FBIAS™ Fact-Based Investment Allocation Strategies for the week ending 4/29/2016

The very big picture:

In the “decades” timeframe, the question of whether we are in a continuing Secular Bear Market that began in 2000 or in a new Secular Bull Market has been the subject of hot debate among economists and market watchers since 2013, when the Dow and S&P 500 exceeded their 2000 and 2007 highs.  The Bear proponents point out that the long-term PE ratio (called “CAPE”, for Cyclically-Adjusted Price to Earnings ratio), which has done a historically great job of marking tops and bottoms of Secular Bulls and Secular Bears, did not get down to the single-digit range that has marked the end of Bear Markets for a hundred years, but the Bull proponents say that significantly higher new highs are de-facto evidence of a Secular Bull, regardless of the CAPE.  Further confusing the question, the CAPE now has risen to levels that have marked the end of Bull Markets except for times of full-blown market manias.  See graph below for the 100-year view of Secular Bulls and Bears.

Even if we are in a new Secular Bull Market, market history says future returns are likely to be modest at best.   The CAPE is at 25.92, down from the prior week’s 26.25, after having earlier reached the level also reached at the pre-crash high in October, 2007.  Since 1881, the average annual return for all ten year periods that began with a CAPE around 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 the CAPE 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 more typical of a rip-snorting 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 U.S. Bull-Bear Indicator (see graph below) turned negative on January 15th, and remains in Cyclical Bear territory at 51.30, down from the prior week’s 52.99.

In the intermediate picture:

The intermediate (weeks to months) indicator (see graph below) turned positive on January 26th.  The indicator ended the week at 35, down 1 from the prior week’s 36.  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 2016.

Timeframe summary:

In the Secular (years to decades) timeframe (Figs. 1 & 2 above), whether we are in a new Secular Bull or still in the Secular Bear, the long-term valuation of the market is simply too high to sustain rip-roaring multi-year returns.  The Bull-Bear Indicator (months to years) is negative (Fig. 3 above), indicating a new Cyclical Bear may have arrived.   The Quarterly Trend Indicator (months to quarters) is positive for Q2, and the Intermediate (weeks to months) timeframe (Fig. 4 above) is positive.  Therefore, with two of the three indicators positive, the U.S. equity markets are rated as Mostly Positive.

In the markets:

U.S. stocks ended lower for the week after losses on Thursday and Friday that erased earlier gains.  For the week, the Dow Jones Industrial Average fell -230 points to 17,773, down -1.28%.  The NASDAQ Composite, the worst of US indices, fell -130 points to 4,775, down -2.67%.  Apple and several other mega-cap technology stocks weighed on the NASDAQ, more than could be offset by good reports from Facebook and Amazon.  The LargeCap S&P 500 ended down -1.26% along with the MidCap S&P 400 index and the SmallCap Russell 2000 index which closed down -1.04% and -1.38% respectively.  Transports and Utilities were split as the Transports fell -2.65%, but the defensive Utilities sector rose +2.33%. 

International markets generally had a worse week than the U.S., except for Canada’s TSX which rose +0.56% on recent strength in the energy sector.  In Europe, Germany’s DAX fell -3.22%, France’s CAC 40 declined -3.08%, and the United Kingdom’s FTSE ended down -1.09%.  In Asia, Japan’s Nikkei plunged -4.02%.  Hong Kong’s Hang Seng index fell -1.86%, while China’s Shanghai Stock Exchange declined -0.71%.

In commodities, precious metals began to shine as gold gained +$61.20 an ounce to $1,294.90, up +4.96%, and silver rose over +5% to $17.89 an ounce.  Crude oil climbed +5.12%  to almost $46 a barrel.  The industrial metal copper also gained, up +0.56%.

The month of April was positive for most equity and commodity markets, with the notable exception of U.S. tech stocks as reflected in the NASDAQ Composite’s April return of -1.94%.  The LargeCap S&P 500 gained a modest +0.27%, while MidCaps and SmallCaps outperformed at +1.14% and +1.51% respectively.  Emerging International (EEM) gained +0.41%, and Developed International (EFA) rose a more-robust +2.22%.  The greatest strength was to be found in commodity markets, paced by the headliners Gold (+4.44%) and, especially, Oil (+15.52%).  Unsurprisingly, resource-dependent equity markets benefited, as reflected in Canada’s TSX April gain of +3.39%.

In U.S. economic news, new-home sales fell -1.5% last month to an annual rate of 511,000 according to the Commerce Department.  It was the third straight monthly decline.  Economists had expected an annual rate of 522,000.  New-home median prices fell to $288,000 from $293,400 a year earlier, at the same time that the number of new homes for sale rose to the highest level since the fall of 2009.  On a positive note for housing, the National Association of Realtors (NAR) reported that pending home sales rose more than expected in April.  The NAR’s pending-home sales Index climbed +1.4% to 110.5, a 10-month high.  Economists had expected a +0.5% increase.  The pending-home sales Index tracks existing-home contract signings.  It serves as an indicator for the actual existing-home sales closings which follow a month or two later.

The government released its initial look at first-quarter U.S. GDP and it was a disappointing +0.5% annualized growth rate—the slowest in 2 years.  A similar pattern emerged in 2014 and 2015 when initial readings of -0.9% and +0.6% were followed by strong second quarter GDP readings of +4.9% and +3.9%, respectively.  Digging deeper into the latest numbers, real final sales to domestic purchasers rose just +1.2%, the weakest annualized gain since the second quarter of 2013.  “Real” sales strip out net exports and inventory investment, and according to Steve Blitz, chief economist at ITG Investment Research “is about as core a measure of GDP as there is.”

Orders for U.S. durable goods missed expectations, climbing less than forecast in April as demand for capital equipment remained weak.  The Commerce Department reported orders for items meant to last at least three years rose +0.8% after a -3.1% drop a month earlier.  Despite the rise, it was a “miss” relative to expectations as the median forecast had called for a +1.9% advance.  Orders for business equipment were essentially flat last month, also weaker than expected.  Businesses continue to face headwinds with soft global sales and lackluster U.S. consumer spending, making it difficult to justify expanding plans for capital outlays.  Shipments of non-military capital goods ex-aircraft (a measure used to calculate gross domestic product) increased +0.3% last month after declining -1.8% in February.

Also in U.S. manufacturing, the Chicago Purchasing Managers Index (PMI) fell -3.2 points to 50.4, widely missing expectations of a 53 reading and just barely remaining in expansion (>50) territory.  The PMI decrease was led by a decline in new orders and an even sharper drop in order backlogs.  Chief Economist of forecasting firm MNI Indicators Philip Uglow stated “This was a disappointing start to the second quarter, with the barometer barely above the neutral 50 mark in April.  Against a backdrop of softer domestic demand and the slowdown abroad, panelists are now more worried about the impact a rate hike might have on business than they were at the same time last year.”

In earnings news, 55% of the S&P 500 companies have now reported earnings and Thomson Reuters is forecasting that earnings will decline and overall -6.1% in the first quarter.  After removing energy components, Thomson Reuters is forecasting a smaller -0.5% decline.  This would mark the third consecutive quarter of earnings declines.

This past week, the Federal Reserve held its key rate steady, as expected, and gave no indication that it is ready to shift to a tightening mode anytime soon.  The Fed noted in its post-meeting statement that even amid further labor market strengthening “growth in economic activity appears to have slowed” and household spending growth has moderated.  Unlike the March statement, where global economic and financial concerns outweighed domestic activity, U.S. domestic growth issues took precedence in this statement.  CME Group’s FedWatch reports that investors are now pricing in 52% odds of a rate hike at the September Fed meeting, but only 19% odds of a move in June.

In Canada, GDP fell by -0.1% in February but still beat expectations.  Canada’s economy shrank for the first time in 5 months as manufacturing, mining, and energy all slowed.  Statistics Canada reported that agriculture and forestry also suffered declines.  Despite the contraction, February’s performance still beat analyst expectations of a -0.2% drop.

In Europe, a flash reading of first-quarter Euro-Area GDP was up a better than expected +0.6% over last year’s 4th quarter, and up +1.6% from the year-ago quarter.  Analysts note that +1.6% is good, but growth greater than +2% is needed to get out of the state of stagnation that the region has been mired in for several years.  Also in the Euro-area, the unemployment rate fell to 10.2% in March from 10.4% in February.  Country-specific unemployment rates show Germany’s unemployment rate was at 4.2%, France’s at 10%, Italy at 11.4%, and Spain at 20.4%. 

In the United Kingdom, Britain’s GDP grew +0.4% in the first quarter, down -0.2% from the final quarter of 2015 according to the U.K. Office for National Statistics.  It was the weakest pace since the end of 2012.  A significant factor was the fall in construction output which fell -0.9%.  The service sector was the only major part of the economy to report growth, growing +0.6% from last quarter.

In France, the economy grew +0.5% in the first quarter on the heels of the strongest increase in consumer spending since 2004 and a pick-up in business investment.  Consumer spending was up +1.2% over the first 3 months of the year and business investment rose +1.6%, the strongest increase in 5 years.

The Conference Board released a new report on future global GDP, estimating that by 2018 China’s contribution to global GDP will surpass that of the U.S., making China’s economy the most significant on the global stage.  In 1970, the U.S. contributed 21.2% of total global economic output.  This remained consistent until the year 2000.  Since that time, America’s percentage of world’s economic output has declined steadily.  In 2015, the U.S. contributed 16.7% of the world’s economy.  In contrast, China’s contribution to global GDP was a mere 4.1% in 1970.  Last year, their contribution was 15.6%.  Since 1990, China’s percentage of total global output has risen every year with one exception, the “Asian Contagion” of 1998. 

In Japan, the Bank of Japan surprised economists by voting against more stimulus.  Despite weak inflation and household spending, the central bank decided against fresh measures to stimulate the economy.  Although it kept its negative interest rate policy and voted to continue its massive asset purchase schemes, the bank refrained from any extra measures to kick-start the stagnant economy.  The dollar plunged -2.35% against the yen following the news and the Nikkei fell -3.5%.

Finally, the Gallup Organization released a poll revealing that only slightly more than half of Americans say they currently have money in the stock market, even including 401(k) and IRA holdings.  What’s striking about the poll is that it is back to the lowest rate in the survey’s 19 year history.

In 2007, nearly 2/3’s of Americans reported investing in the stock market, but that percentage has shrunk steadily since that high-water mark, representing many millions of Americans who have left the stock market. 

According to Gallup, all American income segments are less likely to have stock investments now than before the Great Recession, but stock ownership for middle class Americans (with annual household incomes ranging from $30,000-$74,999) has plunged the most.  The -22% drop for the middle class is more than double the amount among higher and lower income groups.

Among age groups, millennials (18 to 34) showed the greatest decline in market participation, dropping from 52% all the way to 38%.  The so-called “robo-advisors”, catering to millennials, seem to be wooing a surprisingly disinterested market segment.

(sources: all index return data from Yahoo Finance; 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,  marketwatch.com,  wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com)

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 fell to 17.8, down from the prior week’s 16.5, while the average ranking of Offensive DIME sectors rose to 9.0 from the prior week’s 9.5.  The Offensive DIME sectors expanded their ranking lead over the Defensive SHUT sectors.  Note: these are “ranks”, not “scores”, so smaller numbers are higher ranks and larger numbers are lower ranks.

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, Folio Institutional.

Sincerely,

FBIAS™ Fact-Based Investment Allocation Strategies for the week ending 4/22/2016

The very big picture:

In the “decades” timeframe, the question of whether we are in a continuing Secular Bear Market that began in 2000 or in a new Secular Bull Market has been the subject of hot debate among economists and market watchers since 2013, when the Dow and S&P 500 exceeded their 2000 and 2007 highs.  The Bear proponents point out that the long-term PE ratio (called “CAPE”, for Cyclically-Adjusted Price to Earnings ratio), which has done a historically great job of marking tops and bottoms of Secular Bulls and Secular Bears, did not get down to the single-digit range that has marked the end of Bear Markets for a hundred years, but the Bull proponents say that significantly higher new highs are de-facto evidence of a Secular Bull, regardless of the CAPE.  Further confusing the question, the CAPE now has risen to levels that have marked the end of Bull Markets except for times of full-blown market manias.  See graph below for the 100-year view of Secular Bulls and Bears.

Even if we are in a new Secular Bull Market, market history says future returns are likely to be modest at best.   The CAPE is at 26.25, little changed from the prior week’s 26.28, after having earlier reached the level also reached at the pre-crash high in October, 2007.  Since 1881, the average annual return for all ten year periods that began with a CAPE around 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 the CAPE 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 more typical of a rip-snorting 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 U.S. Bull-Bear Indicator (see graph below) turned negative on January 15th, and remains in Cyclical Bear territory at 52.99, up from the prior week’s 51.12.

In the intermediate picture:

The intermediate (weeks to months) indicator (see graph below) turned positive on January 26th.  The indicator ended the week at 36, up 1 from the prior week’s 35.  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 2016.

Timeframe summary:

In the Secular (years to decades) timeframe (Figs. 1 & 2 above), whether we are in a new Secular Bull or still in the Secular Bear, the long-term valuation of the market is simply too high to sustain rip-roaring multi-year returns.  The Bull-Bear Indicator (months to years) is negative (Fig. 3 above), indicating a new Cyclical Bear has arrived.   The Quarterly Trend Indicator (months to quarters) is positive for Q2, and the Intermediate (weeks to months) timeframe (Fig. 4 above) is positive.  Therefore, with two of the three indicators positive, the U.S. equity markets are rated as Mostly Positive.

In the markets:

The major U.S. market benchmarks ended the week mostly higher.  Poor performance from some of the first technology stocks to report earnings weighed on the NASDAQ, which ended the week with a moderate loss, but the other benchmarks established multi-month highs by the middle of the week.  For the week, the Dow Jones Industrial Average rose 106 points (+0.59%) and retook the 18,000 level, closing at 18,003.  The LargeCap S&P 500 index added half a percent to close at 2,091.  The NASDAQ composite, weighed down by earnings misses from Microsoft and Alphabet/Google lost -0.65%, closing at 4,906.  MidCaps and SmallCaps were strong as the S&P 400 MidCap index gained +0.84% and the Russell 2000 SmallCap index tacked on +1.39%. 

International markets were also mostly higher.  Canada’s TSX had a strong week, up +1.74%.  In Europe, the United Kingdom was the only major market that ended down, losing -0.53%, but mainland European bourses were strong with Germany’s DAX rising +3.2%, Italy’s Milan FTSE gaining +2.35%, and France’s CAC 40 adding on +1.66%.  Major markets in Asia were mixed with Japan’s Nikkei rallying +4.3%, but China’s Shanghai Stock Exchange fell -3.86%.

Commodities were mostly in the green with the industrial metal copper up an impressive +5.34%.  Precious metals were mixed, as Silver rallied +4.77%, now over $17 an ounce at $17.03, but Gold retreated slightly to $1,233.70 an ounce, down -0.17%.  Oil had its 3rd straight week of gains, up +4.79%, ending the week at $43.75 per barrel of West Texas Intermediate crude. 

In U.S. economic news, initial jobless claims fell 6,000 to 247,000 last week to the lowest level since 1973, according to the Labor Department.  Economists had forecasted a rise to 265,000.  This multi-decade low in claims suggests that the labor market is continuing to tighten, which should be reflected positively in higher wages as well as encouraging unengaged workers to re-enter the workforce.

In housing, homebuilder sentiment held steady for a third straight month in April with the National Association of Home Builders (NAHB) index coming in at 58, while expectations were for a reading of 59.  Readings over 50 indicate growth.  The NAHB index hit a 10-year high of 65 last October.  The current sales index declined 2 points to 63, but the future sales gauge gained a point to 62.  Also in housing, existing home sales rose +5.1% last month to an annualized rate of 5.33 million units, according to the National Association of Realtors, beating expectations for a rise to 5.268 million.  Prices of existing-home sales rose +5.7% versus the same time last year to an average of $222,700 as the supply of homes in the market remained relatively tight at 1.98 million, or about 4 and ½ months’ worth.  However, the Commerce Department reported late in the week that builders broke ground on an annualized 1.089 million new-home units in March, which was down -8.8% and at the lowest level since last October.  Economists had expected a 1.1167 million rate.  Building permits also fell, down -7.7% to 1.086 million, missing expectations of 1.2 million.

In manufacturing, the Philadelphia Federal Reserve’s manufacturing index fell into contraction at -1.6 in April from 12.4 in March.  Analysts had expected a reading of 9.  March’s positive reading had followed a string of 6 consecutive negative readings.  New orders came in flat from March’s relatively strong 15.7.  The jobs index crashed to -18.5 from March’s -1.1—the worst reading since July 2009.  Markit’s flash US-wide Purchasing Managers Index (PMI) seems to have confirmed the bad news as their reading of manufacturing sentiment fell in April to its lowest level in 6 ½ years.  The underlying U.S. manufacturing PMI fell to 50.8 in April from 51.5 in March—that is its lowest level since September 2009.  Softer rates of output and new business growth along with a weaker gain in employment were the main factors weighing on the index, according to Markit.

In Canada, Prime Minister Justin Trudeau’s Liberals introduced a budget that sharply boosts spending on a variety of initiatives from infrastructure to social benefits.  Because of that fiscal stimulus, the Bank of Canada refrained from cutting interest rates, helping to send the Canadian dollar sharply higher.  Economists suggest that Canada’s move benefits the global economy as much as it does its own.  They suggest that the higher dollar will be a drag on Canada’s trade sector, diluting the stimulative impact, but that Canada’s loss will be the world’s gain.  Canada appears to be executing the agreement that finance ministers and central bankers reached when the top 20 economies met just recently in Washington, namely that they should rely less on monetary and more on fiscal policy to rejuvenate growth.

In Europe, Mario Draghi, President of the European Central Bank (ECB) said the ECB remains ready to step up stimulus if the outlook for the area worsens.  The ECB president told reporters that “it is essential to preserve an appropriate degree of monetary accommodation” after policymakers kept interest rates unchanged at record lows and maintained their asset purchasing program at 80 billion euros (US$90 billion) a month.  The Governing Council “if warranted to achieve its objective, will act by using all instruments available within its mandate,” he said.  German politicians have been especially critical of the ECB’s policies, which they say burdens savers and wreaks havoc on retirement plans. 

In the United Kingdom, manufacturing, housing, and other economic measurements have shown clear signs that the UK economy has been losing momentum in recent months.  During that time, the unemployment figures have remained the lone bright spot with the jobless rate slipping to 5.1%.  It was only a matter of time, though, before the labor market caught up to the rest of the economy and that moment appears to have arrived.  The latest figures from the Office of National Statistics were poor.  Unemployment rose on both measures used by the government, the labor force survey and the claimant count.  The Labor Force Survey increased by 21,000 – the first increase in nearly a year.

In Germany, the finance ministry said that it expects the country’s economy to post robust growth for the first quarter of 2016 due to strong consumption amid an improving labor market, rising wages, and lower crude oil prices.  On a negative note, though, it lowered the country’s GDP growth forecast for 2016 and 2017 to +1.7% and +1.5%, respectively.  The ministry’s monthly report also forecast that overall tax revenue will increase by a robust +7.1% year-over-year in March.

In China, billionaire investor George Soros said China’s debt-fueled economy resembles the U.S. in 2007-08, just before credit markets seized up and spurred a global recession.  China’s March credit-growth figures should be viewed as a warning sign, Soros said at an Asia Society event in New York.  He asserted that “most of the money that [Chinese] banks are supplying is needed to keep bad debts and loss-making enterprises alive.”

In Japan, exports fell for a 6th straight month last month, but an even sharper decline in imports pushed the trade surplus to its highest level in more than 5 years.  Customs data showed exports fell -6.8% from a year earlier to 6.46 trillion yen ($59.2 billion) while imports plunged -14.9% to 5.7 trillion yen ($52.2 billion).  The resulting balance was the highest since fall of 2010, but this is not how anyone would want to expand the trade surplus!

Finally, should you “kick ‘em when they’re down”, or “pick ‘em when they’re down”?  Recent research has shown that asset classes (not individual stocks) that have been down for 3 or more consecutive years are extremely good buys.  Researcher and money manager Meb Faber has recently published work that shows that asset classes that have been down 3 years in a row, (which is quite rare, only occurring 2% of the time per Faber), produced an average of more than +50% return in the following 2 years.  Asset classes down 4 and even 5 years in a row, even rarer, produce even higher subsequent 2-year returns.  Some 2-year return examples from the last several decades: US Bonds (down 1978, 1979, 1980): +48%; US equities (down 2000, 2001, 2002): +43%; Foreign Developed (down 2000, 2001, 2002): +69%; Foreign Emerging (down 2000, 2001, 2002): +96%.  Individual country indices are similar: if down 3 years in a row, +56%.  Sectors and industries: if down 3 years in a row, +59%.

Which brings us to the present:  the Emerging Market and Commodities asset classes have both been down 3 years in a row.  The last time that Emerging Markets were down 3 in a row (as noted above), that asset class rocketed +96% in the next 2 years.  Commodities have never been down 3 years in a row before, so we have no precedent to look back on, but there is no good reason to believe commodities shouldn’t participate in this “mean reversion” behavior, as well!

(sources: all index return data from Yahoo Finance; 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,  marketwatch.com,  wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com)

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 fell to 16.5, down from the prior week’s 12.5, while the average ranking of Offensive DIME sectors rose to 9.5 from the prior week’s 10.3.  The Offensive DIME sectors expanded their ranking lead over the Defensive SHUT sectors.  Note: these are “ranks”, not “scores”, so smaller numbers are higher ranks and larger numbers are lower ranks.

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, Folio Institutional.

Sincerely,

FBIAS™ Fact Based-Investment Allocation Strategies for the week ending 4/15/2016

The very big picture:

In the “decades” timeframe, the question of whether we are in a continuing Secular Bear Market that began in 2000 or in a new Secular Bull Market has been the subject of hot debate among economists and market watchers since 2013, when the Dow and S&P 500 exceeded their 2000 and 2007 highs.  The Bear proponents point out that the long-term PE ratio (called “CAPE”, for Cyclically-Adjusted Price to Earnings ratio), which has done a historically great job of marking tops and bottoms of Secular Bulls and Secular Bears, did not get down to the single-digit range that has marked the end of Bear Markets for a hundred years, but the Bull proponents say that significantly higher new highs are de-facto evidence of a Secular Bull, regardless of the CAPE.  Further confusing the question, the CAPE now has risen to levels that have marked the end of Bull Markets except for times of full-blown market manias.  See graph below for the 100-year view of Secular Bulls and Bears.

Even if we are in a new Secular Bull Market, market history says future returns are likely to be modest at best.   The CAPE is at 26.28, up from the prior week’s 25.86, after having earlier reached the level also reached at the pre-crash high in October, 2007.  Since 1881, the average annual return for all ten year periods that began with a CAPE around 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 the CAPE 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 more typical of a rip-snorting 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 U.S. Bull-Bear Indicator (see graph below) turned negative on January 15th, and remains in Cyclical Bear territory at 51.12, up from the prior week’s 49.50.

In the intermediate picture:

The intermediate (weeks to months) indicator (see graph below) turned positive on January 26th.  The indicator ended the week at 35, down 1 from the prior week’s 36.  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 2016.

Timeframe summary:

In the Secular (years to decades) timeframe (Figs. 1 & 2 above), whether we are in a new Secular Bull or still in the Secular Bear, the long-term valuation of the market is simply too high to sustain rip-roaring multi-year returns.  The Bull-Bear Indicator (months to years) is negative (Fig. 3 above), indicating a new Cyclical Bear has arrived.   The Quarterly Trend Indicator (months to quarters) is positive for Q2, and the Intermediate (weeks to months) timeframe (Fig. 4 above) is positive.  Therefore, with two of the three indicators positive, the U.S. equity markets are rated as Mostly Positive.

In the markets:

There was broad strength in U.S. equities last week as every major equity index ended green on the week and reached their highest levels in several months.  The Dow Jones Industrial Average rose +320 points, ending the week at 17,897 (+1.82%).  The S&P 500 LargeCap index gained +1.62%, the MidCap S&P 400 added +2.6%, and the SmallCap Russell 2000 index was up +3.06%.  Transports and Utilities were also both positive with Transports up +3.1% on renewed strength in energy, and defensive Utilities even managed a positive close, up +0.36%.

In international markets, Canada’s Toronto Stock Exchange rose +1.79% along with almost all other major international markets.  Strength was definitely in Asia as Japan’s Nikkei rose a hefty +6.49%, Hong Kong’s Hang Seng gained +4.6%, and China’s Shanghai Stock Exchange added +3.1%.  In Europe, the United Kingdom was up +2.25%.  Germany and France both rose a very strong and identical +4.46%. 

In commodities, silver was the big winner up 6.2% to $16.31 an ounce.  That was an unusual divergence from Gold which actually was in the red for the week, down -$5.50 an ounce to $1234.60.  Oil continued its strong rebound gaining +5.1% for the week to $41.71 a barrel for West Texas Intermediate crude oil.  The industrial metal copper also had a strong week, up +3.2%.

In U.S. economic news, jobless claims this week were the lowest since 1973 as initial claims fell 13,000 last week to 253,000, according to the Labor Department.  Jobless claims have now remained below 300,000 for more than a year, indicating solid hiring. 

Financial markets have staged a remarkable recovery from the worst start to a year in decades, but the recovery isn’t flowing through to worker paychecks.  Over the past 10 weeks the Treasury Department reported that federal income and employment taxes withheld from paychecks are up only +2.7% from a year ago—only half the growth rate of this time last year.  The weak tax revenue report doesn’t quite mesh with the 2.8 million (or 2%) gain in payroll jobs over the past year and +2.3% average wage increase reported from other sources.  Those numbers should add up to an annual gain of over +4% in withheld taxes, so the +2.7% number is surprisingly puny.  Unlike payroll data, tax withholding data are not subject to later revision and are absolute numbers—not based on sampled data. 

Optimism among small-business owners fell -0.3 point in March to a 2-year low of 92.6.  Over the past 15 months there’s been a -7.7 point decline in the index.  The size of the decline is flashing a warning signal of a possible recession, according to the National Federation of Independent Business.  NFIB’s chief economist William Dunkelberg stated that April’s Index of Small Business Optimism will carry special significance because it may determine whether a recession alarm should be rung or not.  The NFIB’s overall index hit a post-recession peak of 100.3 in December 2014, but it has remained below 100 since then.

The Consumer Price Index (CPI) rose +0.1% last month, with prices ex-food and energy also up +0.1%.  Economists had expected a +0.2% rise in both consumer prices and core CPI.  Year-over-year consumer prices are up +0.9%.  Core inflation was 2.2%, down -0.1% from February mitigating concerns that inflation is ramping up on services costs.  The Fed has set a 2% inflation target, but Fed watchers note that the policymakers’ favorite gauge is the PCE deflator and core PCE (Personal Consumption Expenditures).  That measure was 1.7% as of February, not quite as warm as CPI.

U.S. Retail sales for March disappointed, down -0.3%, while expectations had been for a +0.1% increase.  Removing the volatile autos and gas components, sales were up +0.1%, but this also lagged expectations. 

Industrial production fell sharply in March, according to the Federal Reserve, renewing concerns about the nation’s manufacturing sector.  Industrial output of the nation’s manufacturing, mining, and utilities fell -0.6% last month, far worse than the -0.1% decline expected.  On a regionally-positive note, the New York Fed’s Empire State Manufacturing Index showed surprising strength rising to 9.56 this month from 0.62 in March.  Economists weren’t expecting such a significant gain.  The report showed broad improvement with order growth the best since late 2014 and the employment subindex moving to positive territory.

According to the Fed’s Beige Book, “most districts said that economic growth was in the modest to moderate range and that contacts expected growth would remain in that range going forward.”  It also noted a general pickup in manufacturing activity, which had been negatively affected by a rising dollar.  Of the Fed’s 12 regional reserve banks, only Cleveland reported a decline in overall employment and Cleveland and Kansas City were the only banks that reported a decline in manufacturing activity.  The report painted a generally improving picture of the U.S. economy two weeks ahead of the next meeting of the Federal Open Market Committee, where officials gather to discuss their outlook and to set benchmark interest rates.  As of now, investors see essentially zero probability that the FOMC will lift the federal funds target range this month, based on prices in fed funds futures contracts.

In international economic news, the International Monetary Fund (IMF) warned that a prolonged period of slow growth has left the global economy more exposed to negative shocks and raised the risk that the world will slide into stagnation.  The IMF cut its world expansion forecast, as weak exports and slowing investment dim economic prospects in the U.S., a consumption-tax hike undermines growth in Japan, and a decline in the price of everything from oil to wheat continues to weigh on commodities producers.  The IMF expects the world economy to grow +3.2% this year, down from its earlier prediction of +3.4% in January according to the quarterly update to its World Economic Outlook.  The weaker outlook will likely weigh on the central bankers and finance ministers who gather in Washington this week for spring meetings of the IMF and World Bank.

In Canada, the Bank of Canada held its key interest rate steady and raised the economic outlook for 2016 as it sees new government stimulus outweighing economic headwinds.  The Bank of Canada kept its main interest rate at 0.5%, and stated that slowing foreign demand, downward revisions to business investment, and a strengthening currency all weighed on the country’s future economic outlook.

In the United Kingdom, the Confederation of British Industry (CBI), the country’s most prominent business lobbying organization, stated that an exit from the European Union would cause a serious shock to the economy and could cost 100 billion pounds ($145 billion) in lost economic output and 950,000 jobs by 2020.  Monday’s report by the CBI is the latest in a string of industry reports expressing concerns over slipping investor confidence caused by Britain’s potential exit from the EU.

In Germany, Finance Minister Wolfgang Schauble struck back at international criticism of Berlin’s budget policies, noting that Germany can’t save the global economy by spending more on social programs.  “We are not the cause of global economic problems,” he stated at a joint news conference with Bundesbank President Jens Weidmann.  The comments highlight Berlin’s growing isolation in international policy circles as it seeks to rein in government spending and curb easy-money policies while central bankers elsewhere are pursuing paths of fresh economic stimulus and domestic spending.

In Japan, Japanese officials were warned not to devalue the yen when Taro Aso, Japanese Finance Minister, told his U.S. counterpart Jack Lew that he was very concerned about the surge that took the yen above Y108 to the dollar earlier this week.  The U.S. Treasury reported that both men had agreed to honor their G20 exchange rate commitments limiting Japan’s options to deal with the stronger yen.  The stronger yen is raising the cost of Japanese products in international markets, which consequently has an adverse effect on the nation’s economy.

China’s economy expanded +6.7% in the first quarter versus a year earlier, the government said.  It was the smallest year-over-year increase since the first quarter of 2009, but it also signaled that the world’s second largest economy is stabilizing.  Several other reports also indicated solid growth: March retail sales rose +10.5% versus a year earlier, industrial production rose +6.8% versus a year earlier, and fixed asset investment rose +10.7% in Q1 versus a year earlier. 

Finally, it is no secret that the Apple iPhone has been a radical and revolutionary innovation in the tech space.  On January 9, 2007 the late Apple CEO Steve Jobs took the stage at the Moscone Center in San Francisco and introduced the first iPhone.  “Today, Apple is going to reinvent the phone,” Jobs proclaimed.

However, the iPhone didn’t just reinvent the phone—it also reinvented the digital camera.

The latest iPhone camera snaps better images than almost all traditional mass-market digital cameras, and is approaching the quality of many high-end SLR cameras.  One consequence of the iPhones’ omnipresence is the multiyear plunge in digital camera sales as shown in the graphic below.  The market for so-called “point-and-shoot” cameras has been essentially wiped out, with sales falling for 29 consecutive months. 

The high-end SLR market has held up much better, but it is a comparatively tiny market.  Industry analyst Wee Teck Loo says, in a bit of understatement, “Canon has launched its EOS 7D Mark II, a high-performance SLR able to meet the needs of professional photographers and while it has been very well received, it is unlikely to prevent the market from further contracting.”

(sources: all index return data from Yahoo Finance; 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,  marketwatch.com,  wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com)

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 10.3, up from the prior week’s 10.8, while the average ranking of Offensive DIME sectors rose to 10.3 from the prior week’s 11.8.  The Offensive DIME sectors grabbed the ranking lead from the Defensive SHUT sectors.  Note: these are “ranks”, not “scores”, so smaller numbers are higher ranks and larger numbers are lower ranks.

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, Folio Institutional.

Sincerely,