28 August 2012

Macro Strategy Update

Market Update and Portfolio Strategy

"Many members judged that additional monetary accommodation would likely be warranted fairly soon unless incoming information pointed to a substantial and sustainable strengthening in the pace of the economic recovery."

Excerpt from the Minutes of Federal Open Market Committee.
July 31 - August 1, 2012

Perhaps in the most important psychological support for the market in the past week, the US Federal Reserve has indicated its willingness to use monetary policy to support economic growth. The key words are 'substantial' and 'sustainable'.

Fortunately for investors, we have yet to see a substantial and sustainable strengthening in the pace of the economic recovery. Jobless claims are hovering around the 368,000 levels over the past five weeks. Retail sales may have increased last month, but it is still down from the year's high recorded in March. Manufacturing PMI may have gotten less bad but it is still contracting. Services remains the only bright spot. Fed members also reported that uncertainty in the business outlook is increasing due to the unresolved fiscal issues. Hence, it would seem that another form of monetary easing is in the works.

Despite the disappointing economic data, we remain comfortable taking on risk. Market signals are increasingly positive. Within the equity space, industrial and consumer discretionary stocks, once lagging the market, are now outperforming (Figure 1). This should translate to better manufacturing and consumer spending data in the months ahead.

Image courtesy of Stockcharts.com

Figure 1: Industrial and consumer spending stocks outperforming.

While the world awaits the Sep 12 decision from the German constitutional courts, investors are reacting to the positive news on the formation of the European Stability Mechanism by sending shares of European financials up faster than the market (Figure 2).

Image courtesy of Stockcharts.com

Figure 2: European financials outperforming.


This would be a three month old rally in equity markets (Figure 3). After a strong performance in August, a breather would not be surprising and would be healthy for the sustainability of the rally. After all, September is a seasonally weak month for equities, in fact the worst performing month for US equities. Nonetheless, the signs are just not there to indicate a return of the risk-off trade.

Figure 3: Global Dow Index rising since beginning of June.

Image courtesy of Stockcharts.com

Portfolio Positions

No change to our current portfolio positions for the time being. As the rally continues, we are in fact looking to take some profits off the table when certain price points are reached. In the next month or so, we will be seeking your approval to sell some equity funds and place the proceeds into either short duration bonds or money markets. This is to build our war-chest so that we have some dry powder to buy back equities when markets eventually correct.

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