Hellish Choices: What’s An Asset Owner To Do?”

Updated on

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.


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.”


Source: dshort.com

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:


Source: dshort.com

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 periods in white.  Note returns both before and after inflation (real).


Chart 2


Chart 3


Chart 4


Chart 5


S&P 500 Index vs. 50-day and 200-day Moving Averages

Here is another simple trend following idea.  In the next chart, the black line is the simple 200-day moving average line.  Think of it as a simple average price over the last 200 days.  The red dotted line is the 50-day shorter-term moving average line.  Both are a way of showing us the current price trend.

When the shorter 50-day trend line moves above the longer 200-day trend line, the overall trend is bullish.  When below, it is bearish.  You will find the performance stats below the chart.

You can see that 65.98% of the time since 1929, the market trend was bullish and returns highest.  Likewise, the data since 2006 shows similar results.  The return figures are the percentage annualized gain per year.  The yellow highlight shows the regime we are in today.  The trend by this measure is currently bullish.



Source: Ned Davis Research

Further, you will find more on trend and other charts in the Trade Signals link provided below.  This is not a recommendation to buy or sell any security.  My point is that trend following works.  I recommend that you find several processes you can stick to and diversify to them and/or hire an experienced manager that can do it for you.

From GMO: “Hellish Choices: What’s An Asset Owner To Do?” by Ben Inker

If you are young, skip this section and continue to dollar cost average into your 401k over time.

If you are part of the pre-retiree and retiree group, read on.  If you are an advisor, show this next piece to your clients.  (Click here for the complete quarterly letter.)

GMO Executive Summary

Given today’s low yields and high valuations across almost all asset classes, there are no particularly good outcomes available for investors. We believe that either valuations will revert to historically normal levels and near-term returns will be very bad, or valuations will remain elevated relative to history. If valuations remain elevated indefinitely, near-term returns will be less bad but still insufficient for investors to achieve their goals. Furthermore, given elevated valuations in the long term, long-term returns will also be insufficient for investors to achieve their goals. It would be very handy to know which scenario will play out, as the reversion versus no reversion scenarios have important implications both for the appropriate portfolio to run today and critical institution-level decisions that investors will be forced to make in the future. Unfortunately, we believe there is no certainty as to which scenario will play out. As a result, we believe it is prudent for investors to try to build portfolios that are robust to either outcome and start contingency planning for the possibility that long-term returns will be meaningfully lower than what is necessary for their current saving/ contribution and spending plans to be sustainable.

One additional highlight from the GMO piece:

  • Our standard forecasting approach assumes that this situation will gradually dissipate, such that seven years from now valuations will be back to historical norms.
  • James (Montier) calls this scenario Purgatory because it means a finite period of pain, followed by a return to better conditions for investors.
  • An alternative possibility, which James refers to as Hell, is that valuations have permanently shifted higher, leaving nearer-term returns to asset classes somewhat better than our standard methodology would suggest, but at the expense of lower long-term returns.
  • By now some of our clients are probably thoroughly sick of hearing about the topic, but this piece is going to delve into it yet again, because the question of whether we are in Purgatory or Hell is a crucial one, not only for its implications for what portfolio is the right one for an investor to hold at the moment, but also for the institutional choices investors have to make that go well beyond simple asset allocation.

Trade Signals – Wow! The 10-Year is Yielding 2.10% (11-09-16)

S&P 500 Index — 2,165 (11-09-16)

Posted each Wednesday, Trade Signals looks at several of my favorite stock, investor sentiment and bond market indicators.  It is my weekly risk management dashboard, designed to keep me better in sync with the major technical trends.  I hope you find the information helpful in your work.

Click here for the most recent Trade Signals blog.

Personal Note

I’m picking my daughter Brie up at the train station tonight and the plan is to order pizza and huddle with the boys to watch the USA vs. Mexico (soccer) World Cup Qualifier tonight.  Tomorrow evening is the annual Live Like Blaine Foundation fundraiser held here in suburban Philadelphia.  One of the great joys in life for me was my time spent coaching the Lower Merion Flame.  Blaine Steinberg and Brie met at age seven and were teammates together for many years.  Blaine carried a bright light.  Outgoing, alive and fun – You felt her joy and it was infectious.  She was a junior at Dartmouth College when she passed away suddenly in March 2014, a few weeks before her 21st birthday.  I can’t hold back the tears, even right now.

I’m really looking forward to seeing Blaine’s family, Brie’s old teammates and their parents.  Old friends.  Great chemistry.



Celebrate, give, love and create anew.  This is not the end.  Step forward we must.

If you find the On My Radar weekly research letter helpful, please tell a friend … also note the social media links below.  I often share articles and charts via Twitter that I feel may be worth your time.  You can follow me @SBlumenthalCMG.

? If you are not signed up to receive my weekly On My Radar e-newsletter, you can subscribe here. ?

Here is a special toast to those you love, those you lost and the many great things to come!


Leave a Comment