Monthly Update August 2014
CONCLUSION—A Change in Character
Leading stock market indexes peaked on July 3, and are in the midst of their largest decline since January of this year. At this juncture, the decline is still very mild, with large companies as represented by the S&P 500 being more resistant to decline, down -3.8% from the peak, while mid-caps, global stocks in the Eurozone and small stocks leading the drop, down between -5.5% and -7.3%. This lack of uniformity, or divergence has been building since early in the first quarter, and may be warning of a more serious decline to come.
What is also different about now is that our risk model for high yield corporate bond funds generated a SELL a week ago, the first change since last September. In addition, for the past week, daily new lows are outpacing daily new highs on both the NY and NASDAQ, by a factor of at least 2 to 1 most days, indicating that more stocks are in their own bear market. Finally, a simple measure of supply and demand, the NY Bullish Percent, turned down a week ago, it’s first change in status since March. All of this suggests that supply is rising, and therefore, risk is rising. Though the stock market is oversold on a short term basis, and a bounce can take place at any time, the short term trend has now shifted to down, and surprises for the next couple of months are likely to be down, not up.
The chart below is that of the EMU IShares (EZU), courtesy of www.stockcharts.com.
This index is a basket of Eurozone stocks with the largest weight in France and Germany. The red circle shows the index dropping below its 200-day moving average, which is an intermediate bearish sign. The Russell 2000, a small stock index, has also done this, and the Dow Jones Industrials are in danger of doing so. Basically, international equity markets and small companies are leading the way down, and it may be just a matter of time before large companies follow suit. We are also in a weak seasonal period of the year, which extends into mid-October. Given all of the technical evidence at present, if there is going to be a sustainable decline (note—there has not been a 10% or greater decline in the S&P 500 since October 2011), it is likely to take place in coming weeks.
Education Corner—Tactical/Active vs Passive
This is a great opportunity to use a recent simple example of the differences in using a tactical/active approach to managing portfolios to a fully invested, passive approach. As noted earlier, last week our high yield bond fund risk model turned negative, so we sold about 90% of our existing high yield bond fund positions and have temporarily invested those funds into short term bond funds. Our model turned negative in response to falling prices. Some of the funds we sold include Alliance High Income, PIMCO High Yield and Blackrock High Yield. Some of the short term bond funds we purchased included Fidelity Short Term Bond, PIMCO Short Term and Blackrock Low Duration. This is an example of tactical investing.
In contrast to this, in TABR’s fully invested PBA (Passive But Active) accounts, where we also own Alliance High Income, we did nothing. It does not matter how far prices may fall, we will not sell this position, other than to rebalance the portfolio at year-end, or to replace it with another high yield bond fund for performance reasons. This is an example of passive investing. As we have been writing during the past many months, there is a place for both philosophies for certain clients, depending on their risk tolerance and goals. It is all about understanding expectations in terms of results and sticking with both through the inevitable ups and downs of each cycle. For a number of our clients who participate in a 401(k) or other type of employer retirement account, they are already using both strategies, and over time, they can complement one another.
As you will see in the upcoming quarterly newsletter, the PBA account is doing better than TABR’s Tactical Moderate Risk account during the first six months of the year (and more). A few clients have noticed this and asked, “should we switch?” In general, we feel this is a very poor time to be embracing passive investing in a heavy way, so we are guiding clients cautiously through the discussion, and only initiating partial positions where appropriate. There will be a time when increasing risk substantially will be very appropriate, but we don’t think that is now.
Below is how accounts are presently situated:
TABR Tactical Equity Exposure 57% rated neutral
TABR Bond Exposure 100% in Loomis Sayles Bond and PIMCO GNMA, but down to 10% in corporate high yield with 90% in short term bond funds
TABR Real Estate 50% partially invested since early January
Earlier this week, Ned Davis from Ned Davis Research made a very useful comment. He said, “I find a lot of things to worry about in the current market/global environment, but I have not found worry to be a useful or profitable investment strategy. So when I invest, I try to put aside my worries and concerns and invest on the basis of the weight of the indicator evidence.”
This is, in essence, the primary approach we follow in TABR’s Tactical portfolios. And, as the evidence shifts, we will shift. Per the position of our various models, I’d rate things as neutral. Not so terrible, but not so hot either. We may be transitioning into a significant decline for next year, but history suggests there should be at least one more new high prior to year-end. As always, we’ll let things unfold and adjust accordingly.
Something New? Material of a Less Serious Nature
Many of you may know that I have a penchant for really funny jokes, some of which are pretty sick. I’ve been a frequent contributor to the Leuthold Weeden Capital Management monthly Green Book for several years now. Founder Steve Leuthold and his staff have been publishing serious financial market research now for over 30 years, and for as long as I can remember, have always had a section titled “At Random,” with some really great adult humor. It has been a fun way to liven up what sometimes can be boring material.
As a way of rewarding our loyal clients who actually might be reading the monthly emails all the way to the bottom J, I thought I might give everyone a chuckle and see what the response is. If there is enough positive response, maybe we’ll add this as a regular feature. We’ll obviously be cognizant of “good taste.” So here goes—let us know what you think.
There was a man who worked for the Post Office whose job was to process all the mail that had illegible addresses.
One day, a letter came addressed in a shaky handwriting to God with no actual address.
He thought he should open it to see what it was about.
The letter read:
Dear God,
I am an 83 year old widow, living on a very small pension.
Yesterday someone stole my purse. It had $100 in it, which was all the money I had until my next pension payment.
Next Sunday is Christmas, and I had invited two of my friends over for dinner.
Without that money, I have nothing to buy food with, have no family to turn to, and you are my only hope…
Can you please help me?
Sincerely, Edna
The postal worker was touched.
He showed the letter to all the other workers. Each one dug into his or her wallet and came up with a few dollars.
By the time he made the rounds, he had collected $96, which they put into an envelope and sent to the woman.
The rest of the day, all the workers felt a warm glow thinking of Edna and the dinner she would be able to share with her friends.
Christmas came and went.
A few days later, another letter came from the same old lady to God.
All the workers gathered around while the letter was opened.
It read:
Dear God,
How can I ever thank you enough for what you did for me?
Because of your gift of love, I was able to fix a glorious dinner for my friends.
We had a very nice day and I told my friends of your wonderful gift.
By the way, there was $4 missing.
I think it might have been those bastards at the post office.
Sincerely, Edna
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Have a great last several weeks of summer. The start of school is right around the corner, and we are about to have a 4th-grader (Caroline) and a sophomore at NYU (Adam).
Sincerely,
Bob Kargenian, CMT
TABR Capital Management, LLC(“TABR”) is an SEC registered investment advisor with its principal place of business in the state of California. TABR and its representatives are in compliance with the current registration and notice filing requirements imposed upon registered investment advisors by those states in which TABR maintains clients. TABR may only transact business in those states in which it is notice filed, or qualifies for an exemption or exclusion from notice filing requirements.
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Comparison of the TABR Model Portfolios to the Vanguard Total Stock Index Fund, the Vanguard Total International Stock Fund and the Vanguard Total Bond Index is for illustrative purposes only and the volatility of the indices used for comparison may be materially different from the volatility of the TABR Model Portfolios due to varying degrees of diversification and/or other factors.
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