FLASH COMMENTS:
As a forecaster who has been concerned about an equity market that had unfinished business on the downside, July’s rally that began at the S&P 500’s June low has let me feeling a bit like Rocky Balboa at the end of the original Rocky movie during the famous fight with Apollo Creed. I am certainly bloodied and beaten up. Importantly, however, instead of throwing in the towel, I am going to lean over to my trainer played by Burgess Meredith and say the epic line — “Cut me, Mick.”
Why am I willing stay on the same bearish path when apparently, it’s now wrong to be concerned, and equity indexes are now headed to new all-time highs, especially when I made this nearly same call in March/April of 2020 at the COVID lows?
Let’s compare the two periods.
Maybe it is me being overly concerned or I might have bearish confirmation bias, but these two periods do not look anywhere near being the same. With that being said, my tactical work has flipped to favorable and suggests that there could be additional upside left before this bounce exhausts itself.
My medium/longer term work is still unfavorable on the overall equity market and having an objective indicator-driven process that has had a successful long-term forecasting record can prove quite valuable when one’s mind and emotions begin to wobble and to question the signals provided by the disciplined methodology. It is easy to hear the siren’s song to follow the crowd to the proverbial cliff. Over our two decades of being on the Street, a hard lesson learned has been to not overly react to sharp unsupported moves in either direction, and to stay the course of the objective indicators that have helped navigate challenging market action over the years. In addition, I am quite skeptical of the “Dovish Pivot” reaction that has been occurring since last Thursday afternoon. I am not an economist and historically do not spend a lot of time on pure economic debates, but I think investors need to take on board comments from the following:
Minneapolis Fed President Neel Kashari (recognized as one of biggest doves at the Fed)
The Fed is committed to doing what’s necessary to bring down demand in order to reach policymakers’ 2% long-term inflation goal, a target that remains far off.
Whether we are technically in a recession or not doesn’t change my analysis. I’m focused on the inflation data. I’m focused on wage data. And so far, inflation continues to surprise us to the upside. Wages continue to grow. So far, the labor market is very, very strong.
Former New York Fed President Bill Dudley, interview with Bloomberg
Investors have lately become strangely optimistic that the Federal Reserve won’t have to tighten monetary policy much further, bidding up stocks and bonds amid hopes that the Federal Reserve will soon get inflation under control.
This wishful thinking is both unfounded and counterproductive.
All told, the outlook hasn’t changed. Inflation is too high, the labor market is too tight, and the Fed must respond — most likely by pushing the economy into an actual recession, as opposed to the two quarters of minor GDP shrinkage that has occurred so far. Wishful thinking in markets only makes the job harder by loosening financial conditions and requiring more monetary tightening to compensate.
Former Treasury Secretary Lawrence Summers, interview with Bloomberg
Jay Powell said things that, to be blunt, were analytically indefensible ….and that…there is no conceivable way that a 2.5% interest rate, in an economy inflating like this, is anywhere near neutral.
From a positioning standpoint, my work continues to show that Growth looks relatively attractive relative to Cyclicality, regardless of whether you agree with my overall equity market view. Specifically, my metrics suggest a mix of both defensive and offensive growth.
Bottom Line: Ok, so from the highest level, my research continues to strongly suggest that we still have unfinished business that needs to be completed before the all-clear sign will be flashed. Thus, my research still points to the ongoing rally as being countertrend and likely to fail, and that investors should use it as an opportunity to hedge, raise cash, trim weaker positions shift towards growthier areas, and to look for attractive single stocks that are being flagged by my single stock quantitative selection model.
The pivot to better equity markets that have sustainability is still on the horizon. Be careful. Be patient. Don’t flip into bad positions as the bull trap remains. And let’s start identifying what we want to buy when the time is right, as it is coming.
MAIN CLIENT ISSUES
- Bulls are completely pushing back. Market has weathered lots of bad news and not only is it all priced in, according to bulls, but inflation is coming down, which will lead to a definitive Fed shift.
- Bears are NOT happy and cannot make a lot of sense out of what is happening.
- Growth acting better, but if Fed is going to ease, should I buy Cyclicality?
SPECIFIC CLIENT QUESTIONS
- Have your sector weightings changed at all with the equity market still rallying?
- Any single stock names stand out this week?
- What are your most aggressive tactical indicators saying?
MY ANSWERS
- Have your sector weightings changed at all with the equity market still rallying?
NO, my work is still suggesting a mix mainly of defensive and offensive growth, and below benchmark positioning in mainly cyclicality.
My sector dashboard is quite helpful at presenting my key indicators and visually identifying conclusions, and there has been scant evidence to support shifting my sector views. Hence, I remain below neutral in the dominant cyclical sectors, CD, Industrials, and Materials as they still appear to be at risk of underperforming as we look forward 3-6 months. Furthermore, my work clearly shows that Growth, both offensive (Tech) and defensive (HC and Staples) is looking relatively more attractive. (Please note – my full below-benchmark view for CD reflects the broader equal-weighted sector, and not the cap-weighted group that is dominated by AMZN, on which my work has a favorable view. So, XLY could outperform solely because of AMZN, but the equal-weighted sector is still expected to be an underperformer).
- Any single stock names stand out this week?
The following names are favorable and were frequently discussed last week — CMG, AMZN, COST, DEO, ADR, MNST, CPB, and PM.
I am also including the updated book of favorable names with a market cap greater than $2.5 billion as a good place to start looking for new ideas.
Fundstrat Global Portfolio Strategy – Estimate Revision Model – Positive Rated Names
- What are your most aggressive tactical indicators saying?
They have flipped to favorable and have been suggesting that the ongoing rally has more to run on the upside before rolling over.
When using my highest-frequency and most aggressive tactical timing tools — V-squared (orange line top chart) and HALO-2 (purple line bottom chart) – which were extremely helpful in identifying many of the tactical trading reversals since 4Q17, they both flipped favorably after being in conflict during July, and are still rising.
This suggests that there is a high likelihood that the ongoing countertrend rally may have legs to keep moving higher despite my strategic indicators not supporting this move. With that being said, based on this conflict, my research seriously questions the sustainability of the ongoing bounce once these tactical trading indicators begin to roll back over.
So, from a strategic perspective (and in this case we will define this as 3-5 months), the rally should continue to be viewed as a “get out of jail free card” for investors that did not hedge or sell during the down move from the January 2022 peaks based on my work. This clearly puts me in conflict with my colleagues and other more constructive forecasters, but I do not see enough compelling evidence that I should move against my historically accurate process tools, especially since I am not buying into the dovish pivot by the Fed.
When the rally does tactically tire, things will get quite interesting. Will it be a dip to buy in a new up leg that takes the S&P 500 to new all-time highs? Or will it be the resumption of the uncompleted move lower? As of now, my tools still point to the latter, but I am open to shifting views at some point if my indicators provide more constructive signals.
NOTES – The proprietary Fundstrat Portfolio Strategy V-squared indicator shown in the top chart (orange line) shows the ratio of VXV (the 3-month CBOE S&P 500 Volatility Index) and the VIX (the 1-month CBOE S&P 500 Volatility Index). This tool is also useful for identifying aggressive tactical trading bottoms for the S&P 500.
The proprietary Fundstrat Portfolio Strategy HALO-2 Model, which is the purple line in the lower chart shown above, is the raw tactical data behind our standard HALO multi-factor model. It is useful for identifying aggressive tactical trading bottoms for the S&P 500.