posted on 16 May 2016
The ongoing correction last week violated the 50-dma which raises short-term positioning alarm bells. However, as discussed above, the market held support and the recent neckline at 2040.
Heading into next week, it will be critical for the market to hold support at 2040 and rally back above the 50-dma. A failure to do so will complete what currently appears to be another, in a series, of market topping processes.
Why I Have No Exposure To International Stocks
If you wanted to beat the S&P 500 this year, there has only been one real place to be - dividend stocks. While there has been ongoing rhetoric about how "cheap" international stocks look, performance, despite massive interventions by the ECB, has been quite abysmal.
However, it is not just this year, this has been the case since 2015. Having exposure to international and emerging market stocks has acted as a boat anchor to overall portfolio performance.
But it's not just the last 16-months either. International and emerging market equities have been a performance drag since 2009.
Lastly, while the short-term pop in emerging and international markets coincided with the ECB's "all-in" stimulus program, the realization of the lack of effectiveness of such programs in the Eurozone is already being realized.
Furthermore, it is worth noting that while the S&P 500 is currently holding up better than its international counterparts, historical correlations (yellow highlights) suggests a much higher level of caution.
Intermediate-Term Setup Still Cautionary
As stated above, while the short-term analysis still suggests a potentially bullish setup (oversold condition) heading into next week, I do want to restate my words of caution from last week:
Furthermore, as shown below, the current advance and topping process, remains in the confines currently of a "lower high and lower low" scenario. While it may not "feel" that way, we are still within the broader confines of a downward trending market.
As shown below, each of the last three peaks of market action has coincided with a downward trending topping process that eventually led to a fairly significant short-term correction. The current setup is eerily similar to that of last November.
As I have repeatedly stated over the last couple of weeks the current market setup feels like a "trap."
I remain cautious and already have an "inverse market" position loaded in our trading system to move portfolios quickly back to market neutral if markets break support.
I have not been, or am I currently, convicted about the potential of the market for a further advance from here. Again, this is why allocation models remain extremely underweight equity risk exposure currently.
Short-term portfolio management instructions currently remain:
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 several weeks, RISK based sectors outpaced performance relative to SAFETY. However, last week, the level of outperformance has begun to fade.
The rotation from defensive to "risk on" sectors is now complete and potentially signals a further short-term correction in the market is possible. However, for now:
The sector comparison chart below shows the 9-major sectors of the S&P 500.
The best sectors currently remain:
In other markets the best opportunities are:
However, as stated repeatedly, caution is highly advised.
S.A.R.M. Sector Analysis & Weighting
As stated above, the SARM Model is an "equally weighted model" adjusted for risk. The current risk weighting remains at 50% this week. It will require a move to new all-time highs in order to safely increase model allocations further at this juncture.
Relative performance of each sector of the model as compared to the S&P 500 is shown below. The table compares each position in the model relative to the benchmark over a 1, 4, 12, 24 and 52-week basis.
Historically speaking, sectors that are leading the markets higher continue to do so in the short-term and vice-versa. The relative improvement or weakness of each sector relative to index over time can show where money is flowing into and out of. Normally, these performance changes signal a change that last several weeks.
Currently, as expected, the recent surge in "risk" is coming to an end as rotation into Utilities and Bonds, or "safety" begins. This rotation suggests the current correction is likely not over as of yet which, again, suggests a more cautionary stance.
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. The number of sectors on "buy signals" has improved from just two a few weeks ago to 15 this past week. Sectors that are on buy signals tend to outperform in the near term.
The risk-adjusted equally weighted model remains from last week. No changes this week.
The portfolio model remains at 35% Cash, 35% Bonds, and 30% in Equities.
THE REAL 401k PLAN MANAGER
The Real 401k Plan Manager - A Conservative Strategy For Long-Term Investors
NOTE: I have redesigned the 401k plan manager to accurately reflect the changes in the allocation model over time. I have overlaid the actual model changes on top of the indicators to reflect the timing of the changes relative to the signals.
As discussed in the main section of the newsletter, the short-term dynamics have begun to deteriorate. With the longer-term structures still negative, the potential of a bigger correction has risen in the last week.
While the market pushed back into oversold territory last week, the failure to hold the 50-dma raises some red flags. While there is no need to make any changes to portfolios this week, as I have repeatedly stated, the markets are currently fraught with risk and should not be taken lightly.
As I stated last week:
That advice remains this week. I try and remain very sensitive to making changes to the model since many 401k plans have limits to switching funds.
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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