It’s hard to believe we just celebrated the Fourth of July. KaNeil reminded me we’re only six months away from Christmas! Time flies fast.
The broad stock markets continue to be relatively uneventful. From November 2014 through June 2015, the Dow Industrials has been stuck in a trading range. The Dow has repeatedly moved back and forth between 17,700 and 18,300 — back and forth, back and forth, and back and forth again. It feels like we’re watching a tennis match. As of June 30, the Dow once again hit the lower end of that range at 17,619.
Essentially, there is a war between good news and bad news that is volleying the market.
The good news is that the Global PMI indicators continue to be strong, indicating that the global economy is still expanding. Our tape composites are still positive with 68 percent of the sub-industries trending higher. Overall, the market trends are positive, even though they don’t look terribly healthy.
Europe, emerging markets, commodities, and the U.S. Dollar all had a strong first half of the year.
On another positive note, our growth portfolio, Top Flight, has turned in a better performance than the S&P 500 in this sideways-moving market — even though Top Flight has held a significant amount of cash. Over the past three months, we held between 25 percent and 50 percent cash, depending on the day.
In addition, Managed Income is defensively positioned. Its protective allocation paid off as interest rates moved higher in the second quarter (after a fake-out with rates moving temporarily lower rates in the first quarter). While Managed Income remained relatively stable, the increase in interest rates caused long-term bonds to lose 8.3 percent of their value, their worst quarterly performance since 1981.
Why So Defensive?
Why are we holding so much cash? Some clients have called to make sure we haven’t forgotten their accounts. I assure you we have not. We are holding cash because we are currently in a relatively defensive position.
Current market concerns:
- •Seasonality. We track seasonality within the market on an ongoing basis. Every market sector has a seasonal bias. In other words, certain sectors underperform and outperform during certain months. Historically, July is one of the worst months to be invested. July is difficult because many traders take the month off. And because there are fewer traders, markets can move quickly to the downside.
- •Rising rates? Stock valuations are significantly affected by competing investments. When interest rates go lower they provide fuel to push stocks higher. The opposite occurs when rates go up. While we don’t anticipate rates shooting up quickly, the fact that they are trending up rather than down is a negative for stocks.
- •Puerto Rico just announced it would prefer not to pay its debts. If this doesn’t get resolved, it could negatively affect the municipal bond markets.
- •China “A shares” are in a bear market, down 25 percent from their peak. Generally speaking, everything China does has a direct or indirect influence on the U.S. market.
- •The Dow Jones Transports are in a bear market, down 12 percent in the past six months. According to Dow Theory, the transports are often a leading indicator for the rest of the market.
- •Oil is in a bear market.
- •Stocks are usually strong in the seventh year of an incumbent president. This is the worst start to a pre-election year since 1947.
- •Earning expectations are weaker than they have been. The 12-year high in the Dollar may negatively affect some earnings. Earnings drive stock prices.
- •The S&P 500 has gone 914 days without a 10 percent correction. That is the third-longest bull market run in history.
- •Stock valuations are high by just about every measure.
It’s All Greek To Us
I am constantly asked about Greece and its impact on the markets. While Greece is a fun place to visit, its politics and fiscal mismanagement are extremely problematic for investors. This is not news to students of economic history.
Since Greece became an independent nation in 1829, it has been in default (or rescheduling its debt) 51 percent of the time through 2006.
The most recent round of dodging debts started in 2009. Since then, Greece and its creditors — the other countries in the European Union — have been going back and forth in negotiations. Since 2009, Greece has been bailed out twice while making promises to do better. It never does better. It doesn’t want to cut back on spending and doesn’t want to pay loans back. So far, it’s akin to the relationship between an addict and an enabler.
Now we are at the third potential bailout. The arguments are the same as the last two bailouts. Nothing has changed. The odds are high that something significant may happen in the next month or two.
In the overall scheme of things, Greece doesn’t matter much. In 2014, the U.S. exported $773 million in goods to Greece. That compares with a U.S. economy that totals more than $17 trillion.
The problem is that if Greece collapses, everyone starts looking at other places that are similar, like Spain, Italy and Portugal. They extrapolate Greece’s political problems onto those countries and start selling them as well. If Greece’s decline creates significant tremors in the credit markets, it could create a major problem. Even though Greece itself is “no big deal,” a contagion effect could cause grief in the global markets.
What Does All This Mean?
Let me be clear. We cannot see into the future. Anyone that tells you as such is likely delusional.
We manage investments by measuring risk versus reward. When our models and indicators become negative, we reduce market exposure by selling investments and moving toward cash. We do that because there is too much risk for the potential reward.
Conversely, when there is more potential reward for the amount of downside risk, we move toward being fully invested.
As of today, we are conservatively positioned. Based on our indicators, it would make sense that the market may continue to move sideways or that we could see a 15 to 20 percent decline from these prices. Our expectation is that this may play out over the next three months.
As the issues I mentioned become resolved and the potential reward justifies the risk, we will re-enter our investment positions. We do not attempt to forecast, we only react to what the market is actually doing at the time.
We appreciate your confidence in us. Feel free to reach out to us if you have any questions or concerns.
Written by Dave Young, President and Founder of Paragon Wealth Management
Disclaimer Paragon Wealth Management is a provider of managed portfolios for individuals and institutions. Although the information included in this report has been obtained from sources Paragon believes to be reliable, we do not guarantee its accuracy. All opinions and estimates included in this report constitute the judgment as of the dates indicated and are subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security. Past performance is not a guarantee of future results.