 was the highest since the year 2000. Moreover, the 3Q14 employment cost index was the highest since the recession. 
• However, the inflation rate continues to decelerate. It's well below the Fed's target of 2% yoy.  

Our key message has so far been that (a) growth is positive but modest, in the range of ~4% (nominal), and; (b) current growth is lower than in prior periods of economic expansion and a return to 1980s or 1990s style growth does not appear likely. This is germane to equity markets in that macro growth drives corporate revenue, profit expansion and valuation levels.

With the latest data, our overall message remains largely the same. Employment is growing at ~2%, inflation and wages are growing at ~2% and most measures of demand are growing at ~2.5-3% (real). The economy is continuing to slowly repair after a major-financial crisis.

We'll focus on four categories: labor market, inflation, end-demand and housing.


Employment and Wages
The December non-farm payroll (253,000 new employees) followed the incredible 353,000 in November, the highest since January 2012.

In the past 12 months, the average gain in employment was 211,000, the highest since the year 2000.

Monthly NFP prints are volatile. Since 2004, NFP prints near 300,000 have been followed by ones near or under 200,000 (circles). Moving between extremes like these is nothing new: it has been a pattern during every bull market. What is becoming remarkable, therefore, is that NFP has been above 200,000 every month since January 2014.

The Bullish "Year 5" Set Up Is Missing A Key Ingredient

Patterns in the stock market primarily persist for a reason.

For example, downtrends are frequently reversed on Tuesdays. Why? Spooked investors may not want to hold risk over the weekend, so they sell on Friday. That weakness can persist through Monday. By Tuesday, stocks are relatively oversold and tend to rise.

Another example is the tendency for stocks to rise in the last 3 weeks of the year as managers chase performance or dress up their portfolios for year end statements to investors.

Which brings us to the tendency for stocks to rise in years ending with the number 5. This is 2015, so this matters. In the past 130 years, the Dow has risen an average of 29% in years ending with the number 5. Since 1900, years ending in 5 have been up 10 of 11 times.

There must be a reason why this has worked so well and so consistently. Indeed there is.

In 6 of the 10 times that stocks have been higher in years ending in 5, the market was down in at least one of the two prior years (red boxes). In other words, most of the time investors are coming into years ending in 5 having been recently shaken out.