FBIAS™ Fact-Based Investment Allocation Strategies for the week ending 6/27/2014
The very big picture:
In the “decades” timeframe, we have been in a Secular Bear Market which began in 2000 when the P/E ratio (using Shiller’s Cyclically-Adjusted P/E, or “CAPE”) peaked at about 44. The job of Secular Bear markets is to burn off outrageously high P/E ratios over one or two decades, until finally the P/E ratio arrives back at a single-digit level, from which another Secular Bull Market can emerge. See graph below for the 100-year view of this repeating process.
If history is a guide, we may not yet be done with this Secular Bear Market. The Shiller P/E is at 26.3, unchanged from the prior week and approximately at the level reached at the pre-crash high in October, 2007. Even though P/E’s are substantially lower than their crazy peak in 2000, they are nonetheless at the high end of the normal historical range and leave little if any room for expansion. This means that the stock market is unlikely to make gains greater than corporate profit growth percentage, if that. (note: all P/E references are to the Shiller P/E values, sometimes called PE10 or CAPE, which are calculated so as to remove shorter-term fluctuations; see robertshiller.com for details).
In fact, since 1881, the average annual returns for all ten year periods that began with a CAPE at this level have been just 3%/yr (see graph below).
This further means that above-average returns will be much more likely to come from the active management of portfolios than from passive buy-and-hold. Although a mania could come along and cause P/E’s to shoot upward from current levels (such as happened in the late 1920’s and the late 1990’s), in the absence of such a mania, buy-and-hold investors will likely have a long wait until the arrival of returns typical of a Secular Bull Market.
In the big picture:
The “big picture” is the months-to-years timeframe – the timeframe in which Cyclical Bulls and Bears operate. The US Bull-Bear Indicator (see graph below) is at 69.7, up from the prior week’s 68.8, and still solidly in cyclical Bull territory. The current Cyclical Bull has taken the US and some of Europe to new all-time highs, but many of the world’s major indices have yet to top 2007’s levels. The most widely followed international indexes, the Morgan Stanley EAFE Developed International index and the Morgan Stanley Emerging Markets Index, are both still below their 2007 peaks.
In the intermediate picture:
The intermediate (weeks to months) indicator (see graph below) remains in positive status, ending the week at 35, unchanged from the prior week. Separately, the quarter-by-quarter indicator – based on domestic and international stock trend status at the start of each quarter – gave a positive indication on the first day of April for the prospects for the second quarter of 2014, and is poised to continue its positive disposition into Q3.
In the Secular (years to decades) timeframe (Figs. 1 & 2 above), the Secular Bear may still be in force as the long-term valuation of the market is simply too high to sustain a new rip-roaring Secular Bull. In the Cyclical (months to years) timeframe (Fig. 3 above), all major equity markets are in Cyclical Bull territory. The Bond market returned to Cyclical Bull territory as of February 28th. In the Intermediate (weeks to months) timeframe (Fig. 4 above), US equity markets remain in positive status. The quarter-by-quarter indicator gave a positive signal for the 2nd quarter: both US and International equities were in uptrends at the start of Q2, which signals a higher likelihood of an up quarter than a down quarter.
In the markets:
Most of the world’s markets declined for the week ending June 27th, but generally did not lose very much. In the US, the S&P 500 slipped just -0.1%, likewise for Canada’s TSX. The Dow Industrials lost -0.6%, but the SmallCap, MidCap, and Nasdaq indices managed to post gains. Developed International retreated -0.8%, led by Germany’s -3% loss, while Emerging International posted a +0.3% gain.
On Wednesday, US GDP for the 1st quarter was given its final revision, and it was a shocker: -2.9%, the worst report since the first quarter of 2009, and the worst non-recession GDP report in more than 50 years. Despite the horrible GDP number, the US markets actually finished higher on Wednesday. More than the GDP report, the US markets were rattled by the President of the St. Louis Fed, James Bullard, who speculated on Thursday that the Fed might enact rate hikes sooner than markets anticipate. He asserted that both the US unemployment rate and US GDP growth rate are rapidly nearing Fed target levels and could reach them as soon as the coming turn of the year.
In other US economic news, several items from the housing sector were warmly greeted. Existing home sales increased +4.9%, the biggest gain since 2011, and new home sales increased +18.6% month over month, the largest monthly increase since January 1992. The Case-Shiller housing price index, though, increased by just +0.2% in April, the smallest increase since February 2012. The +10.8% year over year home price gain reported by Case-Shiller was the smallest since March 2013. Both of the Case-Shiller items suggest the recent rapid rise in real estate prices is slowing.
Video camera maker GoPro went public on Thursday via the Nasdaq, rising 23% on its first day. GoPro was the 144th US IPO this year, the fastest pace in more than twenty years. The dollar volume, $30 billion so far, points to 2014 potentially being the busiest dollar volume year since 2000. Alibaba, the Chinese internet company, announced it will hold its IPO on the NYSE (probably in August), dealing a blow to Nasdaq, which had wanted the Alibaba IPO very badly. The Nasdaq exchange is still feeling the negative aftereffects of the botched Facebook IPO.
Canada’s “Junior Miners” sector, which is populated by micro- and small-cap exploration and discovery companies, has traditionally been readily funded by investors looking for a big score. Lately, though, funding has dried up for Junior Miners, and many have fallen on hard times. More than a few Junior Miners have recently decided that there’s more gold in pot than there is in the ground – legal medical marijuana, in particular. More than a dozen have switched from mineral exploration to marijuana production, all hoping to follow the skyrocketing arc of “Affinor Resources, Inc.”, one of the first to switch. Affinor’s stock price rocketed 2,600% in just nine weeks after switching to medical marijuana from precious metals, and its market cap went from $2 million to $50 million.
In Europe, a composite flash Purchasing Manager’s Index (“PMI”) reading on the Eurozone’s manufacturing and service sectors came in at 52.8 for June vs 53.5 in May, and with the manufacturing component ticking down to 51.9 from the prior month’s 52.2. The report breaks out only German and French manufacturing PMIs, and they continue to head in opposite directions. German manufacturing PMI at 52.4 was slightly better than May’s 52.3, but France continued to worsen with its manufacturing PMI reported at just 47.8 vs. 49.6 in May. France continues to experience shrinkage of its manufacturing sector with sub-50 (contraction) numbers.
In China, the Hong Kong Shanghai Bank (“HSBC”) flash reading on manufacturing for the month of June showed a rise to 50.8 from 49.4 in May. HSBC’s figures have long been viewed as more reliable than the government’s readings, and HSBC focuses on the private sector, while China’s bureau of statistics emphasizes state-run enterprises. Both sources, however, have been showing readings that fluctuate around the 50 level with some months in higher (expansion) and some in lower (contraction) territory.
(sources: Reuters, Barron’s, Wall St Journal, Bloomberg.com, ft.com, guggenheimpartners.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics Canada, Yahoo! Finance, stocksandnews.com, wantchinatimes.com, BBC, 361capital.com, S China Morning Post, NY Post)
The ranking relationship (shown in Fig. 5) between the defensive SHUT sectors (“S”=Staples [a.k.a. consumer non-cyclical], “H”=Healthcare, “U”=Utilities and “T”=Telecom) and the offensive DIME sectors (“D”=Discretionary [a.k.a. Consumer Cyclical], “I”=Industrial, “M”=Materials, “E”=Energy), is one way to gauge institutional investor sentiment in the market.
The average ranking of Defensive SHUT sectors rose to 10.5 from the prior week’s 13.0, while the average ranking of Offensive DIME sectors fell to 14.3 from the prior week’s 13. Institutional investors remain cautious, despite recent new highs, and the Defensive SHUT group ranking is now higher than the Offensive DIME ranking.
Note: these are “ranks”, not “scores”, so smaller numbers are higher ranks and larger numbers are lower ranks.
The US has led the worldwide recovery, and continues to be among the strongest of global markets. However, the over-arching Secular Bear Market may remain in place even as new highs are reached in the US.
Because we may still be in a Secular Bear, we have no expectations of runs of multiple double-digit consecutive years, and we expect poor market conditions to be a frequent occurrence. Nonetheless, we remain completely open to any eventuality that the market brings, and our strategies, tactics and tools will help us to successfully navigate whatever happens.
If you have any questions about the FBIAS™ Fact-Based Investment Allocation Strategy portfolios, feel free to give your Anthony Capital, LLC advisor a call at 303-734-7178 or by scheduling a private virtual meeting/conference call. We work with clients from all over the country and would be happy to help.
You can also open up an online account by clicking HERE at our preferred custodian, Interactive Brokers, LLC.
Dave Anthony, CFP®, RMA®