Mojena Market Timing

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December 29, 2013

Timing Model at 62.3

Buy Signal on September 22, 2013*

Strategy

Current Position

2013 Returns

Cash

Money Market (T-Bills)

+0.1%

Buy and Hold

100% S&P 500

+32.4%

Standard Timing

100% S&P 500

+27.8%

Aggressive Timing

150% long S&P 500

+35.1%

 

 

*The timing model issues buy and sell signals based on a mathematical/statistical score that ranges between 0 and 100:  Sell 38 or below; buy 73 or above. The standard and aggressive strategies determine the trades when timing signals are given.  Signal date is Sunday; trades based on next-day closing price. 

Relentless bull market notches another record high, at 1842 for the S&P 500.  At this point, with two more days left in the trading year, the year-to-date return for our benchmark index is the best since 1995.  The model appears reluctant to celebrate, based on a score that stays well inside its sensitivity range of 21 to 82 and within striking distance of a sell signal.  Overly positive sentiment remains a negative for the model, as do some diagnostics of internal churning that’s not evident by looking at the external index itself.  Outwardly, the market “patient” looks good; inwardly, not so good.  So, while enjoying the YTD return, my skepticism mounts regarding an extension of the rally, at least until we get an overdue pullback that could take the index down 5 to 10%.  But then… if that starts to happen, then the model is vulnerable to a sell signal… unless, unless… the internals improve.  Keep in mind that the model primarily measures symptoms and environmental conditions, without regard to causes.  If a patient is vulnerable (susceptible, maybe weak), then a shock to the system has significant consequences; not so if the patient is healthy.  A score of 62 tells me that the patient is vulnerable… not weak, but vulnerable.

You’re thinking, too many ifs, ands, and buts… me too… too confusing, especially if we consider U.S. and global economic, monetary, political, geopolitical, demographic, behavioral, and socioeconomic causes that affect the stock market.  That’s why I let the model sort it all out and act accordingly.  It’s far from perfect, but then I don’t have a better alternative.  And while some of us fret over the state of affairs, let’s not forget that 2013 has been one heck of a year for stock market returns. 

Here’s wishing you a happy, healthy, and prosperous 2014

How about celebrating by treating yourself and loved ones by dipping into your gains from this year

And let’s not forget those less fortunate by upping contributions to our favorite charities

December 22

BUY       Model: 57.4       Cash: 0.1%       Buy & Hold: 30.2%       Standard Timing: 25.7%       Aggressive Timing: 31.9%       S&P: 1818

Market rebounds; model pulls back from near-sell signal.  The taper is official, starting in January.  The Fed Chairman offers soothing words to nervous investors, especially a “promise” that interest rates will stay near zero into 2015.  The market puts together a remarkable rally on Wednesday during Chairman Bernanke’s Q&A, extended into Friday on the back of good economic news.  The S&P and Dow notch new all-time highs by the end of the week, the “500” now at 1818.  The model bears close watching over the coming weeks, as market weakness could tip it into sell signal territory.

Have a very Merry Christmas and Happy Holiday week

December 15

BUY       Model: 40.3       Cash: 0.1%       Buy & Hold: 27.0%       Standard Timing: 22.6%       Aggressive Timing: 27.2%       S&P: 1775

The “500” starts the week with another record high, at 1808, then falls back to 1775 by week’s end.  The model swoons 35 points to a near-sell, within about 2 points of the 38 sell trigger.  As stated last week, market internals have been deteriorating, now to the extent that a sell signal is possible next weekend, especially if the market slides over concerns that the Fed will soon reduce its market-stimulating bond purchases.     

December 8

BUY       Model: 75.1       Cash: 0.1%       Buy & Hold: 29.1%       Standard Timing: 24.6%       Aggressive Timing: 30.5%       S&P: 1805

Looming loss for the week saved on Friday by encouraging jobs report.  Good news for the economy was good news for the market.  An improving economy now trumps worries over the Fed’s increased probability of soon removing the bond purchases punch bowl?  Markets end flat for the week, despite Friday’s rally; model continues its slow downward spiral trend.

The “500” is just shy of last week’s record high, yet the model sees deteriorating internals that belie the index’s external appearance.  The model is now within a range (21 to 82) that’s sensitive (either up or down) to market dynamics.  The buy signal does appear safe for now, as we’re in a favorable season into January and the model remains well above its sell trigger.  Still, its recent troubling behavior while the market advances bears watching over the coming weeks.

December 1

BUY       Model: 83.9       Cash: 0.1%       Buy & Hold: 29.1%       Standard Timing: 24.6%       Aggressive Timing: 30.6%       S&P: 1806

Dow and S&P eke out new all-time highs in quiet, holiday week; model continues slow-motion, modest slide. 

I recently came across a web-based tool called the FINRA Fund Analyzer, developed by a not-for-profit organization “dedicated to investor protection and market integrity through effective and efficient regulation of the securities industry.  The Analyzer compares the performances of user-selected mutual funds and ETFs after accounting for expenses, an often overlooked item by investors that can have a significant impact on returns over long time periods.  As an example, let’s consider three of my core investments during a buy signal: SPY, QQQ, IBB.  Starting with $100k in each fund over 10 years and a 5.5% annualized return yields the following net total returns (after expenses) for each fund: $69,284 for SPY, $67,432 for QQQ, and $62,810 for IBB.  The compounded expense effect reduces IBB’s return by $6474 versus SPY’s return. 

Now, ideally, if we choose a fund with higher expenses then we might expect a greater annualized return.  This is indeed the case for our chosen funds.  Over the past ten years respective annualized returns for these funds were 5.5%, 9.4%, and 12.5%.  Using these percents for the corresponding funds over the past ten years and after accounting for expenses, net total returns come out to: $69,284 for SPY, $140,707 for QQQ, and a whopping $209,515 for IBB. 

So, it’s worth considering fund expense ratios when comparing funds with similar historical returns.  As these costs are compounded, the differences can be significant over time.  Obviously, this consideration is less important when historical or expected annualized returns vary significantly. 

November 24

BUY       Model: 87.0       Cash: 0.1%       Buy & Hold: 29.0%       Standard Timing: 24.5%       Aggressive Timing: 30.4%       S&P: 1802

Another week, another set of records for the Dow and S&P, the former crossing another millennial goalpost, the latter another centennial.  The model is unimpressed, slipping three points. 

Bubble-talk seems to be the financial media’s du jour topic these days (see two previous postings).  The bond market does appear to be in a bubble, thanks to the world’s central banks.  Should it suddenly burst, meaning a rapid and dramatic rise in interest rates, we would have a world of hurt, including the stock market.  A doubling of interest rates to roughly historical norms would double the debt service for highly indebted companies, governments, and consumers.  Let’s hope for a slow deflation of the bubble.  Still, listen not to stock market bubble talk, for now.  The fear talk is a contrarian positive.  The stock market itself is not frothy at this time, although social media stocks and IPOs such as Twitter appear to be.  Investors, especially the retail variety, are far from euphoric.  Euphoria would be a negative.  Money managers, the pros, are showing some caution.  Again, positive from a contrarian perspective.  The model’s sentiment indicators hover around neutral; its technical indicators don’t suggest an intermediate or long-term overbought market, which would be another consequence of euphoria and its attendant bubble.  I would worry, however, if we have a melt-up. 

The stock market remains about the only game in town, courtesy of the Fed’s extraordinary easy money policy.  Bernankecare and the soon to ensue probably even “better” (for assets such as real estate and stocks, but not savings such as bonds, CDs, and money markets) Yellencare remain important props for the market.  We will see market air pockets, especially when the Fed’s bond purchases begin to taper and eventually end; yet the Fed promises its ZIRP (zero interest rate policy) for several years, keeping the short-end of the curve pegged down.  Down the road there will surely be problems as the Fed unwinds its massive balance sheet… and especially if the bond vigilantes kidnap the long end of the interest rate curve and run it up.  And there’s always the political wild card in Washington. 

Bottom line? I count on the model to have our backs before the next unraveling, the end of days for this bull market… so, no worry… let’s enjoy the upcoming holidays.  Believe it or not, Thanksgiving and Hanukkah coincide for the first time in history.  Let’s celebrate the event; we have to wait 78,000 years for the next such experience.  Where will the Dow be then? 

Just because something is inevitable doesn’t necessarily mean it’s imminent

Doug Casey

November 17

BUY       Model: 89.6       Cash: 0.1%       Buy & Hold: 28.5%       Standard Timing: 24.0%       Aggressive Timing: 29.7%       S&P: 1798

Dow and “500” notch record highs by week’s end, the latter now challenging another century mark, at 1798.  This relentless, and scary for many, bull market is now 166% above the 2009 bear-market low, based on the S&P 500.  At 56 months it’s about a year over the average length of a cyclical bull and 22% over the average return (see chart).  Only five cyclical bull markets out of 15 have exceeded this one in length; just four when looking at index returns. 

How much longer do we have for this run?  There’s no way of telling, really.  And as long-time readers know, the model “only” judges the start of a new primary trend (an 8% or more change in the index over at least 8 weeks, based on Friday closings), answering the question “Was this past week a reversal in the primary trend and therefore a change in the timing signal?”  At this writing, with the model’s score near 90 and well above the sell trigger of 38,  the answer is a clear “no,” meaning that the buy signal remains in place.  And, plainly, a primary downtrend is a necessary but not sufficient condition for the eventuality of a bear market, as is a primary uptrend for the bull counterpart.

The model’s technical, monetary, and fundamental indicators are pretty much firing on all cylinders, while its sentiment indicators idle in neutral.  Bull markets most often end when sentiment is extremely positive, a contrarian negative for the model.  One component of this indicator judges the sentiment of retail investors, a group that’s notorious for selling near cyclical bottoms (“I can’t take it anymore”) and buying near tops (“Oh no, I’m missing out on this bull market while my money market fund earns a pathetic pittance”).  We do see signs that individual investors are starting to pour money into the stock market, as described by a Wall Street Journal headline that reads “Stocks Regain Broad Appeal, Individual Investors Are Returning to Stocks, Which Could Be Bad.”  Some sentiment indicators do look frothy (see last week’s bubble link), but others do not.  For now, and while the model’s sentiment indicators blink amber and not red, it looks to me that we have more to go with this bull, along with some likely politically-induced potholes over the coming couple of months.  As usual, the operating strategy during a buy signal is to “buy the dips,” for those of us who are underinvested relative to risk profile.

November 10

BUY       Model: 89.7       Cash: 0.0%       Buy & Hold: 26.5%       Standard Timing: 22.1%       Aggressive Timing: 26.8%       S&P: 1771

Shaky week ends positive after Friday’s jobs report.  Good news is bad and bad news is good?  That’s been true all year, but might be changing as the jobs report was more positive than expected and the market soared, in contrast to recent market behavior.  Up to now the market had reacted negatively to stronger than expected economic reports, the working assumption being that the Fed would discontinue its über-easy money policies by unwinding the taper, thus reducing money supply and increasing interest rates (see postings June 23 to July 7).  At some point in the economic cycle, however, increasingly strong growth trumps rising interest rates, giving the stock market renewed energy for additional gains.  Are we approaching that point?  Maybe, but probably not yet, at least in terms of a believable and sustainable surge for the current bull market.  My caveats?  For one, the headwinds from Washington’s political dynamics as we turn the corner into the new year.  For others, continued business uncertainty over new regulations, effects of the health care law, and weak economic and jobs growth, all related to the issue of economic freedom (April 28).  And last month it was stronger than expected jobs growth, but not strong jobs growth.  At this point in a post-recession-recovery cycle we should be generating twice the number of monthly new jobs than we have, based on historical data.

Still, with the model positive, a fitful bull market in place, and portfolios doing very well, why worry? Those of us who do worry could hedge our portfolios by being underinvested, for now, while the model remains on a buy signal.  Those of us less worried, but currently underinvested, might use pullbacks to either strengthen or fully invest stock portfolios.  If during the coming year we have a blowoff top, then concerns over a bubble stock market might be warranted.  The model does include a couple of the troubling economic indicators mentioned in the linked article, although these indicators are not at extremes, at least as the model uses them.  Still, we and the model will cross that bridge when the time comes.

November 3

BUY       Model: 90.7       Cash: 0.0%       Buy & Hold: 25.8%       Standard Timing: 21.4%       Aggressive Timing: 25.8%       S&P: 1762

Dow and S&P mark new all-time records midweek, before easing back; the “500” scales to 1772, ending the week at 1762.  The S&P remains slightly overbought, but in clear short-, intermediate-, and long-term uptrends.  Its resilience in the face of Washington’s recent brinksmanship was surprising, given that a similar political environment in 2011 greased a disturbing 15% correction.  This time the market yawned with a mild 4% pullback.  In both cases the current model gave switchback (incorrect) sell signals over less than a handful of weeks. 

Needless to say, but I’ll say it anyway, we never know ahead of time whether a sell signal will mark the beginning of a serious, moderate, minor, or absent decline.  Second guessing a sell signal, however, is generally not a good idea.  When the model gives a wrong sell signal it usually switches back to a buy within weeks; when it’s right, it can be seriously (mostly) right, as in its sell signals within the bear markets in 2000-2002 and 2007-2009.  Capital preservation during extended declines is the hallmark of a good timing model; so is getting back in when it’s time, more or less.  An effective timing model doesn’t have to get it exactly right at major turning points; it “just” has to buy low and sell high on average, while avoiding major loses and regretting small gains.

It’s highly likely that we will face another political confrontation toward the end of this year and the beginning of the next.  And this time we just might encounter more serious market turbulence and another sell signal.  Meanwhile, let’s take advantage of an uptrending market, especially during this favorable market season. 

October 27

BUY       Model: 90.0       Cash: 0.0%       Buy & Hold: 25.6%       Standard Timing: 21.2%       Aggressive Timing: 25.6%       S&P: 1760

S&P 500 jumps to another record high, settling at 1760 by week’s end; model solidifies further.  The Dow remains a fraction below its early August high and the Nasdaq has been on fire.  Since the bear-market low in 2009, the Dow, S&P, and Nasdaq are respectively up 138%, 160%, and 211%, not counting dividends.  Clearly the Nasdaq is on a tear.  Yet… the index still remains 22% below its all-time high in 2000, after 13 years.  Its bear-market low in 2002 took the index down an astounding 78%, a consequence of the dot-com bubble, from which it has yet to recover.  Fearful investors that remained out of this index since its low would have given up a 211% return as of this writing.  The model picked up 151% of that gain. 

It’s been a struggle for the Nasdaq to regain its high, to be sure.  But then consider Japan’s Nikkei.  This once “invincible” index peaked its Mt Everest in 1989.  And then… an 82% devastation over the next eight years.  And it still remains 64% below its peak, 24 years later!  It will easily surpass the Dow’s 25-year recovery time from the Great Depression.  Yet, its gain from the low currently stands at 97%.  Buy and hold over the “long term?”  It’s all about timing.

During a buy signal I’m always partially invested in QQQ, an exchange-traded fund that tracks the Nasdaq-100 Index, which comprises 100 of the Nasdaq’s largest non-financial companies.  This is an excellent ETF for investing in tech companies.  Its focus is large growth; a list of 7 of its top 10 companies reads like a Who’s Who in tech:  Apple, Google, Microsoft, Amazon, Cisco, Intel, and Facebook.  Technology is one of my investment themes, including biotechnology (using IBB) and, of course, our benchmark index, the “500” (SPY).  These three ETFs represent my core (not all) investments during a buy signal.  Recently I’ve added industrials (XLI) to this core, to take advantage of our growing manufacturing renaissance from low energy costs and the increasing use of technology-enabled production, such as 3-D printing and robotics.   See also the September 30 tech posting from last year.  I do sell these, however, when the model turns negative.  And that’s a real possibility as we turn the corner from this year to the next, when a bipartisan contentious Washington once more becomes front and center for the stock market.

October 20

BUY       Model: 83.4       Cash: 0.0%       Buy & Hold: 24.5%       Standard Timing: 20.1%       Aggressive Timing: 24.0%       S&P: 1744

APOLOGY

This posting is one day late because of a problem with the hosting service.  Sorry for the inconvenience.

Stock market surges as Washington negotiates three-month cease fire.  The S&P 500 scaled a new all-time high by week’s end, at 1744.  Yet, here we go again: Another panel and another promise to solve today's problems tomorrow, or whenever.  And we have new short-term deadlines:  the bipartisan panel’s non-binding budget roadmap on December 13, which should include greatly needed entitlement and tax reforms; expiration of the CR on January 15, a deadline for partially funding the government; a new “debt ceiling” on February 7.  Given the polarization on both sides of the aisle, it will probably be déjà vu all over again (thanks Yogi).  Far too much uncertainty remains as we careen from crisis to crisis.  Still, the stock market should be good through the end of the year; so let’s enjoy it while we can.  Well, maybe not, depending on how job numbers, corporate earnings, GDP, the wobbly healthcare rollout, and geopolitical events play out over the remainder of the year.  But then again, the Fed has our back.  Most likely the taper will be delayed even further, maybe forever according to some pundits, partly as a reaction to the economic damage wrought by the recent political fiasco.  The stock and bond markets will like that, as they have since 2009. 

Meanwhile, the model is back on track, popping 22 points, mostly from a strengthening of its currently dominant technical indicators. There’s little chance now of a sell signal anytime soon.  The operating assumption during a buy signal is in play: buy the dips if the portfolio remains underinvested relative to its risk profile.

Historical Note

October 19 just passed, the 26-year anniversary of the biggest one-day percentage drop in U.S. stock market history.  The Dow Industrials plunged almost 23% that day.  In one day!  Today, that would be the equivalent of a devastating 3480 points for the Dow.  And we now fret over daily triple-digit losses?  Those of us in the market at the time remember that day well.  The model was not live then.  In fact, that panic, my terror, was the key motivation for developing the model.  The current model would have been out of the market one week prior to that crash, based on back testing.  And almost as important… it would have put us back in the market at the end of November, one week before the start of a new bull market for the S&P 500.  Getting back in near a bear market bottom is essential as well; far too many investors fearfully stay out of the market far too long following a bear market.

Could it happen again?  Sure it could, especially given the number of large institutional investors who use high-frequency trading.  And now we have heightened fears over cyber-terrorism and hacking attacks as causes of steep market declines.  Regulatory changes put in place since the flash crash in 2010, a black swan to be sure, would delay but not prevent future occurrences.  Besides, sellers can move to other electronic networks as well. 

A significant market decline that turns into a crash is facilitated by herd behavior and by the conclusion in behavioral finance that fear (loss) is a much stronger emotion than greed (gain).  The model, by the way, directly includes two behavioral components regarding fear and euphoria.  Moreover, some of its technical indicators reflect herd behavior and other behavioral characteristics.

What to do?  Diversification into other asset classes besides stocks can help, such as gold, bonds, and money markets.  Diversification and the model.  I hope expect that the model would be on a sell signal should we have a crash in our future.  Excepting a flash crash caused by a non-financial event such as cyber-terrorism, I do believe that the odds would favor a prior sell signal, especially if the crash comes sometime after the start of a bear market, as it did in 1987.

October 13

BUY       Model: 60.8       Cash: 0.0%       Buy & Hold: 21.5%       Standard Timing: 17.2%       Aggressive Timing: 19.6%       S&P: 1703

Blasé no more.  Politically-induced volatility is back.  Four percent pullback bottom on Tuesday reflected anxiety over the government’s partial shutdown and especially the looming debt ceiling’s “final” breach, presumably on October 17.  Then a whiff of talks on Wednesday and actual conversations with the President into Friday that hinted negotiations sent the market into a near-euphoric recovery to end the week 13 points ahead for the “500.”  What appeared midweek to be pretty much a revisited sell signal reverted to a slight gain for the model by week’s end.  Still, the pullback was surprisingly mild, again suggesting that the market anticipates a deal… and soon.

Keep in mind that the model only updates on the weekend, partly relying on indicators using data that are available weekly (such as investor sentiment, weekly advance and declines, new highs and lows, up and down volume), monthly (such as the Fed’s recession probability and liquid assets in mutual funds), and aperiodic (such as a change in Fed policy regarding reserve requirements, discount and margin rates).  Some indicators rely on daily market data as well, such as the VIX, closing values for major indexes, and dividend yields.  When I say that a particular move in the S&P 500 might change the model’s signal, as stated in last week’s posting, I’m speculating daily values and holding weekly, monthly, and aperiodic values at their current levels.  Why did I develop a weekly rather than daily model?  Less data to deal with, greater stability (many less switch signals), and no sacrifice in performance. 

And so the drama continues in Washington as the market reacts to daily prospects for a resolution.  Debt-day is coming Thursday, the day the government’s borrowing authority would need an extension, according to Treasury.  Let’s hope that talks by then morph into actual negotiations that result in passed legislation by both chambers, even if only a postponement to give dealmaking more time.  Unthinkable otherwise. Then we can get back to business as usual, whatever that means, and complicated enough as it is.  Still, it appears far from over at this writing.  A good political source for breaking news is the web site Politico and its Twitter feed.  And re-read the second paragraph in the preceding post and hang on for what could be an upcoming wild ride.  

October 6

BUY       Model: 57.2       Cash: 0.0%       Buy & Hold: 20.5%       Standard Timing: 16.3%       Aggressive Timing: 18.3%       S&P: 1690

Market and model yawn over the continuing shutdown and staredown in Washington.  The looming debt ceiling fight just might turn yawns into screams if the summer of 2011 is any indication.  At that time the S&P 500 swooned 15% and US credit was downgraded.  And now we have a stubborn President and Senate that will not negotiate with a stubborn House that insists on doing so.  Negotiation is how it works, especially when government is divided.  According to the Wall Street Journal, legislative changes in return for debt ceiling increases are enacted about half the time, with 60% of these “dirty” increases at the hands of Democrats, 15% by Republicans, and the remaining 25% during divided Congresses.  It appears that, negotiations, if any, will now deal simultaneously with the marriage of the CR and debt ceiling.  (See preceding post.) Two different peas in the same pod. 

Will the market burn while Washington fiddles?  So far, the market’s benign behavior and the model’s switch to a buy signal are suggesting that the standoff will be resolved with little damage.  The next several weeks should tell the story.  The bold ones with underinvested portfolios during a buy signal will welcome pullbacks as opportunities to buy more; the cautious ones with underinvested portfolios will wait out any storm that develops.  In either case the working assumption is that the model will remain on its buy signal, a fragile prospect should the market get spooked.  The “500” now stands at 1690.  A drop of just 20 points (1.2%) by week’s end could very well whipsaw the model into another sell signal.  Once again, Washington, the market, and the model have our undivided attention.

An entitlement-driven disaster looms for America, yet Washington persists with its game of Russian roulette.

Niall Ferguson

September 29

BUY       Model: 58.5       Cash: 0.0%       Buy & Hold: 20.5%       Standard Timing: 16.4%       Aggressive Timing: 18.4%       S&P: 1692

Markets ease back about 1% for the week, as anxiety builds over the theatrics standoff in Washington; model shaves 19 points.  Based on last Monday’s favorable (lower) close, the mistaken sell signal gave up 3%, 3%, and 5% index points, respectively, for the Dow, S&P, and Nasdaq.

It appears all but certain that the government will partially shut down Tuesday, October 1, as the stare-down continues over the Continuing Resolution (CR in Washington-speak) to fund the government by the midnight Monday/Tuesday deadline.  There have been 17 shutdowns since 1976; the last one in December to January 1995-1996 lasted 21 days.  This will exact economic harm, especially to those Federal employees and civilian contractors who are furloughed from nonessential agencies and services.  But not as much potential harm as a failure to extend the looming debt limit.  Uncle Sam will have maxed out its credit card by about mid October, which if breached will have credit rating implications for the Federal government (interest rates and related expenses for everyone would rise) and, more ominously, potential default implications, the latter far less likely because interest payments on the Federal debt will surely continue, unless we have the unlikely event that the standoff goes on for a very long time.  Even then, interest payments would likely carry on, at the expense of other expenditures.  In any case, the economy would be injured short term and the stock market would follow suit.  Over the longer term, if governmental expenses are intelligently reduced as part of a bargain, including some known fixes to the Health Care Law and especially the unsustainable (according to the Office of Management and Budget or OMB) entitlements (for Medicare, Medicaid, and Social Security), the private economy should eventually benefit from lower (or at least not higher) taxes and interest rates (due to less borrowing needs by the government). 

And so we have brinksmanship, given that the President and Senate leadership refuse to bargain over the debt limit (a historical first) and the apparent hard position by the House’s justifiable (based on history and economics) insistence that CR and debt limit extensions must include (pick one or more) a delay in Obamacare, selective tax reforms (such as the repeal of the medical devices tax), and maybe the approval of the Keystone XL pipeline extension.  These issues will be resolved, possibly either by deadlines or within a short time thereafter.  Which means that portfolios following the buy signal and that remain underinvested might use volatile pullbacks to add to stock positions.  I do expect that rallies will follow when agreements are near or reached.  Alternatively, very risk averse portfolios might sit tight until the dust settles from the current dustup, then follow by committing more funds to stocks, should the model remain on its (tenuous?) buy signal.  

September 22

BUY       Model: 76.7       Cash: 0.0%       Buy & Hold: 21.8%       Standard Timing: 17.0%       Aggressive Timing: 18.9%       S&P: 1710

BUY Signal

Effective at the close on Monday, the model’s standard portfolio will mimic the S&P 500 Index. The aggressive portfolio will be 150% long, basis the S&P 500; its fortunes will magnify the weekly behavior of this index by 50%.  The simplest way to implement these positions is to invest in either mutual funds or exchange traded funds (ETFs) that track this index.  See the Easy Portfolio Implementations table in the FAQ for details.  As usual, the operating strategy during a buy signal is to buy the dips, for portfolios that remain under-invested relative to risk profile.  Look for meaningful pullbacks over the next several weeks, given a moderately overbought market and politicized rancor in Washington over issues that will likely impact the market and economy.

The five-week sell signal looks to be a regret trade (5% given up) for the standard timing strategy and a losing trade (6%) for the aggressive variation.  A down day on Monday would improve these percents; an up day would not. 

The S&P 500 soared to a new all-time high through mid-week before pulling back one percent from its high by the end of the week.  With Syria simmering on the back burner, attention turned once again to the prospects of the Federal Reserve tapering back its easy-money purchasing program.  Monday’s market jumped on the presumed good news that Larry Summers took himself out of the running as the next Fed Chairman.  It was widely believed that he would have implemented a more aggressive tapering.  On Wednesday the Federal Open Market Committee announced that it would not taper (for now), a decision that roundly surprised investors and propelled the market further.  So, the obsession with the Fed’s easy-money policy continues, despite past, present, and foreseeable sluggish economic and jobs growth.  Don’t fight the Fed as the saying goes and who could argue with that as the unprecedented loose monetary policy since the financial crisis has been a key driver of the present bull market (profits have been pretty good as well, although that market prop is weakening). 

As for the model, it looks like a mistaken trade… unless by some miracle we have a major decline of about 4% on Monday.  Losing trades are common enough, as stated on these pages and seen in Reality Check.  For the most part these misguided trades have not had serious consequences in the past, given that the model has clearly outperformed theoretical buy and holders, with greater overall return and much less risk to boot over its live 24-year existence. 

With Syria and tapering off the table (sort of, for now), the market’s attention is now focused on the drama in Washington over funding the government, defunding Obamacare, and extending the debt ceiling.  It looks to me-- with so many unresolved, important, and contentious issues within the context of a weak economy-- that we’re in for a very volatile fall season.  The model just might follow suit, as it reacts to market gyrations and while its score remains within its sensitivity range of 21 to 82,  a range within which it can change rapidly, as it did for this buy signal and the preceding sell signal.  As the market whipsaws, so might the model, impacting its portfolios, and my own.  I’m counting that the model gets it right… or at least not very wrong. 

September 15

SELL       Model: 46.2       Cash: 0.0%       Buy & Hold: 20.2%       Standard Timing: 17.0%       Aggressive Timing: 20.5%       S&P: 1688

Relief rally continues into second week, as Syria gets a (permanent?) time out, the upcoming taper is now believed (hoped? maybe?) benign, and some better economic news comes out of Europe and China.  The model’s needle moves little as it remains unimpressed with the rally.  The sell signal has now given up 42 S&P points (2.5%) over 4 weeks, a disappointment to be sure.  The timing model theorizes at this time that we have a 54% probability of a primary downtrend (8% or more decline over at least 8 weeks based on Friday closings).  The pullback reached 4.6% three weeks ago and now stands 1.3% below its peak 6 weeks ago.  In short, the primary downtrend remains unconfirmed.  Yes, the model might have it wrong this time (see August 18 posting for more details), but then it’s not over until the “fat lady sings” (next buy signal).  Patience can have its rewards, as in the 2008 sell signal (26% loss avoided)… or not, as in the 2010 sell signal (8% gain given up).

September 8

SELL       Model: 40.7       Cash: 0.0%       Buy & Hold: 17.8%       Standard Timing: 17.0%       Aggressive Timing: 22.9%       S&P: 1655

Market nearly regains last week’s losses as the S&P 500 settles at 1655; model  jumps 18 points as its technicals gain some strength.  The market rallied during the week as worries over military actions in Syria receded: international support for assistance and intervention melted away, the President sought Congressional approval for a military response and then walked back the “red line” statement (but not his intentions over addressing the need for a military strike as a moral and strategic imperative).  On Friday morning the market responded positively to a tepid jobs report that eased concerns over the Fed’s tapering plans (see June 23 to July 7 postings).  Then… Putin’s remark regarding Russia’s response to a US military strike roiled the market, with the Dow fluctuating 220 points before ending the day with a small loss.  Over this weekend the European Union supported a “clear and strong” response, with France and Denmark stating that they would join any military action.  And does the alliance for a strike wait for the UN report on the chemical attack, whenever that might be?  So, we have a fluid situation here, with Syria front and center from the market’s perspective, especially as we await a Congressional vote over authorization (or not) for a military strike.    

September 1

SELL       Model: 22.7       Cash: 0.0%       Buy & Hold: 16.2%       Standard Timing: 17.0%       Aggressive Timing: 24.6%       S&P: 1633

S&P 500 sinks nearly 2% to 1633 as model plunges 20 points into deeper sell territory.  Pullback from the 1710 all-time high four weeks ago now stands at 4.5%.  August ended true to form as a seasonally weak month, with the Dow trimming 4.4%, its biggest monthly decline since May last year.  The S&P lost 3.1% for the month, while the Nasdaq fared better at 1%.  And now we have September, a month that averages negative returns; a month that declines 60% of the time.  And then there’s October, the most volatile month of the year, but also a month that marks significant bear-market bottoms. 

The market remains vulnerable, given not only the sell signal, but also dicey seasonal months in play, concerns over the Fed’s tapering program, upcoming political wrangling over the debt ceiling and federal budget, persistently weak global job and economic growth (especially worrisome and critical in the not-so-small-anymore emerging markets, a potential 1998-style crisis), sluggish real (after inflation) earnings growth, and spiking oil from tensions over Syria (think worst case $150 oil as in 2008, assuming a military strike against Syria and pushback that disrupts oil supplies through the Suez Canal and/or Strait of Hormuz… not likely, but…).  I’m reminded of the following quote:

Everyone has a plan until you punch them in the face. Then they don't have a plan anymore.

Mike Tyson

Does your plan have its guard up should a devastating left hook come your way over the next couple of months?  Iron Mike’s left hook was his classic punch, but we wouldn’t want to be in his way when he threw the right uppercut, right overhand, or right cross.  And oooh those wicked body blows.

August 25

SELL       Model: 43.3       Cash: 0.0%       Buy & Hold: 18.3%       Standard Timing: 17.0%       Aggressive Timing: 22.4%       S&P: 1663

For the week: Dow 0.5% down, S&P 0.5% up, Nasdaq 1.5% solid gain.  Down day on Monday shaves 0.7% off standard buy signal’s YTD gain, while buy and hold eases ahead for the year.  Timing model perks up 6 points, as it remains highly sensitive to its indicators. 

A pure implementation of the standard strategy during a sell signal is to shift all stock funds into a money market fund, as done in the table above.  A partial standard strategy execution would be to “lighten up” on stock funds for now, shifting part of the stock portfolio to a money market fund, while waiting for either the next buy signal or continued market weakness to “take additional stocks off the table.”  To mimic the aggressive strategy shift all stock funds to a mutual fund that shorts (places a bet against) the S&P 500, such as Rydex Inverse S&P 500 (RYURX) or ProFunds Bear (BRPIX).  Or shift the entire portfolio to the ETF SH, which also shorts the index 100% (-1x) on a daily basis.  In other words, given a 2% loss for the S&P 500 by the end of the trading day, the short should give a 2% gain.  The other edge works against us: a 2% index gain would be a 2% loss in our investment.  Caution:  The pure aggressive strategy is very risky and should be practiced, if at all, with a small portion of the overall portfolio, as I do.  See a more detailed discussion of the aggressive option in the FAQ. 

As for myself, 82% of my portfolio now marks time in a money market fund a la standard strategy, 12% is short the “500” and a Euro stock index, 3% is in gold, and the final 3% is in a very thinly traded specialty closed-end stock fund that stays as it is through thick and thin (I own 6x more shares in this fund than the average daily volume). 

August 18

SELL       Model: 37.5       Cash: 0.0%       Buy & Hold: 17.7%       Standard Timing: 17.7%       Aggressive Timing: 24.8%       S&P: 1656

SELL Signal

The model has issued a sell signal (barely), its first in three years, effective at the close on Monday, August 19.  Accordingly, the model’s standard timing portfolio switches 100% into a money market fund based on T-Bills and the aggressive timing portfolio shorts the S&P 500 by 100%.  Over the three-year buy signal, tentative index gains (not counting dividends) for the Dow, S&P, and Nasdaq are respectively 43%, 49%, and 57%.  Based on the “500” with reinvested dividends, buy & hold and the standard timing strategy show tentative total returns of 60% (of which 11 percentage points accounts for dividends), while the aggressive strategy extends the gain to 70% (dividends not earned for this strategy).  Final numbers will be based on Monday’s close.

The model’s dramatic decline from last week was driven by a significant deterioration in its technical indicators.  On the surface, the S&P 500, at 1656, is just 3.1% below its all-time high of 1710 just two weeks ago.  Not a big deal, although the “Talking Heads” would have you believe it is.  Beneath the surface, however, there’s turbulence as measured by relationships among weekly new highs and lows, up and down volumes, and advances versus declines.  In addition, the model’s death cross issued another sell signal (see June 16 posting).  The model’s monetary and sentiment indicators weakened from positive to neutral, while fundamental indicators remain positive.  The “patient” looks ok on the outside, but internal diagnostics tell a different story.

At this point the model is very sensitivity to its technical metrics, meaning that a strong rally with solid internals over the coming weeks could tip the model into a switchback buy signal.  This is exactly what happened with the live model in 2010: an unprofitable three-week switchback from buy to sell to buy.  The current model, in its tested history, gave an eleven-week successful sell in 2010, followed by losing and unstable four- and three-week switchbacks, and then the three-year buy signal that just ended.  In that year the live model underperformed buy and hold (6% v 15%), but the current model would have matched the 15%. 

The point?  The model has made few mistakes and when it does they’re usually short lived.  Moreover, important and timely sell signals avoided most of the steep losses in the 2000-2002 and 2007-2009 wicked (50% plus) multiple bear markets (see Reality Check).  Keep in mind that the model now says that it detects a turning (inflection) point that will tumble the market at least 8% over eight weeks or more (now possibly entering its third week).  The model does not detect or predict upcoming bear markets, although for a 20% or more bear market to occur an obvious and necessary condition is an initial decline of 8%.  I would be more confident of an upcoming bear market if investors were wildly optimistic, resulting in a very negative contrary sentiment indicator for the model.  Instead, the model’s sentiment indicators are benign.  And more confident still if the model’s score had dropped significantly below its 38 sell trigger, as it did in the last two bear markets.  Still, we might have a triple top (in 2000, 2007, and 2013) within the current secular flat market, followed by another cyclical bear. 

At the very least the current sell signal locks in nice year-to-date returns, while possibly giving up some gains should the market continue its advance.  I for one am not second guessing the model… and intend to sell into an (hopefully) up day on Monday.

August 11

BUY       Model: 77.8       Cash: 0.0%       Buy & Hold: 20.2%       Standard Timing: 20.2%       Aggressive Timing: 28.9%       S&P: 1691

No record high this past week, as the “500” eases back 1% to 1691.  The model extends its decline into the third week, its score now near the top end of its 21 to 82 sensitivity range.  This means that the model is now more sensitive to downward changes, especially within the middle portion of this range, roughly the mid 40s to upper 50s.  Still, at about 78, it remains well above its 38 sell trigger.  As mentioned last week, we’re in a seasonally weak period over the next couple of months, so increasing turbulence into October would not be surprising.  How the model responds bears watching.

August 4

BUY       Model: 88.6       Cash: 0.0%       Buy & Hold: 21.4%       Standard Timing: 21.4%       Aggressive Timing: 30.9%       S&P: 1710

Another week and more all-time highs for the Dow and S&P.  At its week-ending and record-setting 1710 the “500” cracks another century mark and is now 153% above its 2009 bear-market low, besting the Dow by 14 percentage points over this bull-market’s four-year span.  The model eases back for the second straight week, as cautious declines in its technical indicators show some turbulence underneath the surface.  The start of a pause or moderate pullback in the 3-5% neighborhood would not be surprising over the next several weeks, particularly given that August and especially September are weak seasonal months.  

July 28

BUY       Model: 90.4       Cash: 0.0%       Buy & Hold: 20.1%       Standard Timing: 20.1%       Aggressive Timing: 28.9%       S&P: 1692

Market treads water, but not before eking out new record highs for the Dow and S&P early in the week, the latter at 1696; model eases back a couple of points, while the index lands at 1692, where it started the week.  Over the current three-year buy signal the Dow, S&P, and Nasdaq show respective price gains (without reinvested dividends) of  48%, 52%, and 57%.  Over this same time span, with reinvested dividends, buy & hold and the standard timing strategy mark total returns of 63% (of which 11 percentage points accounts for dividends), while the aggressive strategy clocks in at 82%.   

July 21

BUY       Model: 92.3       Cash: 0.0%       Buy & Hold: 20.1%       Standard Timing: 20.1%       Aggressive Timing: 28.9%       S&P: 1692

Quiet week yields more record highs for the Dow and S&P, the latter settling at 1692.  The model’s monetary and technical indicators look much better than a couple of weeks ago.  Relative strength is now positive and the model confirms its version of the bullish golden cross, the opposite of the bearish death cross (see June 16 posting).  Moreover, the model’s standardized deviation above the moving trend, while elevated, is not near extreme levels, suggesting that the current up-move may have more to go before the next meaningful pullback (see May 12 posting).

July 14

BUY       Model: 88.3       Cash: 0.0%       Buy & Hold: 19.2%       Standard Timing: 19.2%       Aggressive Timing: 27.6%       S&P: 1680

Fed Chairman Bernanke issues mid-week soothing words regarding the Taper; market surges to new records.  What a difference three weeks makes.  The pullback was limited to just under a 6% loss and a small window of advantage; the model neared a sell signal and is now back on solid footing.  Both the Dow and S&P 500 set new all-time records at the week’s close, the latter at 1680 and 148% above the March, 2009 bear-market low.  The Nasdaq is outperforming our other two indexes since 2009, yet remains about 29% under its year 2000 bubble-market high.

Although the market appears overbought, it looks like the current rally might have legs.  The typical response to a new record shortly after a pullback is an extension of that high.

July 7

BUY       Model: 71.2       Cash: 0.0%       Buy & Hold: 15.7%       Standard Timing: 15.7%       Aggressive Timing: 22.2%       S&P: 1632

The market and model respond to the Goldilocks economy…

Once upon a time, there was a little girl named Goldilocks.  She  went for a walk in the forest.  Pretty soon, she came upon a house.  She knocked and, when no one answered, she walked right in.  At the table in the kitchen, there were three bowls of porridge. Goldilocks was hungry.  She tasted the porridge from the first bowl.

"This porridge is too hot!" she exclaimed.

So, she tasted the porridge from the second bowl.

"This porridge is too cold," she said

So, she tasted the last bowl of porridge.

"Ahhh, this porridge is just right," she said happily and she ate it all up.

The Story of Goldilocks and the Three Bears

Fear subsides as Friday’s jobs report is “just right.”  Not too strong to accelerate the Fed’s tapering plan (see two previous postings) and not too weak to harm the economy.  At this point in past economic recoveries jobs were added at about twice the current rate.  Moreover, the jobs report included a surge in part-time workers (consequence of the employer health-care mandate, now postponed for a year?).  The generally quoted unemployment rate stayed at a still high 7.6% (normal is about 5%), but the comprehensive U6 measure of joblessness (loosely the unemployed, discouraged, and underemployed) increased from 13.8% to 14.3% of the workforce.  So, definitely not a strong jobs report, but better than expected.  Another consequence: Interest rates surged again as bond prices tumbled.  As in 1994, bond funds are not a good place to allocate money, likely for some time to come.

The market responded to this “sweet spot” by sending the “500” to 1632 at the week’s close, just 2.2% below its May 21 all-time high.  And the model stabilized a bit higher, based on improvements in its technical indicators.  The buy signal remains active as we enter July, the only solidly favorable month while the Halloween Indicator is on a sell signal (see posting April 7).

June 30

BUY       Model: 65.8       Cash: 0.0%       Buy & Hold: 13.9%       Standard Timing: 13.9%       Aggressive Timing: 19.3%       S&P: 1606

And so we had another “white knuckle” week as Federal Open Market Committee (FOMC or Bernanke & Co.) comments appear to drive this market.  And adding to the convulsion was the President’s interpreted remark during an interview that the Fed Chairman’s tenure is tenuous at best, or putting it more bluntly, “You’re fired!  And who would he have in mind as a replacement?  Why the even more accommodative Janet Yellen, described by one pundit as “Bernanke on steroids.”  Is this continued-easy-money prospect enough to keep the market afloat?  It’s worked so far.  So far.

Another downdraft on Monday to 1573 for the S&P marked a 5.8% pullback low, followed by stabilization to 1606 by week’s end.  The model’s technical indicators fluctuated around some key trigger points before settling the model some 21 points higher.  Still, the model remains within its sensitivity range (21 to 82) and can change rapidly from here.

The worry du jour is the Fed’s program for unwinding its easy-money policy and a subsequent (possibly dramatic) jump in interest rates.   Actually, the model considers early tightenings as positive events!  Essentially, it means that the economy is coming back, signaling upcoming profit and job growth that’s favorable to the market. Eventually, of course, too many increases ends the party, although its timing depends on many other influences as well.  And, as often stated in these pages, the market’s behavior is determined by a number of factors, not primarily interest rates. The model judges interest rate changes in this comprehensive context… and draws its conclusion.  Bottom line?  While the model is positive, market pullbacks based on interest rate fears likely present buying opportunities for under-invested portfolios, providing that the economy is in fact improving, as the FOMC believes.

Concerns by the Bond Vigilantes has forced interest rates up, in particular the closely watched US 10-year Treasury Yield.  Now, with Europe in recession and China and the US wobbling economically, the thought of additional interest rate increases does send tremors through the investment landscape.  Looking at all the “ifs, thens, elses, and buts” is a great recipe for emotional confusion, which is why I developed the model in the first place.  So… let’s see what the model says, one week at a time.  It’s got my attention.

June 23

BUY       Model: 44.9       Cash: 0.0%       Buy & Hold: 12.8%       Standard Timing: 12.8%       Aggressive Timing: 17.8%       S&P: 1592

There was no place to hide other than money markets and short positions this past week: stocks, bonds, commodities, and gold all took hits. At just under 45 the model is on the cusp of a sell signal,  just 7 points above its 38 sell trigger.  The dramatic drop in the model reflected a panicky week in the market, a violent 4% two-day swoon but just a 2% overall weekly decline at the 1592 close for the S&P 500.  The early part of the week looked good, but then a mini-panic erupted over Chinese economic worries and the prospect that the Federal Reserve will begin its “tapering” program sooner than expected.  The Fed mapped out a strategy for unwinding (tapering) the unprecedented $85 billion-a-month bond-buying program meant to spur the economy (for sure it floated the stock market with a flood of new money).  Can it engineer a “soft landing” during the Great Unwinding, and put a lid on interest rates while preserving flexibility and managing market expectations?  Apparently the market thought not this past week, as its judgment of the economy’s health and the consequences of tapering differed from that of the Fed.  And beyond that what will happen when the Fed starts selling its unparalleled, gargantuan portfolio?  Or… maybe this is all speculation and the market needed a healthy pause before continuing its bull run?  After all, profits look good, housing is coming back, and interest rates still remain ridiculously low for now.  But then economic growth is anemic, unemployment is high, and uncertainty grows over the economic impact of upcoming regulations and implementations of the health care law.  But then there’s …? 

The pullback low to 1588 from the 1669 May all-time high for the “500” now stands at just under 5%, a familiar neighborhood for such events.  An “official” correction of 10% or more is still a ways off.  For perspective, the current bull is up 135% since the bear-market bottom in 2009.  Over this four-year span there have been just six pullbacks between 5% and 10% and two corrections over 10% (but less than 20%).  At this point the model is highly sensitized, especially to its technical indicators.  A sell signal this coming week would indicate that the model judges an upcoming correction, or worse.  If it hangs on to its nearly three-year buy signal, this could be a good opening for the brave to commit more funds to this market. 

June 16

BUY       Model: 79.5       Cash: 0.0%       Buy & Hold: 15.2%       Standard Timing: 15.2%       Aggressive Timing: 21.6%       S&P: 1627

Volatility continues as market and model settle lower.  This week’s mid-week pullback to 1612 on the “500” marked a 3.4% decline from the May all-time high, opening another opportunity for underinvested portfolios to increase stock holdings, consistent with risk “comfort.”  At the week’s close of 1627 the index sits 2.5% under its high.  

The model trimmed 16 points over three weeks, although it remains comfortably above its sell trigger.  Still, it’s dropped into the top end of its sensitivity range (21 to 82), meaning it can change rapidly within this range.  Its monetary indicators have shifted from positive to neutral, while its sentiment indicators show heightened fear in the market, a contrarian positive for the model.   Fundamental indicators regarding valuations such as price to earnings remain positive.  The model’s technical indicators are another story, the interesting center of current action, as they show shifting and subtle dynamics.  One of the model’s important technical indicators, its version of the so-called death cross, just turned negative as a faster trend metric crossed a slower one to the downside.  At the same time, a contrarian technical indicator that considers the number of new 52-week lows on the New York Stock Exchange turned from negative to positive (lows jumped a lot this past week, a catharsis of sorts).  If the new-lows indicator had stayed negative, we would be 20 points lower from here, at about 60, a spot very, very sensitive to changes from that point.  So, we have a “fluid” situation in the making.  The model and market bear heightened scrutiny over the coming weeks.

June 9

BUY       Model: 86.1       Cash: 0.0%       Buy & Hold: 16.3%       Standard Timing: 16.3%       Aggressive Timing: 23.5%       S&P: 1643

Volatility is back in wild week.  The S&P 500 marked a record 1669 on May 21 and pulled back to 1609 at the June 5 close this past week, a drop of 3.6% from its all-time high.  At the week’s close of 1643 it’s now just 1.5% under the recent high.  A pullback had been widely expected and we got a shallow one within a very narrow window, for now.  Technically, we remain within a pullback which may not be over.  Otherwise, more will come.  Underinvested portfolios should consider committing more funds to the market during these pullbacks… or now for that matter, as this strong bull has resisted deep pullbacks since the near 10% correction about one year ago, bouncing within a tight, rising channel, clearly seen in the Bollinger Bands for our benchmark index.  The model remains on a strong buy, despite some deterioration in its technical and monetary indicators.

June 2

BUY       Model: 89.9       Cash: 0.0%       Buy & Hold: 15.4%       Standard Timing: 15.4%       Aggressive Timing: 22.1%       S&P: 1631

No commentary… traveling.

May 26

BUY       Model: 95.6       Cash: 0.0%       Buy & Hold: 16.7%       Standard Timing: 16.7%       Aggressive Timing: 24.2%       S&P: 1650

No commentary… traveling.

May 19

BUY       Model: 96.7       Cash: 0.0%       Buy & Hold: 17.9%       Standard Timing: 17.9%       Aggressive Timing: 26.2%       S&P: 1667

Another week and more records for the Dow and S&P, now respectively at 15354 and 1667.  Small pullbacks are met shortly thereafter with more buying, the hallmark of a strong bull market having far too many disbelieving investors who now want to either catch the “train” or buy more “tickets.”  Still, sentiment indicators in the model are only mildly positive, far from the excesses that characterize a frothy and toppy market.  From that contrarian standpoint alone we have further to go in this bull market.  Yet, the model’s overbought indicators are blinking amber for now, although overbought conditions can persist for some time, until the next pullback. 

This market keeps on scaling a very high “wall of worry.”  The model remains unworried, until maybe too many of the remaining skeptics join the climb.  If a buying panic ensues then expect a subsequent and meaningful pullback (5 to 10%), correction (10% or more), or even cyclical bear market (20% or more).  Or the onset of a decline might be a reaction to unexpected and seriously negative geopolitical or economic events, derailing the slow economic recovery, possibly raising the specter of recession, significantly lowering corporate profits, and causing still higher unemployment.  Meanwhile, those of us who are comfortably committed to this market should enjoy the climb or ride, as I mix my metaphors.

NOTE

I will be traveling over the next couple of weeks. 

Updates will be by smartphone and in a simpler format without commentary. 

Will resume regular postings on June 9.

May 12

BUY       Model: 96.9       Cash: 0.0%       Buy & Hold: 15.5%       Standard Timing: 15.5%       Aggressive Timing: 22.4%       S&P: 1634

We have a seemingly unstoppable market as both the Dow Industrials and the S&P 500 set new all-time records, again, the latter ending the week at nearly 1634, its present all-time high.  The Dow scaled the 15k millennial for the first time this past week, the “500” the century 1600 the previous week.  From a technical standpoint (the model’s technical indicators and other such indicators) breaking through these milestones is meaningless; from a psychological (behavioral) perspective, it gets investors’ attention and is reflected in the model’s sentiment indicators.  Should sentiment get overly enthusiastic and even extreme, it’s a negative for the model, based on this contrarian perspective.  (Overly negative sentiment is a positive response within the model.)  For now, we’re not near the excessively positive, so likely the event will bring more investors into the market over the near (weeks) to intermediate (months) term. 

In the very short term (days to weeks) the market is looking a bit overbought and vulnerable to a standard pullback in the 3 to 7% range.  An indicator within the model that measures standardized deviation from a moving trend (an exponentially smoothed standard score or deviate for you quants out there) shows that levels above its current high value are uncommon, occurring only about 5% of the time.  Bollinger Bands are another way to look at this.  Note how the ETF proxy for the “500” (SPY) in the chart tends to (but not always) bounce off the top (overbought) line.  The lower (oversold) line suggests buying opportunities.  With the model solidly positive, most pullbacks within a bull market represent windows of opportunities for increasing equities, for underinvested portfolios that are comfortable with added risk. 

May 5

BUY       Model: 96.6       Cash: 0.0%       Buy & Hold: 14.1%       Standard Timing: 14.1%       Aggressive Timing: 20.3%       S&P: 1614

The “500” powers through a new century mark, extending its historic high to 1614.  This cyclical bull market is now 139% above the bear market low in 2009.  It appears unstoppable, despite all the worries.  Good news is good; bad news is good; better than expected news is good.  These are the attitudes of a bull market that’s in forward gear.  Its surge on Friday was fueled by a jobs report that came in better than expected.  Yes, better than expected, but weak by historical standards when four years after the end of a recession, even with the welcome upward revisions in prior months.  Barely enough new jobs to keep up with population growth.  Half the number of new jobs seen in a robust economy.  And far too many part-time jobs, as average hours worked declined.  And smaller average wages, as lower paying jobs dominated.  The negatives get trumped by good corporate profits, low inflation (not by past methods of measurement), improved housing, stock market gains (self-reinforcing, until not), friendly world central banks that provide the monetary juice, and denial hope.  The primary negative is high unemployment and its economic, social, and political consequences. But how long can this bull charge forward if the negatives don’t get resolved before long?  Is the market currently in an unstable equilibrium, waiting for that moment, that event, that will trigger its collapse, a new bear market?  I don’t have the answers.  I’ll act accordingly based on the model’s judgment. 

In last week’s post I noted that empirical research suggests that political violence is associated with poor economic freedom.  Can compromised economic freedom eventually lead to economic instability, with its attendant job losses, and then to political instability and even violence, and in turn further affect the instability of financial markets, in a chain-reacting feedback loop with negative reinforcement?  May Day demonstrations within the current jobs environment is a reminder of that possibility.  A couple of headlines this past week:

17 arrested as Seattle May Day protests turn violent

May Day In Europe: Thousands Protest Against Austerity

Not the first time we’ve seen this, to be sure.  I’ll leave you with this (the entire article is a worthwhile read), from the thoughtful global intelligence folks at Stratfor.

The crisis of unemployment is a political crisis, and that political crisis will undermine all of the institutions Europe has worked so hard to craft. For 17 years Europe thrived, but that was during one of the most prosperous times in history. It has now encountered one of the nightmares of all countries and an old and deep European nightmare: unemployment on a massive scale. The test of Europe is not sovereign debt. It is whether it can avoid old and bad habits rooted in unemployment.

Europe, Unemployment and Instability, Stratfor Global Intelligence, March 5, 2013

April 28

BUY       Model: 95.6       Cash: 0.0%       Buy & Hold: 11.7%       Standard Timing: 11.7%       Aggressive Timing: 16.7%       S&P: 1582

Market bounces back, with the “500” marking 1582.  Volatility will not be going away; underinvested portfolios might use pullbacks as opportunities to add stock exposure.

I’ve stated my concerns in earlier postings regarding the long-term trend for the stock market, which is surely affected by the state of economic freedom, which is…

an economic system based on private property and free markets.  Governments can promote economic freedom by providing a legal structure and a law-enforcement system that protect the property rights of owners and enforce contracts in an evenhanded manner. However, economic freedom also requires governments to refrain from taking people’s property and from interfering with personal choice, voluntary exchange, and the freedom to enter and compete in labor and product markets. When governments substitute taxes, government expenditures, and regulations for personal choice, voluntary exchange, and market coordination, they reduce economic freedom. Restrictions that limit entry into occupations and business activities also reduce economic freedom.

In the same article others propose that…

…free markets lead to monopolies, chronic economic crises, income inequality, and increasing degradation of the poor, and that centralized political control of people’s economic lives avoids these problems of the marketplace. They deem economic life simply too important to be left up to the decentralized decisions of individuals.

Yet indices of economic freedom suggest that…

Empirical studies based on these rankings have found higher living standards, economic growth, income equality, less corruption and less political violence to be correlated with higher scores on the country rankings.

In a recent report

The United States, long considered the standard bearer for economic freedom among large industrial nations, has experienced a substantial decline in economic freedom during the past decade. From 1980 to 2000, the United States was generally rated the third freest economy in the world, ranking behind only Hong Kong and Singapore... The chain-linked ranking of the United States has fallen precipitously from second in 2000 to eighth in 2005 and 19th in 2010… In this year’s index, Hong Kong retains the highest rating for economic freedom, 8.90 out of 10. The other top 10 nations are: Singapore, 8.69; New Zealand, 8.36; Switzerland, 8.24; Australia, 7.97; Canada, 7.97; Bahrain, 7.94; Mauritius, 7.90; Finland, 7.88; and Chile, 7.84.

Balance is surely needed, given the negative excesses of “free” markets, but are we tilting too far toward policies that overly restrict economic freedom and promote long-term slow growth and high unemployment (a la Eurozone), thereby bending the USA market’s secular trend downward?  And note the reference to “political violence” in the empirical studies quote.  In a future posting I’ll follow that up with its relationship to financial instability and subsequent investment consequences. 

April 21

BUY       Model: 94.4       Cash: 0.0%       Buy & Hold: 9.8%       Standard Timing: 9.8%       Aggressive Timing: 13.8%       S&P: 1555

Volatility is back, as the stock market has the worst weekly decline of the year, even after Friday’s rally.  The “500” settles at 1555, after a closing low of 1542 the previous day, 3.2% below the closing 1593 historic high the week before.  This placed the pullback within the 3 to 7% frequent slides during bull markets.  The pullback was due (see March 17 posting) and may very well continue.  Underinvested portfolios should use these pullbacks to add to stock holdings, while the model is this positive… and consistent with a willingness to take on more risk. 

By the way, EPV was up 5.6% this past week (see last week’s posting).  Traders should keep an eye on this one, especially when the model gives the next sell signal.  If the model believes we’re entering a primary downtrend and possible bear market, Europe will follow, given its problematic politics, economic state, and outlook.

April 14

BUY       Model: 96.9       Cash: 0.0%       Buy & Hold: 12.1%       Standard Timing: 12.1%       Aggressive Timing: 17.5%       S&P: 1589

Market vaults up the “wall of worry,” thrashing the previous S&P 500 all-time high and marking a new milestone at 1593, before easing back on Friday to 1589.  And there is plenty of worry: the jobs market, the economy, China, Europe, North Korea, upcoming weak seasonal period, … but, BUT… we have the mighty Fed on our side, not to mention the Bank of Japan and other central banks vigorously manning the monetary pumps.  New money finds its way into the stock market and other assets such as real estate and art, the rest sitting in bank vaults as reserves (not much is being lent out).  Well, we can worry another day about the consequences of extraordinary monetary policy and historically low and distorted interest rates.  For now, the stock market and model like it, so let’s stay at the party. 

The scalping of bank accounts in Cyprus by that country’s central bank and the European Central Bank (ECB), a violation of heretofore sacrosanct secured savings, was back-burned this past week, but consider the following:

The Cyprus debacle has taught us yet again that EMU [Economic and Monetary Union] has gone off the rails, is a danger to stability, and should be dismantled before it destroys Europe’s post-War order.

The denouement will arrive when the democracies of southern Europe conclude that recovery is a false promise and that the only way to end mass unemployment is to break free of EMU’s contractionary regime.

It will be decided by Italy, not Cyprus.

Ambrose Evans-Pritchard, The Telegraph, 27 March 2013

... we’re not seeing a major risk to the U.S. financial system or the U.S. economy [from the events in Cyprus].

Chairman Bernanke’s Press Conference, March 20, 2013

At this juncture . . . the impact on the broader economy and financial markets of the problems in the subprime markets seems likely to be contained.

Chairman Bernanke, March, 2007

Spectacularly wrong in 2007, dramatically confirmed six months later with the Lehman collapse and subsequent financial crisis.  In 2013 or beyond will we have contagion, if the Eurozone “solves” sovereign  problems by risking bank runs in other troubled member countries?  It starts small, as do all pandemics.  A slow motion crash?  Consider the sequence of troubled Eurozone countries:

Ireland > Greece >Portugal>Spain>Italy>Cyprus>Slovenia?>Luxembourg?... > France?... >Germany?          (USA?)

And check out this fantastic Eurozone crisis interactive timeline from theGuardian.

Is Cyprus the beginning of the end for the Euro?  It will have consequences everywhere.  We’ll worry about that another time.  Meanwhile, let’s enjoy the currently festive stock market.

The adventurous might consider a small position in EPV, a bet that European markets unravel.  It’s risky.  Timing is everything.  I’ll wait on this one until the model gives the next sell signal.

April 7

BUY       Model: 95.2       Cash: 0.0%       Buy & Hold: 9.6%       Standard Timing: 9.6%       Aggressive Timing: 13.6%       S&P: 1553

S&P ekes out a new record of 1570, before easing back 1% and closing the week at 1553.  Volatility is modestly up and the financial buzz du jour is “Will we have another Spring Swoon?”  Consider the past three years based on daily closings for the S&P 500.

  • 2010: April 23-July 2.  Index corrects 16%.  The live model at the time issued a late sell signal at the bottom, correcting itself three weeks later by switching back to a buy.  The model now in use issued a back-tested sell signal May 9 and a buy signal July 25.  The S&P gained 15% that year, the live model based on standard timing was up  nearly 6% and the current model gained a tested 15%.
  • 2011: April 29-October 3.  Index nearly enters cyclical bear market with 19% loss.  The live model stuck it out (ouch!), gaining the same 2% for the year as the index.  The current model lost almost 2% for the year, based on a two-week sell-buy switchback in August.  This year needs more work in future models.
  • 2012: April 2-June 4. Index almost corrects just under 10%.  Both the live model at the time and the current model ignored the near-correction, staying on a buy signal.  Everyone gains 16% for the year.

From these results we can take away that the model has issues with fast corrections and those near the model’s sell design boundaries of a 8% or more loss over 8 weeks or more.  The results in 2012 and earlier years suggest that when the market is correcting fast with a 10% or more loss and the model stays on a buy signal it’s best to grit it out.  In 2011 I would like to have seen a sell somewhere near the end of April and a buy around the beginning of October.  So far, the revised model has not found an answer for this tough year, which at the time included the debt ceiling drama and the unraveling of Europe. 

Have you heard of the seasonal strategy “Sell in May and go away,” also known as the Halloween Indicator?  Google it.  This strategy sells at the beginning of May and buys at the beginning of November.  Over the period 1970-2012 this seasonal strategy collects a 10.4% annualized return, including reinvested dividends and money market (T-Bill) returns during the “off” season, compared to 9.9% for simply buying and holding.  Half a percent per year might not seem like much, but over the course of 42 years we’re talking a 22% greater portfolio, thanks to the magic of compounding.  Moreover, volatility (risk) is lower with the seasonal strategy, compared to buying and holding, because the portfolio is out of the stock market half the year.  Over this same period the standard timing strategy gains 17% per year and the aggressive version 23%.  Starting with $10,000, portfolios under each strategy end with $574k for buy and hold, $702k using the Halloween Indicator, $7.6 million for the standard timing strategy, and $80 million using the aggressive variation.  Back testing showed that incorporating any one of various seasonality indicators into the model degraded the model’s overall performance.  Bottom line?  Let’s follow the model. 

As usual during a buy signal, underinvested portfolios should add stocks during significant pullbacks, consistent with appetite for risk.

Updates

See the FAQ for a new graph on secular and cyclical markets and a simplified table for implementing the standard and aggressive timing strategies.

March 31

BUY       Model: 96.4       Cash: 0.0%       Buy & Hold: 10.6%       Standard Timing: 10.6%       Aggressive Timing: 15.3%       S&P: 1569

Five years, five months, and 20 days.  That’s how long it took the S&P 500 to scale and barely exceed its previous record high in 2007.  Two wicked bear markets followed that high into the March low in 2009, sandwiching a short 24% bull market, dropping the index a devastating (for buy and holders) 57% from that 2007 high.  Five years, five months, and 20 days.  That’s how long it took patient buy and holders (if they in fact exist) to get back even.  Five years, five months, and 20 days. 

Now, at 1569, the new all-time closing high extends the current cyclical bull market to 4 years and 20 days.  Gains: 132% for the index; 143% with reinvested dividends.

What now? Can we expect a continuation of this bull run?  No one knows, but here are some thoughts.  The average length of an S&P 500 cyclical bull market is 44 months, ranging from 2 months to 147 months.  The current bull is about 49 months, slightly above the average, but well below the maximum.  Still, only 4 of the past 15 bull markets have exceeded 49 months, so the current bull is in minority company should it continue.  Its gain as of now is 132%, short of the 144% average and well below the super bull max 582% that ended in the year 2000 debacle.  One-third of past bull markets since 1929 have exceeded the current gain.  Again, the current bull does not have a favorable probability.  But then… the Fed remains friendly (“Don’t fight the Fed”) and many disbelievers linger on the sideline, with plenty of cash to fuel the next leg up. 

Is it late in the game? Most likely. But we have yet to see capitulation by the bears (panic buying that signals we’re near the end), although this event is not a necessary condition for the eventual end of a bull market. What we have yet to see is a major and sustained reallocation of funds from bonds and money markets to stocks. Until this happens and before the fuel that stokes the bull runs out (cash stores get depleted) we likely have more to go with this bull. But… given my sense of the long-term trend (see previous posting), I’m not expecting anything near the maximum lengths and returns mentioned. Not more than another year I don’t think, which would put it in the vicinity of the bulls that ended in 1987 and 2007.

Having said all that, long-time readers know that the model has a more narrow view of these considerations.  It judges that the primary trend remains positive and that we should stay invested.  When the market does enter a new cyclical bear, the primary trend will turn negative and the model hopefully likely will confirm the turn by issuing a sell signal.  Meanwhile, pullbacks will come, offering renewed opportunities for underinvested portfolios to deploy more cash to stocks.

March 24

BUY       Model: 96.0       Cash: 0.0%       Buy & Hold: 9.7%       Standard Timing: 9.7%       Aggressive Timing: 14.0%       S&P: 1557

A mild market downturn for the week is accompanied by a modest increase in volatility, as the “500” settled at 1557, now 8 points below its all-time record.  The House approved a stop-gap measure to avoid a government shutdown this coming Wednesday.  That together with a calmer Cypriot banking drama and reassuring words from Chairman Bernanke sparked an end-of-week rally on Wall Street, thereby avoiding steeper losses for the week.  Still, the longer term outlook for the market’s secular trend does not look comforting to me.  See my February 17 posting below and the always entertaining take by Grant Williams’ Hmmm… newsletter on March 18 regarding the shaky outlook for unemployment, Europe by country, and Cypriot implications.

March 17

BUY       Model: 96.8       Cash: 0.0%       Buy & Hold: 9.9%       Standard Timing: 9.9%       Aggressive Timing: 14.4%       S&P: 1561

Industrials extend record run; S&P comes within 2 points of its all-time high, before easing back to 1561, just 4 points under its peak six years ago.  The model remains very bullish, although one of its sentiment indicators shows a bit too much enthusiasm in what is nearing an overbought market based on one of my technical indicators (similar to Bollinger Bands).  Its value is close to an upper band, outside of which only 5% of historical values exceeded this limit.  The S&P 500 index often pulls back in the neighborhood of this upper band, although not for long within a continuing primary uptrend.  Moreover, the VIX, a measure that reflects market fear and another of the model’s components, is very low, with only 2.5% of historical values below its current value of 11.3.  This metric will rise during a pullback, and it looks like it’s more probable that values will go higher than lower from here.  To summarize, the primary uptrend is intact at this point, but I’m expecting a pullback over the next several weeks.  Underinvested portfolios should use the frequent 3-7% pullbacks to add to holdings, consistent with appetite for risk, and while the model remains on its buy signal. 

Politics in Washington may hold center stage over the coming couple of weeks, as the March 27 deadline nears for the “continuing resolution,” the stopgap spending authorization that keeps the government running.  And can we get a modified and smarter sequester agreement as cuts roll out?  And then we can look forward to a revisit of the debt limit drama by May.  These budget and economic uncertainties, should they continue, could make for a choppy market this Spring.  Regardless, the market does appear to be in “Spring forward” mode.  And it will likely go higher still if some sort of reasonable political “bargain” is reached.

March 10

BUY       Model: 97.4       Cash: 0.0%       Buy & Hold: 9.2%       Standard Timing: 9.2%       Aggressive Timing: 13.4%       S&P: 1551

Market rally vaults the Dow Jones Industrials to an all-time high.  At 14,397 it’s perched 120% above its March, 2009 low, a four year odyssey that far too many disbelieved.  Our benchmark index, the S&P 500, is not far behind.  At 1551 it’s just 14 points below its 2007 historic high and 129% above its 2009 bear-market low.  It’s a far different story for the Nasdaq Composite.  It remains 36% under its all-time high in 2000, 13 years and counting, a consequence of the dot.com bubble explosion.  And yet, it’s up 191% from that devastating low.  The model’s focus is the S&P, but its performance is also highly correlated with the other two major indexes.  To track and invest in these indexes I use the ETFs DIA for the Dow, SPY for the “500” and QQQ for the Nasdaq 100.  During a buy signal I’m always invested in the latter two.  The ETF that tracks the Nasdaq Composite itself is ONEQ, but it’s lightly traded compared to the more popular QQQ, which represents the top 100 companies in the Nasdaq. 

Dow Theorists licked their chops over the simultaneous highs in the Dow Industrials and Dow Transports this past week.  My January 20 posting mentioned that a new indicator in the current model now includes my version of the Dow Theory.  My work shows that a bullish reading of this theory is positively correlated with the performance of the S&P 500, the model’s focus index.  And more importantly, it’s highly correlated with the primary trends (at least a 8% change in the index over a minimum of eight weeks based on Friday closings) used by the model.   These relationships, however, are in isolation, one on one.  When the model’s other components are thrown into the mix, the association swings from positive to negative.  In other words, near inflection points (the primary trend changes from up to down or vice versa), the model’s Dow Theory component acts as a very effective oversold/overbought contrary indicator.  To illustrate this point in the current model’s tested performance, let’s look at the last time the Industrials and Transports confirmed each other’s highs: July, 2007, a cautionary event, a yellow flag waved to the model from its Dow indicator.  What happened thereafter?  The rally continued for 3 months... then a demoralizing loss of 56% into the double bear market bottom in March, 2009.  The tested performance of the current model showed a 5% decline during this 2007-2009 time period, about one-eleventh the loss compared to those who held on to their S&P portfolio. 

Once more this shows the capital preservation benefit of a good timing system.  Moreover, devastating losses of this magnitude scare many investors for years to come, thereby missing out on the bull-market rally that always follows a bear market.  Investors who use an effective timing system (mostly) overcome their fears by entering the market at the next buy signal, a twin advantage of a good timing system:  Avoid a good portion of a major decline and gain the lion’s share of a significant advance.  The timing doesn’t have to be perfect to be effective, to be of value.  You’ve been in the market during the model’s current buy signal, no?  Since the buy signal in July, 2010 the Dow index is up 37%, the S&P 39%, and the Nasdaq 41%.  Add another 6 percentage points or so to the S&P with reinvested dividends, somewhat more for the Dow, less for the Nasdaq.

March 3

BUY       Model: 96.5       Cash: 0.0%       Buy & Hold: 6.9%       Standard Timing: 6.9%       Aggressive Timing: 9.8%       S&P: 1518

Sequestration is a done deal (for now) and the market and model yawn, as the “500” eases forward to 1518 and the model loses a point.  Does the new “crisis” affect the market and model?  Not in the near term (weeks), possibly in the intermediate to longer term (months to years).  Washington policies and legislation regarding the national budget (expenses and revenues), debt and deficit trajectories do influence the economy (GDP), which in turn impacts earnings, and subsequently the stock market.  The stock market itself is a mechanism for clearing demand (buyers) and supply (sellers), whose decisions are influenced by actual, perceived, and expected market technicals (such as trends, momentum, lows v highs, advances v declines, …), fundamentals (price to earnings, dividends to price, dividends v treasury yields, …), monetary policies (Fed rates, liquidity, money supply, bond rates, …), and sentiment (metrics that measure fear and greed).  And so the model reacts as well, since its components reflect these influences through mathematical/statistical calculations.  More broadly, the four components (technical, fundamental, monetary, sentiment) are correlated to cyclical and secular markets, the former months to years and the latter years to decades.  The model itself is designed to detect the primary trends that operate within these cyclical markets, with a time frame of weeks to months and sometimes years. 

Unless Washington (Europe as well) gets serious about pro-growth policies and a fix to its balance sheet over time, current debt, deficit, and GDP projections are consistent with a flat to down secular trend over coming years.  We do prefer an uptrending secular for easier gains; still, we can exploit the waves that cycle about any long-term trend, whether up, flat, or down: jump on for most of the cyclical ride up (the cyclical bull market), hop off for most of the cyclical ride down (the cyclical bear market).  Listen to the model as it imperfectly, yet effectively, calls the stops, when to get on and off the ride.

February 24

BUY       Model: 97.6       Cash: 0.0%       Buy & Hold: 6.6%       Standard Timing: 6.6%       Aggressive Timing: 9.5%       S&P: 1516

The S&P 500 marks another cyclical high of 1531 on Monday, pulls back 2% to 1502 by Thursday on news that the Fed is considering turning down the (money flow) spigot, and partly recovers on Friday, easing back to 1516 for the week.  There will be some negative stock market reactions when the Fed does start a program that slowly (hopefully) drains the money sloshing around, thereby raising interest rates. Over time, however, market-based interest rates not distorted by the Fed will be healthy for the economy and not a negative for either the stock market or the model, although likely promoting a long-term secular bear market in bond prices (see last week’s next to last paragraph).  And keep in mind that pullbacks present investment opportunities for underinvested portfolios willing to take on more volatility, as long as the model remains on its buy signal.

The market and model are little changed as we head into the sequester this coming Friday, March 1.  This Washington-speak term refers to the automatic across-the-board (indiscriminate) cuts to some 1200 Federal agencies and the Defense Department, equally shared, spaced over the next seven months… a result of the deficit-reduction deal struck back in 2011 should alternative and targeted budget cuts fail to reach a legislative consensus by this time.  Surely smarter budget cuts could be agreed upon and implemented, except the President now wants additional taxes on wealthy earners over those already implemented… and so we have another political impasse.  Can’t we agree to start work on meaningful long-term deficit reduction coupled with a much needed overhaul of the tax code, rather than brinksmanship and political posturing?  Where’s the leadership to facilitate the process?  Are we off and running to the 2014 election?

Overall, the cuts represent a modest less than 3% of the federal budget, but because some large federal programs are exempt (Social Security, Medicare, Medicaid, military pay), many departments will have substantially higher cuts, some north of 10%.  Moreover, civilian jobs will be affected from reduced business to subcontractors, especially the military.  Still, the market is hardly reacting to the uncertain economic consequences from this imminent event.  Why?  Maybe it (a) sees the deficit reduction as a good thing, (b) anticipates that compromises will be reached before the full effect is felt, or (c) likes both together.  The next “deadline” is March 27, as funding ends for many federal programs.  The drama continues…

February 17

BUY       Model: 97.8       Cash: 0.0%       Buy & Hold: 6.9%       Standard Timing: 6.9%       Aggressive Timing: 10.0%       S&P: 1520

Another week, another new cyclical high, now at 1521 for the “500.”  It was a quiet week.  Calm before a breakout toward the all-time record?  Or an upcoming pullback or even 10% or more correction?  The model judges neither future event, although its state can suggest one or the other.  Its current high score simply tells us that as of last Friday the primary uptrend (8% or more increase over at least eight weeks) dating back to September 2011 remains in place.

This cyclical bull has had its doubters… many, many doubters, since its inception in 2009, 125% ago.  My take is that many bearish analysts, money managers, and commentators are looking at the secular rather than cyclical event, thereby missing the substantial cyclical surge over the past four years.  I do lean toward the secular bear camp, for now, believing the long-term flat trend since 2000 will continue for at least another few years, based on the extensive headwinds and crosswinds generated by our fiscal Federal and state debts, unfunded pensions, persistent sluggish growth, relentless high unemployment with a greater structural component than previously (as education and skills lag job requirements), a very damaged although slowly recovering housing sector, a tax code in need of serious revisions,  private-sector health-care and regulatory expenses and uncertainties, market distortions caused by Fed easing actions, and Washington policies that support or at least fail to legislatively address these shortcomings.  And let’s not even get into Europe, a financial act of smoke and mirrors.  The optimist in me tells me that these issues will have enough of a resolution (in time) to put us back to 3-4% GDP growth vs the current 1-2%, as long as we don’t get too “Europeanized” regarding the balance (or imbalance) between private and public sectors.  Strong growth in a (relatively) free market system under the rule of law solves a lot of problems (and hides them as well).  And yet… there are those who believe that the secular downtrend ended at the 2009 bottom and we’re now in the fourth year of a new secular bull market that could run some twenty years.  That’s possible, of course.  See for example the analysis at dshort.com.

That’s my longer term somewhat pessimistic view over the next several years.  And as stated in the FAQ: “While we prefer secular uptrends for better and more reliable market performance, returns are also available during secular flat to down trends, as the index cycles above and below the secular trend.  The model has done a reasonable job of riding a good portion of the upward waves (cyclical bulls) and not sticking long with the downward waves (cyclical bears).   For now, who can doubt that we have been in a cyclical bull that should not have been ignored since 2009?  The model mostly got it right. 

But, why a cyclical bull given the subpar state of the economy?  Yes, profits have been good, as the private sector has squeezed out waste and restructured operations with a leaner workforce.  Still, in one word, the primary answer is: the Fed.  Its unprecedented easing actions have flooded the market with historically low interest rates and liquidity, distorting the natural tendencies of the bond market to raise rates, participants to judge risk, and tilting the playing field to stocks over bonds (the “risk-on” trade) to boost returns.  Even so, oh so many investors and money managers were in “risk-off” mode, putting their assets into money funds (under electronic mattresses) and “safe” bond investments, which by the way have done very well from a total return standpoint (bond prices rise when interest rates decline).  As an aside, Fed policies are responsible for two other consequences: long-term savers (such as many retirees) have been crushed as fixed incomes all but disappeared; and the government pays back its debt at much lower interest rates.  Hmmm… But wait what happens to the Federal deficit when rates eventually rise, and they will, unless new legislation and growth compensate.

Does the current cyclical bull have more stamina?  Probably, given that a Great Rotation might be in the works, from bonds to stocks based on current money flows, thereby increasing the likelihood that the present cyclical bull has more life, especially if the Fed keeps goosing it along.  It will end, of course, maybe when the Fed starts unwinding its positions and/or the bond market loses confidence and decides to speedily raise interest rates.  When the time does come, I’ll rely on the model to tell me that the primary trend has reversed.  

February 10

BUY       Model: 95.2       Cash: 0.0%       Buy & Hold: 6.7%       Standard Timing: 6.7%       Aggressive Timing: 9.8%       S&P: 1518

Five weeks, five new bull market highs for the S&P 500.  At 1518 the index is just 47 points below its all time record of 1565 in 2007.  The US markets struggled early in the week as European worries crept back in.  Still, we continued scaling up the proverbial wall of worry.  Volatility has been low and the market is somewhat overbought, so a pullback on the order of 3-7% over the next several weeks would not be surprising.  With the model this positive, underinvested portfolios should consider committing more funds during these normal events.

February 3

BUY       Model: 97.3       Cash: 0.0%       Buy & Hold: 6.3%       Standard Timing: 6.3%       Aggressive Timing: 9.2%       S&P: 1513

The S&P 500 marks another cyclical high, four weeks running.  At 1513 it’s now just 3% below the all-time high of 1565 in 2007.  Will the index move on to new secular highs, suggesting a secular bear market bottom in 2009 and the start of a new secular bull, now in its 4th year?  Or are we looking at a triple top (2000, 2007, 2013) within a continuing flat secular trend, now entering its 14th year?  Time will tell…

The web site is now completely updated for the 2013 timing model.  Stats and commentary are current, with a bit more elaboration on the annual process for changing the model, diversification, and how I use the model.  In the FAQ the description of secular markets is revised and what motivated me to develop the model is described.  See links in the menu left, above, or below.

January 27

BUY       Model: 97.3       Cash: 0.0%       Buy & Hold: 5.6%       Standard Timing: 5.6%       Aggressive Timing: 8.1%       S&P: 1503

Three weeks, three new cyclical highs for the S&P 500.  At 1503 the index is now just 4% below its all-time (secular) high of 1565 in 2007.  The Dow Industrials is just 2% below its all-time high in the same year.  The Nasdaq Composite is a very different story.  It still remains way below its historic peak in 2000, 38% below to be exact, a consequence of the burst dot.com bubble.  Thirteen years and counting.   The “500” and Dow are probably looking at no more than a not-so-short six years, as it appears to me that they are bent on scaling new all-time highs over the coming weeks or months. 

The model is oblivious to such sentiment, its primary focus the answer to “Do we remain in a primary uptrend?” The answer is yes, from the score above, with a 97% theoretical likelihood. Theoretical because theory (the mathematical model) is far from an exact representation of reality (the S&P 500’s behavior), as maps are not precise  representations of territories.   The model just has to be good enough to usefully act on the reality.  Since the buy signal two and one-half years ago, the Dow, S&P, and Nasdaq show respective gains of 32, 35 and 37%, without reinvested dividends.  Throw in reinvested dividends and add about another 7 percentage points, to 42%, for our benchmark S&P 500.

The Downloads page is ready with the updated Excel workbook of tested and live data and pdf files and graphs of same.

The revised web pages for the Timing Model, Reality Check, and FAQ should be ready in early February.

January 20

BUY       Model: 97.0       Cash: 0.0%       Buy & Hold: 4.3%       Standard Timing: 4.3%       Aggressive Timing: 6.3%       S&P: 1471

Another week, another extension of the cyclical bull.  This is the bull market that was born in March 2009, at the depressingly low weight of 677, now robust at 1486, a weight gain of 120% over nearly four years… the bull market few believed in and far too many hated to join… the bull market that left many behind.  And now?  Lately, money has been pouring into stocks… partly out of long Treasuries.  Back to the risk-on trade?  Time will tell and events will determine.  As for the model?  It was on board live at that 2009 March low, having issued a buy signal the preceding October.  And except for a mistaken three-week sell signal in July, 2010, it’s been in for the uphill ride the entire time. 

Speaking of the model, its 2013 version is now up and running.  As many of you know, I revise the model each year about this time, as data for the preceding year are incorporated into the model’s genetics.  During this process, new and revised hypothesized predictors (components that make up the model) are researched and vetted, as I seek improvements in the model’s performance.  Think of this as developing a product with a number of ingredients, the particular mix and strength of these ingredients affecting the efficacy of the product, say, a drug or a food.  Each new ingredient in combination with existing ingredients is laboriously tested, as in a chemical or biological lab.  Is the new ingredient (predictor) effective as it interacts with others in the mix?  Can I change the nature of that particular ingredient to create a better product?  Over the years I’ve tested hundreds of predictors.  Effectiveness in this case is the ending value of a portfolio that begins in 1970 and ends the year just completed.  After too many trials to count, I select the mix of predictors and sell/buy boundaries that optimize (maximize) the portfolio, providing the resulting model is reasonably stable with respect to the number of switch signals and robust regarding small changes in its parameters (numeric constants used in the model).  Moreover, for all you researchers out there, each predictor must be statistically significant. 

The model selected for 2013 is much  like its 2012 predecessor, but with improved historical performance and a slight increase in its willingness to issue a switch signal.  One predictor was dropped and two new ones were added.  And an existing predictor was revised (its own particular characteristic was changed).  For you quants out there, its exponentially smoothed moving average was changed from 26 to 39 weeks.  One of the new predictors is my version of Dow Theory; the other is my adaption of the Recession Probabilities published by the St Louis Fed. The model now includes 16 predictors based on 26 weekly data points.  Each predictor is a mathematical/statistical manipulation or transformation of one or more data points.  So, for example, if chili powder is one of the ingredients (predictors) in chili (the model), what constitutes chili powder includes its own set of fundamental ingredients (data points). 

The model’s statistical function in life is to estimate the probability that the just completed week is part of a primary uptrend, an increase of at least 8% in the S&P 500 index over a minimum of eight weeks based on Friday closings.  The score at the top of the page says that this probability is currently about 97%.  Note at the bottom of the table above that the model’s new sell/buy boundaries are 38/73.  The model this past week is comfortably above these boundaries, and so remains on a stable buy signal.  The model is most sensitive between 21 and 82; that is, within this range it can rapidly move up or down, sometimes dramatically so.  Should the score drop to 38 or below, the model would issue a sell signal.  Once the model is on a sell signal, it would take a score of 73 or above for a switch to buy. 

Look for revised web pages in early February that reflect last year’s live results and the current model’s historical performance.

January 13

BUY       Model: 96.0       Cash: 0.0%       Buy & Hold: 3.3%       Standard Timing: 3.3%       Aggressive Timing: 4.8%       S&P: 1471

Cyclical bull eases forward to new “500” high of 1472, as investors consider upcoming “cliffs” and the start of earnings reports. 

More economic cliffs over the coming couple of months? How about political wrangling over (a) the upcoming debt ceiling v dollar for dollar spending cuts for amounts by which the ceiling is raised, (b) automatic and drastic across-the-board sequester cuts to federal budgets, (c) tax rates v loop holes v revenue in a much needed overhaul of the tax code, and (d) entitlement reforms regarding Medicare, Medicaid, and Social Security.  The goal?  Reduce long-term deficits to manageable levels while encouraging economic growth; that is, financially operate within our means while enjoying prosperity.  The problem? The devil is in the details in how to manage each of the four potential cliffs.  And we know how the hardening of political philosophical differences gridlock Washington legislation.  Will we see courageous compromises and the leadership to make these happen?  Hang on for more volatility in the stock market.  The current quiet period will not likely last very long.  Still, we somehow and usually manage to do ok.  Let’s see what the model thinks as we negotiate the terrain. 

I’m still working on the revised model for 2013.  It should be operational by the January 20 posting.

January 6

BUY       Model: 95.6       Cash: 0.0%       Buy & Hold: 2.9%       Standard Timing: 2.9%       Aggressive Timing: 4.2%       S&P: 1466

Cliff “resolution” sparks market and model surge, as the S&P 500 tacks 4.6% for the week and the model jumps 33 points into the upper 90s.  And the “500” just ekes out a new cyclical bull market high at 1466, fractionally besting the peak from last September.  This reconfirms and extends the cyclical bull market that began in March, 2009, 117% ago from 677.  Yet, we likely remain in a flat to down secular (long-term) trend, now in its 13th year, with two double tops at a 1565 S&P 500 all-time high in 2007 and a then 1527 high in 2000.  We now sit just 6% below the 2007 high.  Did the secular trend end in 2009, at the start of the current cyclical bull?  We will not know for some time, although the continuation of a flat/down secular trend is likely as the economy (individuals, private and public sectors) unwinds debt from the debt super-cycle of the past 20 years or so.  And many economists are predicting much lower economic growth over the coming decade, as much as half or less, compared to the previous normal.  From the model’s standpoint, it matters little, as its focus is detecting changes of 8% or more over at least two months, at their start.  While we prefer secular uptrends for better and more reliable market performance, returns are also available during secular flat to down trends, as the cyclical index undulates above and below the secular trend.  The model has done a reasonable job of riding a good portion of the upward waves and not sticking long with the downward waves.  See its live performance in Reality Check.

This past year was a good year, with gains of 15.9% for the buy & hold and standard timing strategies and 20.2% for aggressive timing.  Note that the aggressive return is not 50% higher (23.8%) than the standard return, as we might expect given that the aggressive strategy has a 1.5 times invested weekly multiplier… that’s the consequences of no dividends and the effects of volatility, as cautioned in the timing model page.  The Dow came in at 10.2% and the Nasdaq at 17.5%.   Cash in the form of 90-day Treasury Bills was definitely not king, at 0.1% for the year, thanks to the Feds.  Long-term Treasury Bonds disappointed at 3.6%, especially given their 30% return the previous year.  Gold flatlined for the year.

The economic, taxation and fiscal issues and political battles are far from over… and coming up soon over the next couple of months.  Expect continued volatility. 

I’m now working on the revised model for 2013.  It should be operational by the January 20 posting.

 

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NOTE

The TimerTrac link at left is a free report provided by an independent company that tracks the performance of market timers. Note that the report does not account for dividends and their reinvestment, as we do, and as would be the case for reported returns in the media, thus showing lower returns for both buy-and-hold and the standard strategy during buy signals than those seen under the live performance table in our Reality Check page.  The difference over long time horizons can be significant, as reinvested dividends make up about 30% to 50% of total S&P 500 returns, depending on the chosen time period.  Also note that the timing model is a statistical mathematical model that issues buy and sell signals.  The strategies (standard & aggressive) are the trades that are made when these signals are issued. 

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Copyright © 2013 Richard Mojena. All rights reserved. All materials contained on this site are protected by United States copyright law and may not be reproduced, distributed, transmitted, displayed, published or broadcast without the prior written permission of Richard Mojena at mojena.com. You may not alter or remove any graphics, copyright or other notice from copies of the content.  You may download or print one machine readable copy and one print copy per page from this site for your personal, noncommercial use only.

 

Disclaimer

Specific and personalized investment advice is not intended by this communication. Its contents are for the public record as a free public service. Information is based on the analysis of past data and assessments by the models. Future performance may not reflect past performance. Profitable trades are not guaranteed. No system or methodology ensures stock market profits. No guarantee is made regarding the reliability or accuracy of data. In other words, use this stuff at your own risk!

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