Strategy Thoughts newsletters
The Cycle in Investor Attitudes to Risk
I concluded last month’s Strategy Thoughts with; “Investors should remain sceptical of this current bounce, and myriad of comforting economic forecasts. There will be another great long term buying opportunity, but we weren’t there last October and are certainly not there now.”
Since then, despite markets meandering sideways to down, attitudes, expectations and hope have become even more inflated. This edition of Strategy Thoughts reviews some of the evidence for this increase in risk appetite and examines what history indicates it may mean. It will also question the trend of investors shifting their attention away from the US market, that has certainly out performed globally since the GFC, in favour of international markets, and whether international markets may offer a reasonable alternative if a major bear market lies ahead for the US.
But first I will review what ‘cycles in investor attitudes to risk’, a phrase popularised by legendary investor Howard Marks, may be telling us, and also what risk actually is.
What a bounce, is the bottom in?
Don’t trust this bounce!
Last month I concluded with the comment;
Hope still abounds, hope that inflation will subside, hope that interest rates will fall and hope that growth will continue or resume. This is not the backdrop seen at major long term buying opportunities.
This is still very much the case, and is perhaps understandable given the magnitude of the rallies that have been seen since October of last year. Nonetheless, investors should be reminded that renewed, and in some cases extreme, optimism are not found in the early stages of a new bull market. In its early stages a new bull market is generally dismissed as just being another ‘dead cat bounce’, just like all the other failed rallies that have fallen short throughout the preceding bear market.
This current rally may be the best that has been seen for some time, but mood and expectations were never what would be expected to be seen at a bottom at the lows last year and this is perhaps why so much hope has so quickly rushed back into the market.
In this edition of Strategy Thoughts I review the evidence supporting the case that this is just another ‘dead cat bounce’, and further revisit the futility of waiting for a Fed pause but raise the optimistic possibility of a very different kind of Fed pause actually being constructive for investors. But that pause still lies some way in the future.
Are we there yet?
Over the last few weeks, I have been encouraged to write an updated version of Strategy Thoughts by a number of long time readers. The last Strategy Thoughts came out in March 2021 and a lot has happened since then; the pandemic has largely passed, lockdowns, generally, have become a thing of history, inflation has soared, as have interest rates, and equity markets have clearly corrected or begun bear markets and economic forecasts have been, and continue to be, ratcheted down almost daily. This has understandably raised the question as to whether or not a sustainable bottom has been seen and whether a new bull market may soon be at hand. Those long time readers mentioned earlier have kindly reminded me of the remarkable timing Strategy Thoughts showed back in early 2009 in identifying what we then described as likely being the best buying opportunity since 2003. It certainly was, and it turned out to be a far better opportunity than I ever imagined possible. I had expected a cyclical bull market, much like that from 2003 to 2007, what we got was obviously substantially greater than that. This edition of Strategy Thoughts will focus on the question of whether or not we have seen, or are soon approaching, a bottom like that of 2009, and it will conclude with a very emphatic NO!
The Music may already have stopped!
And long term interest rates have bottomed
Last month I concluded with; “It is important that investors see what is happening now for what it is, it is rampant speculation at the peak of a speculative binge that has stretched what should have been a bear market rally, or even a ‘dead cat bounce’, far further than I would have ever expected.” It now seems that a reversal may have been seen or is very imminent. In this month’s Strategy Thoughts I will examine; just how more extreme things have become, what the inevitable end game of such extremes will be, and some of the reversals that have already been seen, most notably in fixed income markets.
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Has the Eye of a Very Major Storm just passed?
Welcome back to Strategy Thoughts, and thank you to all the readers who contacted me wondering whether I was ever going to publish again. It was almost nine months ago that I last put out an edition of Strategy Thoughts, at that time markets had enjoyed a rebound from the pandemic stricken lows and hope, at least in investing circles, had rebounded dramatically with a New York Fed survey showing that a majority of Americans believed that the stock market would rise even if the real economy continued to sink. Well, they certainly got what they were hoping for and what I had felt was nothing more than a ‘Dead Cat Bounce’ turned into something quite historic.
Throughout the second half of last year, I felt writing a new Strategy Thoughts, just to reiterate the same message of caution and capital preservation, was pointless. I still believed that the 2020 rally would eventually be looked back upon as the end of a move, rather than the beginning of something meaningful, but did not feel that this view needed to be published again and again each month. However, now, with a number of vaccines being rolled out across much of the world, hope, and with it, expectations, have risen to historically dangerous levels and the need for caution once again needs to be reemphasised.
Those extreme expectations, the absurd idea that low interest rates guarantee higher stock prices and with them the idea that the dangerous levels of valuation seen currently are seemingly easy to brush aside, and the idea that somehow disasters such as the pandemic are in fact an economic positive due to the fiscal and monetary stimulus they pull out, will all be explored in this latest edition of Strategy Thoughts. There will be no change in my overriding conclusion, but hopefully these thoughts will prevent readers from getting swept up in the nonsense captured in this New Yorker cartoon from around 2001.
When the eye of a storm passes over it feels like the worst may be over as a calm settles in only for this seeming return of normalcy to be abruptly turned upside down when the other side of the storm rolls in with just as high winds, only from the opposite direction. The relative calm and normalcy of the second half of 2020 may be looked back upon as such a ‘calm’, and when the other ‘side’ of the storm hits it will be from a different direction. It is quite likely that the next downdraught in asset prices has already begun but it may well turn out to be quite different from that endured in the first quarter of last year.
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Complacent hope remains, even while the ‘disconnects’ grow
Over the last four weeks, since the last edition of Strategy Thoughts, equity markets have bounced, and not surprisingly these bounces have been accompanied by a growing sense of confidence and hope. Last month I concluded with the following; “frequently heard cries of the worst being over should be seen as a warning sign, and certainly not an indication of the all clear having been sounded.” Such calls are now being heard not only for the stock market, but also for the outlook of the virus and for the economy as a whole. These are not the opinions usually heard after a bear market has run it course and a new bull market has begun, they are, however, frequently evident throughout bear market rallies, or ‘dead cat bounces’.
This edition of Strategy Thoughts will examine the remarkable disconnects that are emerging between equity market valuations and the very long term damage that has already taken place, the prevalence of the misplaced ‘hope’ that the worst (on many fronts) is now over, and explore what may need to be seen for an important low to have been recorded.
Strategy Thoughts (part 2)
The Slope of Hope is alive and well!
Expect more ‘Dead Cat Bounces’
In the previous edition of Strategy Thoughts, I included the following in the conclusion;
What is important now is to maintain an investment discipline that will allow one to avoid getting swept up in what will, in all likelihood, be many moments of excitement and enthusiasm that a bottom has been made. One such moment has probably just passed, there will be many more on the way to the final low.
That was only a little over a week ago, and since then markets have rallied dramatically, apparently encouraged by signs that the curve of the virus spread may be flattening. There is now an almost overwhelming belief amongst market commentators and participants that with this apparent flattening things will get back to normal and so the current rally has been widely embraced. With this attitudes have flipped, as one commentator on CNBC put it, clients have switched form asking ‘where can I get a gun to protect my family’ to ‘what should I buy now we’re off to the races’! Unfortunately, ‘normal’ is what we had previously become accustomed to in the most extended bull market in history, there really is no such thing as normal in investing. This is particularly so at extremes. This rapid reversal and eagerness to get back in are all symptoms of what I was warning about in the last edition. They are not in any way encouraging signs.
In the last edition I gave several examples of historic market bottoms to illustrate just what it feels like when a great buying opportunity is presented, and what the next great opportunity may feel like. Given what has happened since, and the caution expressed previously regarding ‘moments of excitement and enthusiasm that a bottom has been made’, it is probably instructive to explore just what ‘dead cat bounces’ feel like.
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Strategy Thoughts: April 2020
It’s STILL, and always has been, all about Expectations
And the next Bottom will likely feel as bad, or worse than those of the past
A little over a week ago, in the last edition of Strategy Thoughts, I concluded with the following;
Equity markets are a long way from being cheap, at some point a reflex rally will undoubtedly occur, one that will almost certainly be hailed as a sign that things are on the improve. If that happens it will be an indication that it is just a ‘dead cat’ (albeit a volatile one) bounce that should be sold into. A meaningful long term buying opportunity lies some way off in time and a substantial amount further down in terms of price, and new bull markets are always dismissed for an extraordinarily long time.
Since then we have seen that ‘reflex’ rally and many are hailing it as being either THE bottom to a painful and fast bear market, or at least a point at which investors should be starting to buy. In this edition of Strategy Thoughts, I discuss the possibility that this first reflex rally may be in the early stages of rolling over, but more importantly I will try to illustrate how this may all end by looking back at a number of other historic buying opportunities.
Strategy Thoughts:March 2020
It’s STILL, and always has been, all about Expectations
It is six months since I last wrote an edition of Strategy Thoughts, this hiatus was initially due to a planned trip to Europe, but also, and more importantly, due to the fact that I had just about run out of ways of illustrating just how stretched expectations were and the dangers that any, even minor, disappointment could bring about. In the intervening months things have certainly changed, but worryingly expectations remain far removed from those that typically accompany a major buying opportunity.
In this edition of Strategy Thoughts in addition to reviewing what has been already endured I will discuss what needs to be seen for a great buying opportunity to be close.
Strategy Thoughts: October 2019
The importance of Long Term Valuation
It’s all about Expectations
Valuation is frequently discussed, both about individual stocks and markets as a whole, however, it is rarely used in a way that is useful to investors over a meaningful time span. Valuation is a very useful indication of where aggregate expectations lie and so, over very long time frames, can be indicative of where the greatest surprises or disappointment are likely. This month’s Strategy Thoughts reviews the ‘value’ of valuation, how it can be meaningfully used, and highlights a number of areas where warning signs are clear. This month’s edition also updates the expectational backdrop in both gold and sterling, and illustrates how useful this approach has been over the last couple of months and finally I make my third attempt in more than seven years to pick the end of the long term bull market in treasury bonds.
Strategy Thoughts: September 2019
The clearly absurd continues!
And expectations have only become even more stretched
Over the last month longer term interest rates have risen, unwinding the much discussed inverted yield curve, risk appetites have been renewed and equity markets have rallied. As a result, expectations have once again become stretched despite growth prospects continuing to slow and the absurdities discussed last month continuing. In this month’s edition of Strategy Thoughts, I question the possibility that a recession risk has passed, review the sustainability of the current rally, and the stretched expectations on the upside for gold and the downside for the UK and Sterling.
Strategy Thoughts: August 2019
When the clearly absurd is rationalised,
things rarely end well!
Over the last two months equity markets as a whole have been range bound. This can best be seen in the MSCI all country world index which is currently at the same level it was at in early June. It was also at the same level in March of this year, October of last year, March of last year and December of 2017. The same cannot be said for fixed income markets where yields have continued to slide.
Having spent most of the last two months in the UK and Europe this month’s Strategy Thoughts will probably have more of a European flavour. This is probably timely, and undoubtedly appropriate, given some of the absurdities that are now being seen in that region. One of these absurdities, the explosion in negative yielding debt, and the possibility that Europe as a whole may be the ‘canary in the coal mine’ for the next major market and economic setback, are explored in this month’s Strategy Thoughts. In addition, this edition also reviews where a major surprise may soon be approaching and the disappointment that the recent interest rate cut in the US has so far delivered.
Strategy Thoughts: June 2019
Has the Melt Down begun?
Be Careful What You Wish For!
The last month has been mostly ugly for equity market investors. The major US markets are down sharply with the NASDAQ down 10% at its recent low, European markets down 5% or more and the major Asian markets of Japan, China and Hong Kong having all fallen between 7% and 11%. Despite this, expectations remain positive and the media is full of comforting messages. Investors undoubtedly, and understandably, welcome these messages; however, no comfort should be taken, I have often written that comfort and success in investing rarely travel together. This month’s Strategy Thoughts highlights just how difficult the economic outlook is becoming, and also the degree to which these messages are being ignored. It also demonstrates just how little comfort anyone should take from the most widely promulgated ‘comforting message’, that the Fed will ride to the rescue with a rate cut.
Strategy Thoughts: May 2019
If this was the ‘Melt Up’ then fear the melt down!
Pay attention to expectations and don’t CHASE YIELD
Over the last few weeks there has been a growing chorus amongst prominent market commentators stating that the biggest risk facing the stock market currently is that of a ‘Melt Up’. This is after US markets have risen more than 25% in four and a half months from their lows late last year, European indices more than 20% and Asian indices 15% to 35% (in the case of China). In some ways the current ‘Melt Up’ calls are an eerie echo of similar extrapolations that were being heard in late 2017, early 2018, again after a wonderfully rewarding preceding rise. Those extrapolations delivered nothing but multiple disappointments and were only useful in that they served as a great barometer of just how elevated expectations had become. The same is probably true now. In this month’s edition of Strategy Thoughts, in addition to looking at these ‘Melt Up’ calls I once again examine the danger of chasing yield, no matter how tempting it may be, and also illustrate, once again, the value of taking an expectational approach to markets using oil’s recent volatility as an example.
Strategy Thoughts: April 2019
Expectations have become more elevated, and
Europe is once again ‘The Canary in the Coal Mine’
Over the last few weeks equity markets have continued to rise while longer term bond yields have continued to trend lower as concern over further Federal Reserve tightening has diminished. The result of all of this has been that expectations for even further gains have risen, fear has evaporated, levels of complacency have grown and speculation has arguably become rampant. All of these things can continue; however, it is important that all investors realise that such a combination is invariably seen very close to the end of a bull market, not at a time when sustainable long term healthy returns can be expected. It is also a concern that European markets continue to dramatically lag those of the US, a trend that has seemingly inexorably grown over the last nine years. Whilst this may be an indication that relative outperformance could be expected from Europe, it in no way means that European markets should rally. Rather, European weakness may merely reflect the deteriorating fundamentals within Europe and this deterioration may eventually be looked back upon as having been the ‘Canary in the Coal Mine’ for a deeper and more troubling global economic and stock market malaise.
Strategy Thoughts: March 2019
The Dip has been bought, and the ‘Dead Cat’ has bounced!
But so too have expectations
Since late December stock markets around the world have rallied markedly and accompanying these rallies has been an increasing level of confidence and expectation on the part of investors and commentators. In this month’s Strategy Thoughts, I will firstly put the rallies that have been seen into a global context, examine how far both short and longer term expectations have moved and finally illustrate that it is always at times of extreme confidence that both bear markets, and then recessions begin.
Strategy Thoughts:January 2019
It’s like Deja Vu all over again!
The New Year has brought some relief to the gloom, that was growing in late December as markets the world over plunged, and with that relief has come a slew of prognostications that the worst has been seen and that the bull market will continue in 2019. Unfortunately, many of those same ‘experts’ were those calling for the never to materialise ‘melt up’ twelve months ago. These optimistic forecasts, and expectations for a renewal of the bull market remind me greatly of the mood that accompanied the close of 2007 and the start of 2008, hence this month’s title from the great Yogi Berra. In this month’s edition of Strategy Thoughts I review those similarities, explore just how unrewarding this so called ‘great bull market’ has been for many global investors, touch on the misguided comfort many bulls are currently taking in valuation measures and revisit both gold and oil.
Strategy Thoughts: December 2018
The Bear Market has begun
And the IMF do it again!
Through November and early December equity market volatility increased and on balance markets have trended lower recording lower lows and lower highs. At the recent lows the MSCI all country world index was down more than 20% from its early year high and the S&P500 had fallen 14% from its high recorded in September. Amidst this deteriorating backdrop the consensus still seems to be that whilst this ‘correction’ was probably overdue it should be seen as a ‘healthy correction’ and, perhaps even more worryingly, that growth forecasts continue to be healthy therefore there is no reason for alarm.
In this edition of Strategy Thoughts, I examine one of the sources of this misplaced economic comfort, the IMF, revisit the global narrowing between the performance of the US market and that of the rest of the world that was discussed in the October edition and also follow up on the dismal performance of the previously dominant, and highly sought after, FANG stocks.
Strategy Thoughts: October 2018
This is NOT the ‘Melted Up!
And the divergences grow
At the beginning of the year there was much talk in the financial media of the potential for a stock market ‘melt up’. This was after the US market had already risen 25% over the prior seven months and more than 70% over the previous two years. What followed was not a melt up. In fact, it was the reverse, but now, nine month later, the US market as measured by the Dow Jones Industrial Average has recovered just enough to be very marginally above where it was when the melt up was supposed to have started. What has been seen has not been a melt up and what should be of most concern to most investors is that the headline strength in some of the major US indices has not been replicated in the majority of stocks, as fewer and fewer have been following the market to new highs. It is also the case that the strength in the US market has not been seen throughout the rest of the world and these divergences should certainly trump any comfort that investors may be taking from headlines about new highs.
Strategy Thoughts:September 2018
Beware the call for yet another ‘Melt Up’, and
Do Dead Cats tell us anything?
Over the last few days the US stock market as measured by the S&P500 has recorded further new highs in what is now the longest bull market in history. This positive action has renewed calls, last heard at the beginning of this year, for a ‘melt up’ in the markets. Those previous ‘melt up’ calls were a clear sign that expectations were rampant but they rapidly fizzled out when markets the world over plunged from late January and into February. These latest calls for a ‘melt up’ maybe even more of a warning than those eight months ago. Back then most markets had been rising in unison whereas now many of the major markets of the world have failed to deliver a rally that could even be considered a ‘dead cat bounce’. In this month’s edition of Strategy Thoughts, I review these calls for a ‘melt up’, compare them with those last heard earlier this year, examine where expectations are now through the lens of consumer confidence and highlight the danger presented by the relative weakness seen in many of the major markets of the world.
Strategy Thoughts:August 2018
Don’t Fear a CRASH! Fear a Bear Market
Having been overseas for much of the last month and a half it has been fascinating to return and see the growing fear of a stock market CRASH. Much of this fear has been fuelled by widely reported comments from the French Stock market regulator in their annual report. Ambrose Evans Pritchard of the UK’s Daily Telegraph reported their concerns in an opinion piece with following opening sentence;
France’s market watchdog is bracing for a surge in global bond yields and a Wall Street crash as soon as this year, fearing that contagion will spread to Europe and snuff out the fragile recovery.
These increased fears of a crash reminded me of something I wrote almost two decades ago, when crash fears were similarly high. At the time, as I am now, I was far more concerned about a bear market and went to some lengths to point out the difference. In this edition of Strategy Thoughts, I will once again review those differences, particularly as they relate to investors rather than speculators, and once again highlight the very real danger of a bear market. I will review how changing expectations set up major turning points in markets using China’s recent experience as an example and highlight a couple of features that make a bear market a far larger threat to most investors than a crash. Finally, I recommend a couple of books I read in my travels.
Strategy Thoughts: May 2018
Where are expectations now?
Over the last six weeks most equity markets have rallied, and the volatility that characterised February and much of March has subsided. Despite this rally most markets are only back to where they were in early February and some, like the Eurostoxx50 and the Chinese market are still where they were almost three years ago. Given this back drop it is clear that the much anticipated ‘Melt Up’ that was so widely forecast in January has failed to materialise. This should not be a surprise. Widely anticipated moves are invariably simple extrapolations of trends already in place, and, by definition, if expectations are strongly one sided and therefore a move is widely anticipated the scope for further surprise is limited. This has not only been seen recently in the failure of the melt up to materialise but also in the failure of strong earnings in the US to meaningfully propel markets higher. It is the level of expectations, and the magnitude of subsequent surprises and disappointments that moves markets. In this month’s edition of Strategy Thoughts, I look at the extreme nature of expectations in the oil market, review where expectations are now in equities and also look at where longer term interest rates may still be heading and whether a second housing bubble in the US may have burst.
Strategy Thoughts:April 2018
The Slide Continues!
Technology and the Power of 6
Last month I concluded;
Unfortunately, the most rewarding market moves are never readily and broadly understood or accepted by the vast majority. The next bear market will not be over until the vast majority fully accept that things are only going to get worse and that what has up until then been suffered is only the beginning. Then all hope will have been expunged, the slope will have been slide down and a new wall of worry can begin to be climbed.
To date all the bounces that markets have delivered, whether they have come off so called technical levels such as the 200 day moving average or apparently resulted from supposedly improving fundamentals, have been warmly greeted and welcomed. They have been seen as a ‘return to normal’ rather than the ‘dead cat bounce’ that they are always dismissed as when real buying opportunities are at hand. It is clear that HOPE continues to be alive and well and that the slide down the ‘slope of hope’ will continue.
Strategy Thoughts: March 2018
The Slide down the ‘Slope of Hope’ has begun
January was the end, not the beginning, of the Melt Up!
Last month I concluded with;
From here there will eventually be a rally that will reinforce in the majority’s minds that they were right not to panic and that the anticipated melt up is back on track, but the first rally in a bear market eventually dashes that hope and fails to deliver a new high. As markets start delivering lower highs and lower lows, instead of the ever higher highs that investors had become accustomed to, the slide down the ‘slope of hope’ begins.
Over the last month the vast majority of markets around the world have followed a path remarkably similar to the ‘script’ I outlined last month. As a result investors generally feel that ‘things are getting back to normal’, that a correction has passed and expectations are once again rising. Now is not the time for renewed, or even new, enthusiasm. Selling rallies will prove a far more successful long term strategy than buying dips now that the wall of worry has morphed into the slope of hope.
Strategy Thoughts:February 2018
Where’s the Melt Up gone?
The last couple of weeks have witnessed a remarkable turnaround in equity markets the world over. Through the early weeks of 2018, as I discussed at length last month, there was a growing expectation that markets were set to accelerate even higher in what became known as a ‘melt up’. Clearly, at least for now, that melt up has gone into reverse. Now investors should be taking note of how the majority are reacting to the recent rout. The fact that there has been an almost universal recognition that what has been suffered was to be expected, is healthy and lays the groundwork for even greater advance, and that the down draft is largely irrelevant given the healthy economy and corporate earnings, not only misses what it actually is that drives markets but should also be a stark warning sign. Expectations were clearly through the roof prior to this sell off and it seems they still are.
Strategy Thoughts: January 2018
The Underestimation FLIP ahead of a MELT UP!
Last month I focussed upon the dangers of FOMO, fear of missing out, now it seems that there is a reason for FOMO if the general media is to be believed, markets are apparently on the verge of a Melt Up! This month I will look at what the rapid acceptance of a potential melt up may mean for expectations and also what it may mean for most investors. Not surprisingly I will highlight the danger of investing in the hope that one actually occurs. This melt up talk has also influenced the expectations of those ‘experts’ that routinely put out year ahead forecasts at this time of year for where the market will go. What is now occurring is a game of leap frog amongst them as each has to raise their forecasts as the markets rise and other’s forecasts rise. As a result we may be witnessing the flip from underestimation to possibly over estimation historically seen ahead of reversals. Expectations, as evidenced by the melt up talk, on the part of the majority of investors and commentators, are undoubtedly stretched and this is also a trait frequently seen ahead of important market reversals.
Strategy Thoughts: December 2017
A boom in FOMO is yet another warning sign?
I have never seen FOMO, or fear of missing out, so great as is now being manifested in Bitcoin. I have received more questions on this so called ‘crypto currency’ over the last month than anything else, ever, in my thirty six years of following investment markets. It is truly a wonder to behold and the mania driving it has now outstripped anything I have witnessed in my lifetime, or that I have read about historically. Someone I deeply respected during the tech boom of the nineties commented that attempting to jump off a run-away train could be harmful to your health (and wealth). This was certainly true, but, in the end, it was not as harmful to either when that run-away train finally was derailed. The same will be true for Bitcoin.
Apart from continued ‘extrapolation’ in prices little has changed over the last month, however, that price extrapolation has resulted in a further stretching in expectations. Dangerously, this leaves little room for surprise and great scope for disappointment.
Strategy Thoughts: November 2017
What do tops feel like, and what are credit markets forecasting
now that everyday it’s RISK ON
I concluded last month’s Strategy Thoughts with the comment that ‘the risk of something dysfunctional happening’ had continued to increase. Since then nothing dysfunctional has happened, the ‘benign’ grind higher has continued, but with this so too has the risk. Narrowing credit spreads, rising economic and earnings forecasts, dip buying and yield chasing are all signs of elevated and rising expectations, all of which raises the possibility of disappointment and so an important market top in many assets. In this month’s Strategy Thoughts I review the characteristics that are typically seen at market tops and conclude that many are already in place and raising the warning flags that most are only too happy and comfortable to ignore. Finally I examine the conundrum facing the majority of central bankers around the world, their impotence to break the deflationary spiral we have been in for years and actually drive up inflation.
Strategy Thoughts: September/ October 2017
The power of being an OUTLIER
Markets have continued to rise through the third quarter, accompanying this rise has been increased confidence and expectation with continued low volatility. On the surface this may seem to be the ideal investment environment; steady orderly gains with minimal volatility. Unfortunately, the outcome, as so often happens in investing, may well be something quite different than what the vast majority now hope for, and even expect.
This month’s Strategy Thoughts reviews many of the reasons currently being used to justify a continuation of the current benign investment environment and demonstrates why most should be seen as a warning sign, not a green flag. I also revisit the value and importance of daring to be different, or the power of being an outlier as the FT described it recently, and provide an update on the STA portfolios.
Strategy Thoughts: August 2017
It remains an Expectations Game!
And expectations are getting even further stretched
Having not published a Strategy Thoughts since May it is both frustrating and gratifying to see that my concluding remarks from three months ago still apply. On the 11th May I concluded with.
Naturally there are many things, particularly geopolitically, that investors could worry about if they chose to, but right now it seems they don’t, and therein lies the risk. The ‘wall of worry’ is not summited when there is nothing to worry about, it is summited when the vast majority choose not to worry, and markets don’t roll over because something bad suddenly happens, rather they peak because the news whilst good in an absolute sense it is not good enough to qualify as a positive surprise. From there the slide down the ‘slope of hope’ begins. Extended expectations, low levels of worry, record low volatility and weakening financial stocks are all hinting an important inflection point may be imminent.
Whilst it is apparent that all these comments still apply, particularly on the geopolitical front, it is frustrating that the hinted at inflection point has so far only been seen in selected indices, such as transports, small cap and selected European markets. Unfortunately, just because something that may have been feared hasn’t happened it doesn’t become less likely, yet in markets this is exactly the way in which the majority behave. As human beings we are expert at extrapolating the recent past way into the future and so the longer a bull market lasts the more confidence the majority has that it will last even longer. This is not a behaviour that any investor should take comfort in and yet that is exactly what is being seen currently, this makes the risk of a very important reversal in many markets even higher now than it was three months ago.
In this edition of Strategy Thoughts I’ll review; the North Korean ‘Wall of Worry’, the record low volatility, the super extended expectations for the future and the blind belief in the power of ‘economics’, and the performance of financial stocks.
Strategy Thoughts: May 2017
Buy the Rumour, Sell the News
It’s an Expectations Game!
Over the last few days there has been much discussion about the outcome of the French election and the ‘surprising’ weakness seen in the Euro in its immediate aftermath. The dominant conclusion has been that this is just another example of ‘buying the rumour and selling the news’. There is an element of truth in this, however, investors should take a slightly deeper look at this old adage and understand that the real driver of market movements is expectations. In this month’s Strategy Thoughts I review the importance of looking at news from an expectational standpoint, reflect upon Goldman Sachs and whether they are doing ‘God’s work’ or whether they are merely ‘human’, question what financial stocks and volatility may be hinting at for markets generally and present some expectations that may now be at an extreme.
Strategy Thoughts: April 2017
An ‘Existential Crossroads’ as Optimism soars!
On the 3rd of April the CFA Institute released a study based upon surveys conducted with more than 1,000 investment industry professionals. It was titled ‘The Future State of the Investment Profession’ and described the industry as being at an ‘existential crossroads’. Two of the pressures on the industry were pinpointed as an expectation of lower profit margins and a continuation of the growth of passive investment, at the obvious expense of higher margin active approaches. These are important trends, however, for the underlying investor the crossroads may be somewhat different. Passive versus active is an important question that all investors should consider but it is far from the most important driver of underlying investor returns. In this month’s Strategy Thoughts I examine just why it is that the majority of investors get far worse long term returns than even the simplest low cost funds would have delivered and describe a solution that would present an even larger ‘existential crossroads’ for the investment industry than contracting margins or the active versus passive debate. I also look at the extremes in sentiment that have become more extreme and revisit, again, the results of looking at Apple from an expectational basis.
Strategy Thoughts: March 2017
But now is not the time to fold
Over the last month US equities have rallied, European markets are up a similar few percent, Japanese equities are up less than one percent, as are China, Australia and New Zealand. This continued advance in equity markets since the US election should be a surprise to the vast majority given the rampant fear expressed widely by so many about the then unlikely prospect of a Trump victory. However, the reverse now seems to be true. As I write this edition of Strategy Thoughts the US Federal Reserve has just raised interest rates again and the broad consensus continues to grow, that the US economy is in good and improving shape and that further rate hikes lie in the near future. Whilst equity markets may have edged slightly higher the same cannot be said of commodities, particularly oil and gold. In this month’s Strategy Thoughts I examine how frustrating this recent market action has been, liken it to previous periods of frustration, and highlight the danger of the majority apparently understanding why a particular outcome is likely.
Strategy Thoughts: February 2017
Where are the extremes?
And the importance of Discipline
Last month I concluded that getting out of the market may feel as dangerous as jumping off a runaway train, particularly if the Trump ‘honeymoon’ continued, but that getting out was exactly what any investor interested in capital preservation should do. Since then, with only a brief hiatus, the runaway train has continued. Unfortunately this has only served to make the majority of investors even more comfortable that what has already been enjoyed will continue. Attitudes, and so expectations, across a number of asset classes have stretched to historically extreme levels. This doesn’t mean that an immediate reversal is certain, however, it should highlight to all investors that the risk of widespread disappointment has dramatically increased. This month’s Strategy Thoughts examines a number of these expectational extremes to highlight the increased risk of a reversal in both US equity markets and the oil market, and the possibility of a further bear market rally in US treasuries. Finally, this month’s Strategy Thoughts examines the importance of discipline for any investor, particularly in light of the currently raging active versus passive debate, and provides some further updates on the STA portfolio.
Strategy Thoughts: January 2017
Does a New Year Change Anything?
2017 ended amid much hype and expectation for the stock market, at least in the US, in the wake of the rally following Donald Trump’s election victory. In late December a CNBC ‘investment expert’ forecast that the Dow would hit 20,000 in January and 30,000 in the next four or five years. More recently other commentators have come out with a selection of remarkably precise forecasts, one for 31,000 in two years, another for 38,820 as part of a ‘super boom, and there has even been a forecast for Dow 50,000. The last time such numbers were so publicly discussed was in the second half of 1999 after books proclaiming Dow targets of 36,000, 40,000 and 100,000 were published. Perhaps this time it will happen, but almost certainly it won’t. It is more likely that all these forecasts are just further expressions of the heightened level of expectations that are now priced into the US market. Unfortunately heightened expectations always result, eventually, in disappointment. This month’s Strategy Thoughts looks at some measures of those expectations, question whether the rest of the world can withstand a US bear market through the lens of history, revisits the still rising US dollar and explores what it is that allows an STA approach to deliver the long term returns that most investors not only want, but need.
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Strategy Thoughts: December 2016
The Trump Rally Continues!
But for how long?
The last month has seen the equity markets surge and not just in the US which has recorded multiple new all-time highs, all, apparently, on the back of Donald Trump winning the US election. In this month’s Strategy Thoughts I look at the continuation and extension of the remarkable reversal in attitudes and expectations that this historic election has brought about and raise the possibility that the heightened expectations now so apparent only increase the risk of disappointment. I also look at the effects this attitudinal shift has had on the US dollar and consumer confidence.
Finally this month I look at the danger of year ahead forecasts and take a look at the experience of the Philippines market through a period that has seen tremendous economic growth but disappointing equity market returns. All of which highlights the importance of understanding just what it is that really drives markets.
Strategy Thoughts: November 2016 –
Trump wins. Should we still be worried?
I was always going to title this edition of Strategy Thoughts ‘Should we still be worried?’ following on from last month’s title ‘I’ve been concerned for a few years’. However, in the wake of Donald Trump’s historic victory it seemed sensible to add ‘Trump wins’ to the question in the title, it is a very important question. This month’s Strategy Thoughts looks at where expectations were ahead of Trump’s upset victory, how they changed after and what his victory may lead to over both the near term and, far more importantly, over the longer term. Also this month I look into the probability of increasing volatility and what that may do to investors’ levels of worry and finally I reiterate the importance of discipline to help any investor deal with worry.
Strategy Thoughts: October/November 2016
“I HAVE BEEN CONCERNED FOR A FEW YEARS” – Carl Ichan on CNBC 17/10/16
When I read billionaire investor Carl Ichan’s comments they certainly struck a chord with me, he went on to imply that the more time passed the more concerned he became. This is the sensible and logical conclusion to come to; however, it is not the path that most investors follow. Unfortunately one of the many behavioural biases that best most humans is recency bias. This bias tends to result in the extrapolation of recent trends way into the future and to ignore the much longer term framework. The longer that trend continues the more convinced we become that the trend is valid and long lasting. In markets this results in investors becoming more confident that nothing bad will happen the longer that nothing bad has happened for. This then builds complacency and history has repeatedly shown that markets peak amid such complacency and that something bad tends to happen when the majority least expect it and are least prepared.
This month I examine how long it has been since anything really bad happened, I outline a number of the reasons why, like Carl Ichan, my levels of concern have continued to rise, and finally I provide an update to the All Season STA portfolio that I introduced last month and has attracted a lot of interest, and questions, since then.
Strategy Thoughts: September 2016
A World of Uber Complacency – The problem with ‘Other People’s Money’
“Every cycle in human history has ultimately come to an end. Credit-enhanced cycles come to worse ends than the normal kind.” Tad Rivelle, chief investment officer of fixed income at TCW Group
Over the last month most equity markets have been fairly quiet, this may be seasonal or it may hint at a growing level of complacency. This month’s Strategy Thoughts explores the world of ‘Uber Complacency’, a term coined by hedge fund manager Jeffrey Gundlach. It also looks at where expectations may currently be for an asset that hasn’t been so quiet recently, oil, and raises the possibility that a disappointment may be approaching.
Finally in this month’s edition I pick up on a topic I aimed to cover last month but ran out of time and space, ‘The Problem with ‘Other People’s Money’. An outstanding book that touches on a number of issues that should concern anyone involved in or with the fund management and investment business, a group that I should imagine would include most readers in one form or another.
Strategy Thoughts: August 2016
It is still all about Expectations – But what a two months!
For most of June and all of July we were travelling (and golfing) through France and England. It was fascinating to be there for the build up to, what will forever be remembered as, the ‘Brexit Referendum’, and almost more interesting to witness the aftermath. Understandably there was some extreme sensationalism both before and after the vote, and markets displayed the expected volatility. There has been an enormous amount of debate as to what the referendum result means for economies and markets going forward, this is understandable, however, my major concern is that this is just another illustration of the confusion between cause and effect that is repeatedly seen in markets. The decision to leave the EU on the part of the UK was an understandable outcome of the declining social mood that has been apparent throughout most of Europe and the UK for more than a decade. It will no doubt be seen as being a cause of whatever may happen next, I firmly believe that this is the wrong position for anyone, but particularly investors, to take.
In this edition of Strategy Thoughts I will review two topics at some length and bring one other to a close. Firstly I will review the Brexit decision, how it may fit into the longer term outlook for Europe and attempt to clarify the confusion over what may be cause and what is effect and between causation and correlation in markets. The second subject is one I have addressed in the past but is of particular importance now, the danger of chasing, or reaching for, yields. With long term yields still close to record lows, and negative yields becoming commonplace, it is understandable that investors are looking to junk and emerging bond markets for solutions but the recent action in the Japanese bond market and the extremes of optimism currently present in bond markets should be seen as cautionary flags for investors.
Finally I will bring my tracking of the price performance of Apple versus AT&T to a close. It has been a wonderful real time illustration of the value of looking at markets from an expectational point of view.
Strategy Thoughts: May 2016
How things have changed – The dollar, equity markets, Apple and the danger of Tina Fomo
Over the last few months expectations towards a number of markets have changed dramatically. Given that it is expectations which are reflected in markets and that it is surprises and disappointments driving markets these recent swings in expectation have laid the foundations for what may be some important reversals in markets. In this month’s Strategy Thoughts I re-examine the US dollar and the recent extreme negativity it has attracted and raise the possibility that the currency’s next bull leg has just begun. I also question whether the remarkable bounce back equity markets have enjoyed over the least four months is sustainable given the accompanying, and very rapid, bounce back in expectations towards global equities, and I revisit Apple. Over the last fourteen months I have been tracking the relative performance of Apple and the stock it replaced in the Dow, AT&T. Since that switch was made the underperformance of Apple has been enormous, however, now it seems that expectations may have begun to catch up with and match the deterioration that Apple has suffered.
Finally this month’s Strategy Thoughts looks at the danger of relying upon whatever may be obvious to everyone to support a market view. In the past this may have been liquidity or interest rates, now it is two acronyms; TINA and FOMO. There is no alternative and fear of missing out.
Strategy Thoughts: April 2016
The Slope of Hope
And why you should worry!
World equity markets rallied throughout most of the month of March, continuing the rally that had begun in mid February, and investors breathed a collective sigh of relief. After one of the worst starts to a year ever, something that no one it seems was anticipating, the mood of investors has been rapidly transformed from fear to hope. There is a growing feeling that ‘the worst is over’ and that now things can get back to more of what the majority think of as normal, rewarding bull markets.
Unfortunately the alacrity with which investor mood has swung through 180 degrees should be seen as a cautionary rather than an encouraging sign. In this month’s Strategy Thoughts this eagerness to become positive is looked at from the perspective of Chinese and the broader emerging markets, and also the US market where the situation now is an eerie echo of the hope seen in May 2008. Needless to say, the conclusion this month continues to be one of caution. Investors’ focus should continue to be on capital preservation rather than chasing the increasingly popular, and understandably comfortable, hope.
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Strategy Thoughts: March 2016
What have we learned in eight years?
Since last month’s Strategy Thoughts equity markets have stabilised and in many cases rallied, commodities have generally done the same thing and measures of volatility have fallen. This probably makes many investors feel somewhat more comfortable now that markets are once again ‘behaving’, and perhaps most worryingly, at least for me, is that the driver of the market seems to now be clearly understood, oil.
In this month’s Strategy thoughts I will examine the supposed relationship between oil and the stock market, look at how easily we humans forget lessons we learned, just when remembering them would be so valuable and take a look at a number of markets from a longer term, secular, perspective. But perhaps the most important message in this month Strategy Thoughts, and an answer to the question in this month’s title, is encapsulated in the famous quote from German philosopher Friedrich Hegel:
“The only thing we learn from history is that we learn nothing from history.”
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Strategy Thoughts: February 2016
The Challenge Continues
As the threat of Deflation grows!
I ended last month’s edition of Strategy Thoughts with the observation that 2016 ‘may well prove to be a most challenging year’, and given what has already occurred this certainly seems to be the case. Equity markets throughout the world have trended lower; in Europe the Euro Stoxx 50 index has already lost 15% and is now down more than 25% from its high in April of last year, in the US the broad S&P500 has already slipped 10% this year and the small cap Russell 2000 index has lost 15% so far in 2016 and like the European index is down 25% from its 2015 high. In Japan the Nikkei has also fallen 25% from its high of last year and is already down 12% in 2016 and the Australian ASX index has lost 6% so far this year and nearly 20% over the last eleven months. Other asset classes have not fared well either with the high yield bond market extending its fall from last year with the ETF JNK falling 5% year to date on top of the 25% it lost in the second half of last year, and commodities have fared poorly too with the CRB index slipping 8% year to date and 28% over the last twelve months. Capturing just how miserably the year has started is the index that caught the attention of so many eight years ago through the GFC, the Baltic Dry Freight index. This index has so far fallen more than 35% and is down a staggering 75% since August of last year.
Remarkably, despite this widespread misery in markets, hope persists and so the slide down the ‘slope of hope’ looks set to continue.
In this month’s Strategy Thoughts I will examine the ‘slide’ and the ‘hope’, but perhaps more importantly I will revisit a subject that has concerned me for a number of years now, deflation.
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Strategy Thoughts: January 2016
The expectations game
In mid-December I concluded that month’s issue of Strategy Thoughts with the comment;
My real concern now is that the slow motion topping process, that has been unfolding for several years across asset classes and regions, will become a more homogeneous and damaging bear market.
Now, one month later, it seems that it has. After I wrote that concluding remark most markets rallied briefly before resuming their declines. Since the end of November junk bond indices have declined about 6%, the S&P500, Shanghai Composite and FTSE have all fallen 8%, the Hang Seng index 9%, the NASDAQ 10%, the Nikkei 11% and the German DAX 14%.
The blame for the decline seems to be once again being placed upon China. In this month’s Strategy Thoughts I’ll look at what has been the worst start to the year in decades and whether it is all about China, examine where the return, if any, has been over the last year, and then finally look at where expectations are currently and what this may mean for 2016.
The bottom line will be that preservation of capital, as I have been reiterating for a couple of years now, should remain the single most important investment goal for investors this year.
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