This is the end, beautiful friend
This is the end, my only friend, the end
Of our elaborate plans, the end
Of everything that stands, the end
No safety or surprise, the end
I’ll never look into your eyes, again
— The Doors, “End of the Night”
To many, it feels this way. However, this is not the end. We step forward and we create. My initial takeaway, and I need much more time to reflect, is that we are witnessing a global movement. Brexit. The U.S. election. The Italian referendum is up next. France follows closely behind. What is clear is that “We the People,” globally, feel more like outsiders. Elites with grand plans… the end?
We are witnessing a global uprising against big governments, big debts and economic stresses. I have no idea how this will play out. I do believe in you and me, I believe in our creative spirit, our determination, our hard work ethic and ability to succeed. Our tomorrow will improve. We will create anew, we will win.
When I’m asked about the biggest global risk we face, the European sovereign debt crisis is top of mind. The EU sits on top of a fragile foundation. Poorly conceived. It is cracking. The fix? Not yet known.
[drizzle]Put “on your radar” two important dates:
- The Italian referendum vote on December 4. It is not a Brexit “leave or stay” vote but it could be as significant as Brexit. Currently, any Italian law needs to be approved by both the Chamber of Deputies and the Senate, often resulting in delays in effecting new laws and reforms. The Italian public will get to decide whether they want to effectively reduce the Chamber’s power. Ultimately, this is about the future of Europe’s political stability. More on this here.
- The other date is December 14. As Fed Vice Chairman Stanley Fisher said today, “The case for raising interest rates gradually is quite strong,” providing no sign the central bank’s tentative plan to act next month has been pushed back by Republican Donald Trump’s victory in the presidential race. (Source) Expect a rate increase.
Flat wages, rising taxes and rising debts. Credit card debt is extreme again, margin debt is extreme again and look at this unprecedented rise in student loan debt. Mom and dad are telling junior, “Get a loan.”
Are households stressed? You bet.
I believe my job as an investment manager is to follow the weight of indicator evidence and do my best to stay in sync with the stock and bond markets’ primary trends. As published each week in Trade Signals, the trend in equities continues to point north (bullish).
However, the trend in fixed income has turned bearish as measured by the Zweig Bond Model trend-following indicator. For now, the signal is indicating higher interest rates and lower bond prices. The 10-year yield was at approximately 1.72% on the sell, it is near 2.10% today.
Over the last five years, complicating traditional investment analysis, was the Fed Quantitative Easing Policy (ZIRP, NIRP, etc.). With interest rates so low and the risk-free rate near zero percent, it made even overvalued investments look cheap.
I’ve been arguing that the upside is limited by high valuations and the great big global debt bubble. A debt mess here, there and most everywhere, debt-to-GDP is greater than 100%. The reality is, in many countries, it is well north of 300%. We are at the beginning of a debt deleveraging cycle. Credit is good for growth when you can borrow from tomorrow and spend today.
Limits are reached and the ability to borrow and spend, for most, becomes challenged. The globe needs to restructure its debt somehow, someway or the next downturn will do it for us. High debt is a risk, not a market indicator. People have been talking about the debt bubble since 2009. For you and me, let’s carefully watch to see if it will be as Ray Dalio says, “a beautiful or an ugly deleveraging.”
One last look at valuations and then let’s leave it alone until next month. Red is bad. Green is good. Red is winning.
As the character Sergeant Joe Friday from the TV show “Dragnet,” played by Jack Webb, “Just the facts, ma’am.” Man, am I dating myself.
Last week, I shared with you a few quotes from trader Paul Tudor Jones. The piece was about market valuations, but perhaps the best advice is best summed up in the title, “On My Radar: You’ve Only Got to Remember Two Things.” Jones suggested, “The whole trick in investing is: ‘How do I keep from losing everything?’” To which, he said it “would be to get out of anything that falls below the 200-day moving average.” Visually, it looks something like this:
A 200-day moving average rule… A pretty simple rule. You’ll get whipsawed a few times, but it is about avoiding the really big declines. They kill the compounding math and take years to overcome.
My work tells me the equity market trend continues to lean bullish and the risk manager in me says near record high valuations, record high debt, record high margin debt and a Fed exit are warnings enough to be careful. If I had to guess, I’d say equities are in the seventh or eighth inning of a nine-inning game and bonds are in the ninth.
My preference is to try to play the upside when the trend is bullish and get defensive when it is not. Overall, I believe it is best to be broadly diversified, overweight trend following trading strategies and keep stop losses in place.
N.B. At CMG, we run trend following trading strategies. If you are an advisor client of ours, please understand that the weekly OMR is about global macro-economic issues. The intent is to stimulate ideas and to present ideas and commentary in a way that can help you educate your clients. I know you know this material. OMR sets the base case for the importance of risk management. Our strategy material, available to you separately, can better explain our strategies and where they might fit in your client portfolios.
When you click through, you will find today’s piece short. I share several charts showing the historical bull and bear market secular cycles. You’ll see worst drawdowns by date, mean gain for all equity bull markets and the average number of days they lasted, bond bull and bear market periods and the returns in each trend period, and more.
Show the charts to your clients to help give them some footing on the reality of return and risk. I hope you find this week’s post helpful.
Included in this week’s On My Radar:
- Secular Bull and Bear Market Data
- S&P 500 Index vs. 50-day and 200-day Moving Averages
- From GMO – “Hellish Choices: What’s An Asset Owner To Do?”
- Trade Signals – Wow! The 10-Year is Yielding 2.10%
Secular Bull and Bear Market Data
Chart 1 — Secular bull (long-term) markets shaded in green and secular bear market