posted on 19 September 2016
Time To Buy Bonds? Probably.
Last week, I discussed what I believe to be the premature calls for the death of the "bond bull market." As I wrote:
Jennifer Thomson from GaveKal Research also acknowledged much the same.
As I said last week - all interest rates are relative. I am still buying bonds.
Walking Up A Down Elevator
A look at momentum currently suggests that investors may have to wait another week, or so, for a short-term trading opportunity to set itself up.
As shown in the chart below, and noted in the missive above, the market is currently holding support at the previous breakout highs. However, the overall momentum of the market is continuing to decline from previously high levels. Looking back over the last 5-quarters, such corrections have tended to correct further after a short term bounce.
As Adam Koos penned on Friday:
I tend to agree.
Sector Snapshot - Looking For Opportunity
The correction in the broader market is much more interesting when looking at the underlying sectors. Had it not been for Apple's (AAPL) surge last week on hopes for strong iPhone7 sales, the market decline would have been substantially worse.
As shown in the chart below, there are moving average crossover (sell signals) in Discretionary, Industrials, Materials, Staples, Healthcare, and Utilities.
Furthermore, with the exception of Technology, every sector has broken their respective longer-term moving averages suggesting downside risk currently prevails.
The picture doesn't improve much when looking at major indices.
EVERY index has broken the longer-term moving average which suggests more pressure to the downside in the days ahead
While it is entirely feasible the markets could bounce higher next week, any failure to reverse the short-term damage to the market will likely show up in renewed selling pressure.
On a short-term trading basis, traders may be well advised to sell into any short-term rallies to take profits and rebalance portfolio related risks.
S.A.R.M. Sector Analysis & Weighting
Well, last week wasn't boring. The market swung in a 2% range all week as portfolio managers repositioned for options expiration on Friday. The question now - is it over yet? The internal damage to the market was substantially greater than the headline index would suggest, so some caution is advised heading into next week. However, we have been looking for an opportunity to increase equity exposure in portfolios and we may get that opportunity soon. We will patiently wait and let the market "tell us" what to do next rather than "guessing" at it.
While actual portfolio equity risk weightings remain below our target of 75% again this week, the odds of a further correction next week keeps us on hold for now until we find a short-term bottom and can redetermine risk/reward ratios.
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.
As noted above, the recent spike in interest rates has now reached the top of the long-term downtrend and suggests that staples, utilities, and bonds will improve in performance over the next couple of weeks. Such improvement will most likely coincide with an ongoing market consolidation or correction.
Notice in the next to last column to the right, the majority of sectors which have previously been pushing extreme levels of deviation from their long-term moving average, have corrected much of those extremes.
Basic Materials, Staples, Utilities, REIT's and Bonds are currently at the biggest deviations below their short-term moving average. Historically speaking, and as noted above, such deviations would suggest these sectors deserve some attention in portfolios as this is where buying opportunities TEND to exist. It also supports the comment above that a further consolidation or correction in the markets is likely as these more defensive sectors tend to benefit from the rotation from "risk" to "safety."
Importantly, if the current pullback is a "buy the dip" opportunity, the sectors that maintain their technical underpinnings and resolve the extreme deviations from short and long-term moving averages will provide good opportunities to add to portfolios.
The two charts below graphically show the relationship of each position's performance relative to the S&P 500 Index. If we are trying to "beat the index" over time, we want to overweight sectors/asset classes that are either improving in performance or outperforming the index, and underweight or exclude everything else.
Sectors Currently Outperforming by >1%
Sectors Currently Performing In Line <>1%
Sectors Currently Under Performing By >1%
Index/Other Asset Classes Out Performing S&P 500 By >1%
Index/Other Asset Classes Performing In-Line With S&P 500 <>1%
Index/Other Asset Classes Under Performing S&P 500 By >1%
The risk-adjusted equally weighted model has been increased to 75%. However, as stated above, further consolidation in the markets is needed before making any changes.
Such an increase will change model allocations to:
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