Written by Lance Roberts, Clarity Financial
While the negative risk/reward dynamics are evident, the more negative outcomes are becoming less probabilistic. However, a deeper correction becomes possible on a longer-term basis, given the deviation in prices from the underlying fundamentals.
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I understand if this seems confusing, but it is the difference between chasing markets short-term versus longer-term outcomes for portfolios. This analysis is part of our thought process as we continue to weigh “equity risk” within our portfolios.
As noted last week, the positioning in our portfolios continues to relative to the overall risk we are willing to assume. This past week we continued to make changes in our portfolios by adding to sectors that are positioned to take advantage of the economic recovery. As we detailed to our RIAPRO subscribers (30-day Risk-Free Trial).
We continue to add equity exposure in areas that we like, focusing on dividend yield, and continuing to hedge that equity risk with offsetting bond and dollar exposures. (Bonds and the dollar are extremely overseen, so rotation is likely near term, coinciding with a short-term market correction or consolidation)
“In the EQUITY PORTFOLIO, we are adding:
- CVS – 1.5% – With people returning to activity, sales should pick up on the retail side.
- UPS – 1.5% – Economic reopening should see a pick up in shipping rates.
- NSC – 1.5% – Same with transportation.
In the ETF PORTFOLIO we added:
- XLU – 1% addition to current holdings.
- IYT – 3% – Transportation sector to capture an increase in shipping with reopening.
In BOTH PORTFOLIOS, we hedged the increases in equity risk with an addition of 2.5% to TLT, which is currently deeply oversold relative to equities.”
We Like Bonds
The important point is that we are balancing increases in exposure to defensive positioning. In a “risk-off” rotation money will flow into bonds from equities, which will shield the portfolio from a decline. Given bonds are deeply oversold, versus a grossly overbought market, that rotation is likely coming sooner rather than later.
(As opposed to the S&P 500, bonds are more than 3-standard deviations oversold and on Friday began a reversal rally. We recently added to our positions to take advantage of a risk rotation.)
Obviously, we don’t care for the risk/reward of the market currently. As such, we suspect a better opportunity to increase equity risk will come later this summer.
Winning The War
I want to conclude with this quote from our MacroView this week ( to be posted here tomorrow):
“Our goal is to win a war, and we may need to lose a few battles in the interim.
Yes, we want to make money, but it is even more important not to lose it. If the market continues to mount even higher, we will likely lag. The stocks we own will become fully valued, and we’ll sell them. If our cash balances continue to rise, then they will. We are not going to sacrifice our standards and thus let our portfolio be a byproduct of forced or irrational decisions.
We are willing to lose a few battles, but those losses will be necessary to win the war. Timing the market is an impossible endeavor. We don’t know anyone who has done it successfully on a consistent and repeated basis. In the short run, stock market movements are completely random – as random as you’re trying to guess the next card at the blackjack table.” – Vitaliy Katsenelson
I agree, and while such may be the case for the moment, markets like this have a nasty habit of delivering unpleasant surprises. We are in this to win the “war.”
But I will be honest; I don’t like losing battles even for the best of reasons.
