Brouwer & JanachowskiMay 6, 2016
“Sell in May….” they say. It works about 1/12 of the time. The other half of this very old stock market rule of thumb is “…come back on St Leger’s day”, a famous horse race held in September. This year, the market drifted lower by about 2% since its mid April peak. So, if you're so inclined (we're not) and a market timer (same), you might have avoided some paper losses. But we think the market is playing to several drivers:
- Corporate earnings: Are flat. So are sales. S&P 500 earnings, at around $25 per share for this quarter, were $31 this time last year. And operating margins were down by about 0.5% to 9.0%. Some 228 of 311 companies who have reported “beat” estimates. But as we have noted before, there is a curious ritual to guiding, estimating, reporting and forecasting that makes the “beat” number almost irrelevant. There is not much corporate news for the market to sink its teeth into and we suspect short-term money is at play. The market brutalizes any stock that disappoints.
- Risk on Risk Off: this strategy (RoRo), which we heard a lot about in 2012, is back. All it does is use highly correlated assets at times when there’s no market consensus. Right now, there is no consensus on rates, China, the major Central Banks or growth. So we see trades like Energy-Emerging Markets-Australian Dollar-Energy (all “risk on”) swap with Yen-U.S. 10-Year note-Dollar-Bunds (all “risk off”). It’s a trading, not an investment, strategy. And here are some of the worries troubling markets.
- Credit: on one hand, we see nearly a quarter of the global Fixed Income market trading at yields below zero. On the other, worsening credit conditions, defaults and downgrades. The balance of positive to negative ratings is at its worst since 2011. Some parts of the energy market are at record default rates . Loan officers report a tightening of credit standards, which is good but also a sign of not great demand.
So here is what the markets look like:
Stocks are up and steady to flat. U.S. Treasuries are in almost constant demand and economies with no strong policy and no real growth (we show Japan but it could easily be most of Europe and China), down and volatile.
Bottom Line: We increased exposure to U.S. small capitalization stocks in December. We like the domestic bias and they look cheap. Elsewhere, we’ll sit out the inactivity.
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--Christian Thwaites, Brouwer & Janachowski, LLC
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