Strategy Thoughts newsletters
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.