posted on 25 April 2016
As I stated in my weekly article, the markets broke out of the current downtrend resistance which has set the markets up for a push to old highs. But, we are also discussing a situation where investment risk is far "outweighed" by the potential for reward.
On Monday and Tuesday, the market broke above the 2080 level and pushed higher. However, the late part of the week saw more "backing and filling" process which has, as noted above, worked off some of the very short-term overbought conditions. This potentially sets the market up for a push to previous highs as we wrap up the month of April.
All of the very short-term signals are improving, but at very high levels. This doesn't give the market much "fuel" to push substantially higher and caution is warranted.
Steve Burns via SeeItMarket discussed twelve reasons for higher S&P 500 levels from here in the short-term.
WARNING: Let me reiterate that this analysis is VERY short-term in nature. Long-term technical and fundamental dynamics suggest a healthy dose of caution and lowered risk exposure in the intermediate term. This is particularly the case as we move into the seasonally weak summer months.
Long-Term Technical & Fundamental Problems
The monthly chart below shows the longer-term technical problems for the market as compared to previous major market peaks.
Yes, with interest rates being held at artificially low levels, Central Banks bailing water out of the boat as fast as possible, and an ongoing belief "this time is different," it is certainly possible markets could move higher in the short-term. However, I have to agree with Jeff Gundlach earlier this week when he stated:
And he is probably going to be right...again.
Increasing The Allocation Model
That outcome did occur, and I have increased the allocation model accordingly to new levels.
Again, let me reiterate for the umpteenth time: This is short-term only and I fully expect to get stopped out. In fact, my next article could very well be entitled "How To Short Against The Box And Love It."
S.A.R.M. Model Allocation
The Sector Allocation Rotation Model (SARM) is an example of a basic well-diversified portfolio. The purpose of the model is to look "under the hood" of a portfolio to see what parts of the engine are driving returns versus detracting from it. From this analysis, we can then determine where to overweight sectors which are leading performance, reduce in areas lagging, and eliminate those areas that are dragging.
Over the last four weeks, not surprisingly, RISK based sectors have continued to improve as the rally has progressed as SAFETY sectors have come under continued pressure.
Industrials, Materials, Mid-Cap and International sectors have been leading the charge over the last three weeks due to the decline in the US dollar. This week, Small-Cap stocks have now joined the lead.
Energy and Discretionary have improved but are still lagging the S&P 500 index as a whole. Financial stocks have now improved over the last week from being laggards over the last couple of months.
Not surprisingly, the SAFETY sectors have begun to lag the broader market with Bonds, Staples, Utilities & REIT's beginning to lag in performance. Some profit taking in these sectors is advisable if you have not done so previously.
Technology is trying to improve in the last week but is still lagging the S&P 500 as a whole while Healthcare companies continue to lag at this point.
A Note On Oil & Energy Stocks
The rally in oil prices, along with the subsequent recovery in Energy stocks is likely close to its end. It is HIGHLY advisable to take profits in speculative positions and/or reduce holdings that have had a recovery in recent weeks.
As shown in the chart below, the extreme oversold condition has been fully reversed into an extreme overbought condition. Currently, both West Texas Intermediate Crude and the New York Stock Exchange Energy Index are trading 2-standard deviations above their long-term, and declining, moving average.
Furthermore, the record net-short positions on oil that existing several months ago during the decline have also been fully reversed into record net-long positions.
With the dollar oversold currently, and a rally expected in the dollar this summer, the downside risk to oil prices back to the low $30/bbl range is extremely prevalent.
As the Steve Miller Band once sang: "Come on, take the money and run."
We can always buy back again later.
S.A.R.M. Updated Allocation Model
I am updating the S.A.R.M. model to reflect the portfolio allocation changes this week. The increase moves the current model allocation exposure back to 50% of Target Weightings in an equally weighted portfolio.
We continue to watch for improvement in the relative performance of each sector of the model as compared to the S&P 500. The next table compares each position in the model relative to the benchmark over a 1, 4, 12, 24 and 52-week basis. Notice the relative improvement or weakness relative to index over time. For example, notice that sectors like Materials, Financials, Healthcare & Energy are outperforming the S&P 500 over the last week.
The last column is a sector specific "buy/sell" signal which is simply when the short-term weekly moving average has crossed above or below the long-term weekly average.
With the break above downtrend resistance, as discussed above, the model is now adjusted for an increase in equity exposure as follows.
As of this week, the portfolio model now holds CASH to 35%, 35% in bonds, and 30% in equities.
As always, this is just a guide, not a recommendation. It is completely OKAY if your current allocation to cash is different based on your personal risk tolerance, time frames, and goals.
For longer-term investors, we need to see an improvement in the fundamental and economic backdrop to support a resumption of the bullish trend. Currently, there is no evidence of that occurring.
THE REAL 401k PLAN MANAGER
The Real 401k Plan Manager - A Conservative Strategy For Long-Term Investors
Market Breaks Above Downtrend
That happened this past Monday which now requires an increase to the model allocation as reflected below.
However, I continue to reiterate, since 401k plans have limits to switching funds in them:
For longer-term investors, the markets have made virtually no progress since January of 2015. Therefore, there is little evidence to suggest stepping away from a more cautionary allocation...for now.
If you need help after reading the alert; don't hesitate to contact me.
Current 401-k Allocation Model
The 401k plan allocation plan below follows the K.I.S.S. principal. By keeping the allocation extremely simplified it allows for better control of the allocation and a closer tracking to the benchmark objective over time. (If you want to make it more complicated you can, however, statistics show that simply adding more funds does not increase performance to any great degree.)
401k Choice Matching List
The list below shows sample 401k plan funds for each major category. In reality, the majority of funds all track their indices fairly closely. Therefore, if you don't see your exact fund listed, look for a fund that is similar in nature.
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