For a PDF version of the below commentary please click her weekly-letter-1-17-2017

Commentary quick take:

 

  • Major developments:
    • 4th quarter earnings season has officially kicked off
    • Markets awaiting the incoming administration
    • Brexit looks like it could get messy

 

  • US:
    • No efforts made last week to reach 20,000 level on the Dow
    • Trump is about to take office
    • Earnings season for the 4th quarter of 2016 commenced

 

  • Global:
    • Brexit debate heated up
    • World Bank lowered economic forecasts
    • China economic data was mixed

 

  • Technical market view:
    • Two of the major indexes moving sideways
    • NASDAQ continues to push higher
    • VIX is at the lowest point in the past year

 

  • Hybrid investments strategy update:
    • Sold Hormel
    • Sold Flower Foods
    • Sold AmerisourceBergen
    • Looking to purchase two new ETFs when the time is correct
    • Positioned for the incoming administration

 

  • This week for the markets:
    • Trump coming into office
    • Trade talks between the US and other governments
    • Earnings for the fourth quarter of 2016

 

  • Interesting Fact: Hail to the Chief

 

Major theme of the markets last week: Trump

trump-fired

With the inauguration of the 45th President occurring at the end of this week, the focus of the global markets last week was largely on President-elect Trump. Confirmation hearings got fully underway for many of the top cabinet positions to which Trump has named someone, with some of the hearings going well and others seeming to have a more difficult time. It was interesting to see that not all of the cabinet nominees towed the standard Trump political lines, with some breaking from his opinion to offer their own. Financial markets took a bit of a breather last week, not really moving much one way or the other, as the world awaits the incoming administration in the US. Toward the end of the week last week we got the first round of corporate earnings for the fourth quarter of 2016, but even this new information was not largely reported on or reacted to in the financial markets as everyone seemed fully consumed with the upcoming transition of power.

 

US news impacting the financial markets:

 

With inauguration at the end of this week, the US news seemed to talk about little else than President Trump and the cabinet nomination hearings that were under way every day of the week last week on Capitol Hill. The time has finally come that Americans will hopefully get a glimpse at what the new administration has to offer over the next four years. The markets took the looming peaceful transition of power pretty timidly when compared to what they did following the Trump victory on Election Night. While sideways movement on both the S&P 500 and the Dow for the week felt like a big letdown following the unruly, weekly positive returns of the markets during the Trump rally, it was probably a good week of consolidation for the markets. Markets do need to take breaks in rallies from time to time and seeing that they took a breather without collapsing is a positive development (some pundits had predicted they would collapse downward). With earnings season also getting fully under way last week, investors finally have some tangible evidence as to the current state of the US economy and not just expectations for what is to come from the Trump administration, potentially leading to cool heads prevailing when analyzing investment opportunities.

 

Last week was the first week of earnings season for the fourth quarter of 2016 and the results were skewed positive, in terms of companies beating their expected earnings levels. Below is a table of the well-known companies that released earnings last week, with earnings that missed expectations highlighted in red, while earnings that beat expectations by more than 10 percent are highlighted in green:

 

Bank of America 5% Delta Air Lines 0% WD-40 -6%
BlackRock 2% JPMorgan Chase 20% Wells Fargo 3%

 

Last week the focus of earnings announcements seemed to be on financials and a few of the large companies in the S&P 500. Financials showed a lot of strength during the fourth quarter thanks to the unexpected election of Trump here in the US and the changing stance of the US Federal Reserve regarding the future for interest rates. With the market rally that followed Trump’s election, the large financial institutions made a lot of money as investors adjusted their fixed income positions; bond trading commissions are very lucrative in banking. This increased volume of bond trading only picked up during the Trump rally as investors got fully ready for the December rate hike and started to position for the prospects of three more rate hikes from the Fed during 2017. It was very good to be a fixed income trader at one of the large financial institutions during the fourth quarter of 2016. One interesting earnings release last week was that of WD-40, which missed earnings expectations by 6 percent. This miss, interestingly enough, is a positive sign for the overall health of the US economy as people are opting to replace rather than fix products with WD-40’s line of repair and maintenance products, which is typically done going into times of positive economic certainty. This positive outlook seen by the drop in sales of WD-40 products was also seen in the various consumer sentiment measurements throughout the end of 2016.

 

According to Factset Research, we have seen 30 (6 percent) of the S&P 500 companies release their results for the fourth quarter of 2016. Of the 30 that have released, 70 percent have beaten earnings estimates, while 7 percent have met expectations and 23 percent have fallen short of expectations. When looking at revenue, of the companies that have reported, 33 percent of the companies have beaten estimates, while 67 percent have fallen short. With this being so early on during the earnings season, giving much weight to the above figures is a useless task. What can be said is that the fourth quarter earnings season is the worst start to earnings season that we have seen in the past three quarters. We will have to wait and see how the fourth quarter plays out over the coming weeks before any kind of final judgement can be made about the fourth quarter earnings season overall.

 

This week is still part of a rolling start to the fourth quarter earnings as there are only 178 companies reporting earnings for the week. The table below shows the companies that have the greatest potential to move the markets highlighted in green:

 

Alaska Air General Electric Netflix
American Express Goldman Sachs Schlumberger
Bank of New York IBM Skyworks Solutions
Charles Schwab J B Hunt Transport U.S. Bancorp
Citigroup Kansas City Southern Union Pacific
CSX Kinder Morgan United Continental
Fastenal Morgan Stanley Unitedhealth Group

 

Several of the companies that are reporting earnings this week are bellwether companies, in that they are leaders in their respective industries and sectors of the markets. IBM is closely watched as the first of the major technology companies to report and could set the overall trend for technology for the quarter. Netflix is a darling stock for many hedge funds and individual investors that delivered stellar growth in first three quarters of 2016, but was the company able to maintain its growth rates for the fourth quarter as it continued expanding globally? General Electric is a very widely held company and is impacted by many different industries as it is a large industrial company. American Express will be watched to see how its business has been hurt by losing the Costco contract and how the spending patterns of small businesses changed during the fourth quarter. UnitedHealth is one of the nation’s largest healthcare providers and very much a part of any changes that are actually made to the Affordable Care Act, so its comments on any pending changes could prove pivotal to the healthcare sector as a whole. In addition to the actual results numbers that will be coming out over the next few weeks, perhaps more important will be any comments from management about what they see in the future for their businesses under the new administration.

 

Global news impacting the markets:

hard-brexit

Global news last week seemed to largely focus on the upcoming transition of power here in the US, but there were a few key items that made headlines that the global markets took note of last week. The upcoming fight over Brexit in the UK, the World Bank downgrading expectations for future global growth and the mixed economic data out of China were the main focal points of the week. Prime Minister Theresa May has a very difficult job ahead of her as she must try to satisfy both the group of people who adamantly want to leave the EU and the group that adamantly wants to stay. It doesn’t help that both sides are just about equal in size and power. Last week the British Pound hit a fresh 31 year low against the value of the US dollar ahead of a big Brexit speech that PM Theresa May gave earlier this morning. In her speech she had some very interesting lines such as, “We do not seek membership of the single market; instead we seek the greatest possible access to it.” She also suggested that any damage done to trade by the EU would cut both ways as the EU exports £290 billion of goods to the country during any given year. In her speech she provided very little details about the steps that will be taken, even going as far as saying, “Those who urge us to reveal more, the blow-by-blow details … will not be acting in the national interest” and “Every stray word and hyped-up media report will make it harder to get the right deal for Britain.” For its part, the EU response was as expected when it pretty much said that the situation is unlikely to go well for Britain and that negotiations will only begin once Article 50 has been triggered. PM May is walking a very fine line; it seems very unlikely that she will end up getting her way with the EU, as the EU has much more at stake to lose if it caves into any of the UK’s demands as other countries will likely jump on the bandwagon in a “me too” fashion. The Brexit situation was one of the contributing factors to the World Bank lowering its growth expectations globally for 2017 and into the future.

 

Last week the World Bank released its semiannual report on global growth. In the report, the World Bank cut projections for 2017 from 2.8 percent down to 2.7 percent, which is a relatively small adjustment. However, the organization called out the uncertainty surrounding the incoming US President and the uncertainty around the Brexit as two items that could potentially derail the global economy from even hitting the newly lowered target growth rate. Developed countries’ growth rate for 2017 is predicted to only be 1.8 percent, placing the bulk of global growth on the shoulders of the emerging markets. One country that will feel more pressure than many others to grow in 2017 is China, which last week released a mixed set of economic data points. Prices at the producer level in China were shown to have increased at 5.5 percent in December, which signals that inflation could be right around the corner for the country. There are also prospects of a trade war with the US as the new administration in the US seems to have no problems picking a fight with China when it comes to trade. This could potentially come on the heels of trade already slowing down for China as its trade surplus during the month of December shrunk by almost $4 billion. China has been very verbose about its distain for some of what the new administration has said; only time will tell if this talk turns into action.

 

 

Technical market review:

 

As you can see below, the charts of the S&P 500 and the Dow have been adjusted this week and have had their upwards trending trading channels replaced with horizontal trading ranges (yellow lines). The NASDAQ managed to stay very close to its longer running trading channel (yellow lines) and was subsequently not adjusted to a horizontal moving treading range. The red line on the VIX chart remains the 52-week average level of the VIX, which the index is currently solidly below.

4-charts-combined-1-17-17

In terms of technical strength, the NASDAQ (lower left pane above) looks to be playing a bit of catch up as the index looks to be about a month and a half behind the other two more broad indexes. NASDAQ is clearly the strongest of the three indexes at this point, but it is also the index that could potentially come under the most pressure from the incoming administration. Both the S&P 500 (upper left pane above) and the Dow (upper right pane above) have now been moving in a sideways fashion for the past month and a half as some of the unknown luster of the Trump rally appears to be wearing off. For its part, the VIX (lower right pane above) seems to think that sideways movement is the way for the markets to go over the coming 30 days as the fear gauge made a new low point over the last year on Friday last week.

 


Hybrid model performance and update

For the first full trading week of 2017 ending on 1/13/2017, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

 

  Last Week 2017 YTD Since 6/30/2015
Aggressive Model -0.90% 0.42% 5.73%
Aggressive Benchmark 0.39% 2.07% 1.88%
Growth Model -0.71% 0.38% 4.82%
Growth Benchmark 0.31% 1.61% 1.76%
Moderate Model -0.52% 0.30% 3.88%
Moderate Benchmark 0.22% 1.15% 1.52%
Income Model -0.44% 0.18% 3.57%
Income Benchmark 0.11% 0.58% 1.05%
S&P 500 -0.10% 1.60% 10.25%

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

There were a few changes to the hybrid models over the course of the previous week with the most notable changes coming on the individual equity side of the models. Last week, it was finally time to say goodbye to three stocks that have been in the hybrid model since the beginning. Hormel, Flower Foods and AmerisourceBergen were all sold last week and all sold with gains of more than 100 percent for investors who have been with the Hybrid strategy since the beginning. Hormel was sold as it looks like management will potentially come under more political pressure as many of its products are exported around the world and have the potential to be caught in the cross fire of trade wars. Also, its raw materials costs are likely to increase in 2017, something the company has not had to deal with in any meaningful way over the past few years. Flower Foods was sold last week because the amount of volatility seen in the stock over the past 12 months was driving too much of the overall volatility in the more aggressive hybrid models. The stock is probably still a good investment, just not at the amount of daily risk that is associated with owning the stock. Some of you may wonder why Flower Foods was not sold earlier and you may not realize that Flower was the best performing stock in the equity allocations since election night, gaining more than 30 percent. AmerisourceBergen was sold last week as this stock looks like it will get caught in the political mess that is likely to occur with the upcoming healthcare law changes. With the President-elect taking repeated shots at the Pharmaceuticals industry with regards to its drug prices, it is only a short jump to taking aim at the delivery companies of those high priced drugs. It seems that margins for the group as a whole will feel political pressure with everyone pointing figures at everyone else related to the drug industry. With three long-term stock positions sold last week, we will be looking at putting the money to work this week with the most likely prospects being two ETFs: one that focuses on Industrials and the other on Defensive equity positions. Both funds have a low correlation to the existing positions and provide both upside opportunity with reasonable risk and the ability to move back out of the positions with no trading costs should a downdraft in the markets start to materialize. More information will come on the two funds, if and when they are purchased in the hybrid models.

 


Market Statistics:

 

The first full trading week of 2017 is now behind us and the markets appear to be adjusting to the realization that Trump is taking office at the end of the week:

 

Index Change Volume
NASDAQ 0.96% Average
S&P 500 -0.10% Average
Dow -0.39% Average

 

Volume last week picked up to just about average on all three of the major US indexes as investors finished putting their final positioning in place for the incoming administration. Not surprisingly, the NASDAQ led the way higher last week as the other two indexes gave up a little ground. While this looks like a classic “risk on trade,” it is probably little more than some investors selling their recent winners and moving the proceeds to areas of the markets that have lagged the most in the Trump rally.

 

The following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change   Bottom 5 Sectors Change
Medical Devices 3.05%   Pharmaceuticals -1.02%
Materials 3.04%   Natural Resources -1.58%
Semiconductors 2.77%   Energy -2.05%
Healthcare Providers 2.39%   Oil & Gas Exploration -2.12%
Software 1.60%   Residential Real Estate -2.86%

 

Sector performance last week was primarily driven by one-off headlines that pertained to very specific sectors of the markets. Starting on the negative side this week, Real Estate took the bottom honors over fears of a slowdown in the US housing markets due to three or possibly four interest rate hikes occurring during 2017. Energy as well as Oil and Gas exploration and Natural Resources all moved lower after enjoying a large Trump bump, thanks to the price of oil declining by more than 2 percent for the first time in nine weeks. Pharmaceuticals took a hit last week after President Elect Trump said that he thought the cost of drugs in the US was too high and the government should do something about it. On the positive side of life, Medical Devices and Healthcare Providers got a boost as they look to benefit from the repeal of the Affordable Care Act that is currently being worked on in Congress. Semiconductors and Software both moved higher, thanks to the strong performance of the NASDAQ during the week. Materials was the beneficiary of a nice tail wind last week, thanks to the rising costs of metals, which turned in strong performances across the board.

 

Last week made the third week in a row of gains in the US fixed income markets as investors continued to adjust their positioning in fixed income in light of Fed expectations and the lofty valuations of the US equity markets:

 

Fixed Income Change
Long (20+ years) 0.37%
Middle (7-10 years) 0.29%
Short (less than 1 year) 0.02%
TIPS 0.47%

Global currency trading was back to non-holiday trading volume last week for the first time in 2017. Overall, the US dollar gained 0.19 percent against a basket of international currencies, fully offsetting the decline that was seen two weeks ago. The best performing of the global currencies last week was the Australian Dollar, which gained 2.77 percent against the US dollar as the prices of metals last week increased significantly. The worst performance among the global currencies was seen in the Egyptian Pound, as it declined by 3.96 percent against the value of the US dollar. Much of the decline in the Egyptian Pound was due to the ongoing reverberations of the currency being allowed to freely float against the US dollar.

Commodities were mixed last week as we moved further into 2017 as oil prices declined:

Metals Change   Commodities Change
Gold 2.20%   Oil -2.31%
Silver 1.92%   Livestock 2.78%
Copper 6.68%   Grains 2.31%
      Agriculture 1.92%

The overall Goldman Sachs Commodity Index advanced 0.19 percent last week, thanks to all of the commodities, aside from oil, offsetting the losses that were incurred in the price of oil. Oil declined 2.31 percent, marking the first time in nine weeks that we have seen oil prices fall by more than two percent, thanks to the support of oil prices coming from the freeze/cut OPEC deal that was announced two months ago. The decline last week in the price of oil was due to increased speculation that OPEC will not follow through with the production freeze or cut. All of the metals pushed higher as Gold advanced 2.20 percent, while Silver gained 1.92 percent and the more industrially used Copper pushed higher by 6.68 percent. Soft commodities were positive last week, with Agriculture overall gaining 1.92 percent, while Livestock gained 2.78 percent and Grains posted gains of 2.31 percent.

Top 2 Indexes Country Change   Bottom 2 Indexes Country Change  
BIST 100 Turkey 5.73%   PSI 20 Portugal -1.86%
Merval Argentina 3.29%   Caracas General Venezuela -2.59%

Last week was a mixed week for global financial markets as 62 percent of the markets posted gains over the course of the week. The best performing index last week was found in Turkey, with the BIST 100 Index turning in a gain of 5.73 percent for the week. Much of the gains in Turkey were seen because of a slowdown in fighting and attacks within the country as the government continues to try to get a grip on foreign attacks within its country. The worst performing index last week was found in Venezuela, with the Caracas General Index turning in a loss of 2.59 percent as investors and citizens alike continue to wonder and speculate about the future of the current government regime running the country.

The VIX last week had a very calm week, trading in a very narrow trading range and ultimately settling the week out 2.85 percent lower than it started. The VIX ended the week last week at the lowest point that we have seen on the VIX over the past year, in a sign that very little volatility lies ahead for the markets if the VIX reading is to be believed. The current reading of 11.23 implies that a move of 3.24 percent is likely to occur over the next 30 days. The direction of the move over the next 30 days is unknown. The VIX feels low to most traders who see more uncertainty than is currently being priced in, but we have to remember that the VIX can adjust very quickly, with gains or losses in excess of 30 percent in a single day not being uncommon.

Economic Release Calendar:

 

Last week was an uneventful week for economic news releases as there were no releases that significantly beat or missed market expectations:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Neutral 1/13/2017 PPI December 2016 0.3% 0.3%
Neutral 1/13/2017 Core PPI December 2016 0.2% 0.1%
Neutral 1/13/2017 Retail Sales December 2016 0.6% 0.7%
Neutral 1/13/2017 Retail Sales ex-auto December 2016 0.2% 0.6%
Neutral 1/13/2017 University of Michigan Consumer Sentiment Index January 2017 98.1 98.5

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

All of the releases last week were released on Friday and started with the Producer Price Index (PPI) gaining a very small 0.3 percent overall and only 0.2 percent when looking at the core PPI reading. Both figures indicate that inflation here in the US economy is not currently a problem and it doesn’t look like it will be a problem in the near term, giving the Fed a likely green light to raise rates at least three times in 2017. Retail sales for the month of December showed the expected increases, but they were a little bit of a let down to the markets, which had been hopeful that they would be much stronger thanks to holiday sales. Overall, holiday sales did increase by about 4 percent this year, but the traditional brick and mortar stores seemed to lag the less traditional shopping methods such as Amazon and other online retailers. Wrapping up the week last week was the release of the University of Michigan’s Consumer Sentiment index for the month of January (first estimate), which showed that sentiment changed little from the mid December reading.

 

This week, the focus of the financial markets will be on Donald Trump’s inauguration and little else here in the US. The releases with the highest potential impact on the markets are highlighted in green below:

 

Date Release Release Range Market Expectation
1/17/2017 Empire Manufacturing January 2017 8.3
1/18/2017 CPI December 2016 0.30%
1/18/2017 Core CPI December 2016 0.20%
1/19/2017 Housing Starts December 2016 1193K
1/19/2017 Building Permits December 2016 1217K
1/19/2017 Philadelphia Fed January 2017 15.3

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Manufacturing will be a focus of this week’s economic news releases as the Empire Manufacturing index kicks things off on Tuesday with slightly lower expectations than we saw in December. The Consumer Price Index (CPI) is set to be released on Wednesday with expectations that much like the PPI released last week, inflation will at best be shown to be benign. Housing starts and building permits are a long shot for any market impact as this time of year is a slow time in much of the US for building homes. Wrapping up the week on Thursday is the release of the Philadelphia Fed index for the month of January, which will likely move in the same direction as the Empire Index released earlier during the week. This week is a very busy week for Federal Reserve officials as there are 11 speeches being made during the week, with Chair Yellen giving two of them. The markets will likely listen in closely to what they have to say, but if last week’s speeches by Fed officials are any indication, very little new information will be provided until the FOMC sees just how the new administration is going to follow through on some of its campaign promises.

 

Interesting Fact —Hail to the Chief has some very interesting beginnings.

 

On Thursday, Hail to the Chief will be heard once for outgoing President Obama and once for incoming President Trump, but the history of the song is very interesting. According to NPR, the song is from Celtic descent and was originally played for a ruthless Scottish Chief named Roderick Dhu, who was a sworn enemy of England during the medieval times. For more information and to listen to the tune, please visit NPR here: http://www.npr.org/2017/01/05/508319054/hail-to-the-chief-the-official-anthem-of-the-u-s-president

 

Source: www.npr.org

For a PDF version of the below commentary please click here weekly-letter-1-9-2017

 

January 9th, 2017

 

Commentary quick take:

 

  • Major developments:
    • Volume returned to normal last week
    • Markets pushed higher to open the new year

 

  • US:
    • Dow made a valiant effort at 20,000, but fell slightly short
    • Earnings season kicks off this week
    • Alcoa will not be kicking things off
    • Energy earnings expectations are lofty
    • US labor market shown to be flattening

 

  • Global:
    • Speculation about 2017 and the potential Brexit
    • Speculation about the populist movement in Europe
    • China becoming more outspoken about Trump

 

  • Technical market view:
    • All three major US indexes broke down
    • Support level being tested on the NASDAQ
    • VIX moved off of the 52-week low point last week

 

  • Hybrid investments strategy update:
    • There were no changes last week in the hybrid models

 

  • This week for the markets:
    • Earnings season starts
    • Preparations for inauguration day are underway
    • Focus will continue to be on the new administration

 

  • Interesting Fact: Could the US penny finally be on the chopping block?

 

Major theme of the markets last week: Start of 2017

funny-1-9-17

Last week saw the start of trading for 2017. As the above cartoon alludes to, nothing has changed during the first few trading days when compared to how the markets ended 2016. There is still a lot of excitement about the Dow making a run at the 20,000 level (we were very close late last week) and there remains a lot of hope that the incoming administration will be able to produce growth in the US economy that has been lacking since the conclusion of the Great Recession in 2009. We are now less than two weeks away from inauguration day. Shortly after we should start to see just how well this Congress and the new President may work together on the many lofty goals set out on the campaign trail.
US news impacting the financial markets:

 

The first trading week of any new year is typically a time that investors look at their investments and make minor changes to their portfolio allocations. This is done either through rebalancing to a target model, based on some factor such as age or risk level, or picking what they think could perform well for the New Year ahead. This time of year has also historically been a time that some investors put money into the market, either from positions they sold near the end of the previous year or from previous year-end bonuses that are typically paid in the first part of the following year. Whatever the reason, the start of a new year brings about hope for strong returns and 2017 seems to be no different than years past. One of the biggest US news and financial market related items last week had to do with the earnings season, which is now upon us.

 

Corporate earnings season for any quarter can significantly impact stocks. Fourth quarter earnings seasons are particularly impactful because investors receive both a short- and long-term picture of a company’s performance; the short-term perspective emerges in the quarterly assessment and the long-term perspective emerges in the full-year assessment. One sector that many investors are interested in is Energy. The interest lies in the results for the fourth quarter 2016, full year 2016 and outlook for 2017.  You may remember that 2016 was not an easy year for Energy companies, and oil producers in particular, as you can see in the chart below of the S&P 500 earnings from Factset Research. Overall S&P 500 earnings are the blue columns, while the Energy sector is represented by the yellow columns:

sp-500-earnigns-q4-1-9-17

As you can see in the above chart, Energy started to be a major drag on the overall S&P 500 earnings during the fourth quarter of 2014 and became progressively worse through the third quarter of 2016. Energy saw consistent negative earnings growth, meaning it was losing more money on a quarterly basis than the sector did the prior quarter. The results of the fourth quarter of 2016 appear below the green arrow in the above chart; you will notice that the yellow column has all but disappeared, posting a very slight negative reading. With the drag from Energy fully lifted, S&P 500 earnings are now expected to post a second quarter in a row of growth since Q1 2015. Remember that the third quarter of 2016 was expected to post a negative 3 percent earnings growth rate, but the turnaround in Energy was so profound that S&P 500 earnings managed to turn all of the way around to a positive 3.1 percent. With improvements in Energy expected to be even better for fourth quarter earnings than they were for the third, it looks like the current estimates for the fourth quarter may be a little lower than they should be as the current estimate is for only 3 percent earnings growth. Over the next several weeks we will see how earnings unfold as there are several well-known companies (table below) that are kicking things off this week by releasing their earnings for the fourth quarter of 2016. The companies with the highest potential to move the markets with their releases are highlighted in green:

 

Bank of America Delta Air Lines WD-40
BlackRock JPMorgan Chase Wells Fargo

 

As is typical, banks are generally the first of the major companies to release their earnings in any given quarter. This quarter, expectations are high for the sector as management will likely outline what they see in 2017 for the sector as a whole under the new administration and in a potentially faster than anticipated rising rate environment. WD-40 is an interesting company to watch, specific to its earnings release and ensuing market reaction, as the company is a counter-cyclical company. Many of its products are used to repair products that are designed to wear out. If consumers are very bullish about their economic future, they are less likely to repair items and more likely to just toss them away and buy new. This is a mindset that is not positive for WD-40 and hence why Wall Street follows this particular company closer than it otherwise would. One oddity in the above table that some readers may pick up on is the fact that Alcoa is not listed in the table this week, despite the company unofficially “kicking off” earnings season pretty much every quarter. Alcoa announced two weeks ago that it was moving its earnings reporting from Monday, the 9th of January to Tuesday, the 24th and provided no reasoning as to why it made the change. If this change in timing becomes permanent in the future, it looks like some other company will have to step in and fill the void as consistently being the first company to “kick off earnings season.” Aside from earnings chatter last week, there was very little in the financial media that had a substantive impact on the overall markets. One thing that was mentioned late in the week and closely watched was the Dow trying for a fourth day to make it to the 20,000 level and falling less than one point short, hitting an intraday high of 19,999.63 on Friday. There really isn’t anything from a technical or markets perspective about the 20,000 level other than it is a nice round number and provides for a psychological level that is easy for everyone to remember. We will just have to wait and see if it can make it this week or not.

 

 

 

Global news impacting the markets:

 

With the New Year’s celebrations around the world extended into the usual trading week last week, many of the global markets had a shortened trading week. There was, however, some news that came out that impacted the financial markets. Brexit became a hot topic during the middle of last week as UK Prime Minister Theresa May made it clear in a New Year 2017 speech that the Brexit would be moving forward, that Britain will leave the single market (EU) and that the “UK will not hold on to bits of EU membership.” Her use of “Britain” caused a bit of an uproar in Scotland and Wales as both countries are still thinking they will be able to break away from the UK and remain in the EU if the Brexit goes through. The impact of the dueling opinions about the Brexit was acutely seen in the currency markets as the Euro hit a fresh 14-year low against the US dollar and the British pound fell to its lowest level since 1985. Developments surrounding the Brexit in 2017 comprise one of the potentially largest geopolitical risks to the overall markets going forward. China was not to be outdone last week by talk of the Brexit as the Chinese government stepped up its rhetoric about incoming US President Trump.

 

China last week warned that if the US drops its long-term “One-China” policy, it could have long reaching ramifications. The One-China policy is a long standing policy that treats mainland China and Taiwan as one in the same. Over time, Taiwan has broken away more and more in the eyes of foreign governments, but China still believes that Taiwan technically belongs to China. The tension stems from a phone call between President-elect Trump and the President of Taiwan Tsai Ing-wen, the first such call between Taiwan and the US in many years. The relationship between China and the US became even more tense on Sunday after the President of Taiwan made a layover stop in Houston and met with a delegation of high ranking Republicans from Washington DC as she was waiting to continue on her way to Central America. It has also been well publicized that she will be making a layover stop in San Francisco on January 13th on her way back to Taiwan from Central America. Following news of the layover in Houston, the Chinese government released the following comment in the Communist’s Party’s official newspaper, “Sticking to (the One-China) principle is not a capricious request by China upon U.S. presidents, but an obligation of U.S. presidents to maintain China-U.S. relations and respect the existing order of the Asia-Pacific.” President-elect Trump has not yet responded to the thinly veiled threat on Twitter or by any other manner of communication. Global markets care about the situation between the US and China because it could adversely impact global trade if a trade war were to erupt. Tensions continue to increase over China’s land grab in the South China Sea as well, where China is literally building its own islands and claiming all of the water around the newly formed islands. President elect Trump and members of his new administration know they need to tread very lightly on the situation with China because China is a major trading partner with the US and our allies and owns a large percentage of the outstanding US government debts, debts China could dump on the open market, which the US government would be unable to stop. This type of action could have global impacts that could jeopardize future global growth.

 

Technical market review:

 

Despite the move higher of more than one percent last week, only one of the three major US indexes managed to make it back into its trading channel: the NASDAQ. Each trading channel on the charts below was drawn based on the rough movements of the markets seen since election night. The red line on the VIX chart remains the 52-week average level of the VIX, which the index is currently solidly below.

4-charts-combined-1-9-17

With the NASDAQ (lower left pane above) managing to climb back into its recent trading channel, it takes the top spot in terms of technical strength, while the S&P 500 (upper left pane above) comes in second and the Dow (upper right pane above) brings up the rear. This is a stark difference compared to the leadership we saw during the rally following the Trump victory. In the rally following the election, the Dow was the winner by a long shot and the NASDAQ severely lagged behind. In technical investing there is the principal of “reversion to the mean,” which means the indexes typically move with one outpacing the others, then the others play catch up as the front running index either slows down or moves lower. The movements from the previous week could be the start of such a move by the major indexes, but we will have to wait and see if it continues to play out that way. The VIX opened 2017 very close to the lowest level that we have seen on the fear gauge in the past year. If the VIX is correct, there will be very little volatility in the overall markets over the coming 30 days, which means it is predicting a very smooth transition of power in Washington DC and no sweeping changes being implemented by either Congress or the new administration that would materially impact the stock market.

 

Hybrid model performance and update

For the shortened trading week ending on 1/6/2017, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

 

  Last Week 2017 YTD Since 6/30/2015
Aggressive Model 1.34% 1.34% 6.71%
Aggressive Benchmark 1.67% 1.67% 1.48%
Growth Model 1.10% 1.10% 5.58%
Growth Benchmark 1.30% 1.30% 1.44%
Moderate Model 0.82% 0.82% 4.42%
Moderate Benchmark 0.92% 0.92% 1.29%
Income Model 0.63% 0.63% 4.04%
Income Benchmark 0.47% 0.47% 0.94%
S&P 500 1.70% 1.70% 10.37%

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

There were no changes made to the hybrid models last week as 2017 kicked off. The models are well positioned for the Trump administration, if they follow through with some of the campaign promises. Now that we are into tax year 2017 and the prospects of lower tax rates on individuals still seems highly likely under the new administration, we will be booking some of the long term gains on individual stock positions that have been driving too much of the overall hybrid models’ volatility over the past few months. Currently, the list contains 5 companies that are on the block to be sold in the near terms when the markets provide a good selling point. With current market valuations being so lofty and the uncertainty surrounding short-term geopolitical risks, the proceeds from these stock sales will be invested into a few different ETFs that will serve as temporary parking spots until prices and valuations on new stock investments come more in our favor.

 

Market Statistics:

 

Last week, 2017 started off with a rally as volume picked back up to about average:

 

Index Change Volume
NASDAQ 2.56% Average
S&P 500 1.70% Average
Dow 1.02% Average

 

Average volume last week on the three main indexes means that it was actually about 20 percent  better than average because the volume was produced with one less trading day than a typical week. As mentioned above, we could be seeing the start of a reversion to the mean trade where the NASDAQ is the top performing index for a while as it plays catch up to both the S&P 500 and the Dow. Overall, this was not a bad way to start 2017.

 

The following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change   Bottom 5 Sectors Change
Biotechnology 5.61%   Insurance 0.74%
Software 3.75%   Transportation 0.56%
Pharmaceuticals 3.56%   Utilities 0.54%
Telecommunications 3.51%   Regional Banks 0.44%
Broker Dealers 3.38%   Semiconductors -0.08%

 

The sector performance last week was a little confusing as some of the largest movement was due to merger and acquisition deals announced during the week. After being two sectors of political distain for the last half of last year, Biotechnology and Pharmaceuticals took two of the top three performing spots to start 2017. It was a little concerning to see Transportation make it among the worst performing sectors last week, but since the return was positive and just not as large as other sectors, it was a little less concerning. Typically, transportation is a good leading indicator for the overall markets; when it is under performing or negatively performing, it a sign that trouble could be on the horizon.

 

Last week made the second week in a row of gains in the US fixed income markets as investors cheered in the new year of trading:

 

Fixed Income Change
Long (20+ years) 1.45%
Middle (7-10 years) 0.26%
Short (less than 1 year) 0.04%
TIPS 0.25%

Global currency trading volume was below average last week, with the New Year’s holiday closings observed on many of the global currency markets. Overall, the US dollar declined 0.19 percent against a basket of international currencies. The best performing of the global currencies last week was the Russian Ruble, which gained 2.82 percent against the US dollar as there is further speculation about how Russia influenced the US election. The worst performance among the global currencies was seen in the Turkish Lira, as it declined by 3.31 percent against the value of the US dollar. Much of the decline in the Lira was due to uncertainty about the country following increased violence in Turkey over the course of the past week.

Commodities were mixed to start 2017 as metals all moved higher, while oil and livestock pushed lower:

Metals Change   Commodities Change
Gold 1.95%   Oil -0.34%
Silver 3.51%   Livestock -1.88%
Copper 1.39%   Grains 1.67%
      Agriculture 1.85%

The overall Goldman Sachs Commodity Index declined 0.57 percent last week, with much of the decline being attributed to the fall in the price of oil. Oil declined 0.34 percent in a week of slow trading as everyone still awaits the latest round of production reports from OPEC members to see if they are actually freezing or cutting oil production. All of the metals pushed higher as Gold advanced 1.95 percent; while Silver was the big winner of the week, gaining 3.51 percent; and the more industrially used Copper pushed higher by 1.39 percent. Soft commodities were mixed last week, with Agriculture overall gaining 1.85 percent, while Livestock fell 1.88 percent and Grains posted gains of 1.67 percent.

Top 2 Indexes Country Change   Bottom 2 Indexes Country Change  
Merval Argentina 8.08%   Colombo Stock Exchange Sri Lanka -1.21%
PSEi Philippines 5.96%   BIST 100 Turkey -1.32%

Last week was a good week for global financial markets as 95 percent of the markets posted gains to start the year of the rooster. The best performing index last week was found in Argentina, with the Merval Index turning in a gain of 8.08 percent for the week. The worst performing index last week was found in Turkey, with the BIST 100 Index turning in a loss of 1.32 percent as violence from extremists seems to be spreading within the country, thanks to large military advances being made in Syria, forcing some fighters across the border into Turkey.

After being up more than 22 percent two weeks ago, it was only fitting that the VIX fall back down to earth, giving up more than 19 percent last week and essentially ending at the same point it started two weeks ago. The current reading of 11.32 implies that a move of 3.27 percent is likely to occur over the next 30 days. The direction of the move over the next 30 days is unknown. The VIX feels low to most traders who see more uncertainty than is currently being priced in, but we have to remember that the VIX can adjust very quickly with gains or losses in excess of 30 percent in a single day not being uncommon.

Economic Release Calendar:

 

Last week was the first trading week after the end of a month (December in this case), meaning that it was employment week with the majority of the meaningful releases of the week being related to the US labor market. There were no releases that significantly beat or missed market expectations last week:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Slightly Positive 1/3/2017 ISM Index December 2016 54.7 53.6
Neutral 1/4/2017 FOMC Minutes December 2016 NA NA
Neutral 1/5/2017 ADP Employment Change December 2016 153K 170K
Neutral 1/5/2017 ISM Services December 2016 57.2 56.6
Slightly Negative 1/6/2017 Nonfarm Payrolls December 2016 156K 175K
Slightly Negative 1/6/2017 Nonfarm Private Payrolls December 2016 144K 170K
Neutral 1/6/2017 Unemployment Rate December 2016 4.70% 4.70%

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Last week the economic news releases started on Tuesday with the release of the overall ISM index for the month of December, which came in slightly higher than anticipated. On Wednesday, the Federal Reserve released the minutes from its December meeting, a meeting at which the Fed increased rates by 0.25 percent. The meeting minutes that were released held nothing new of substance and were largely ignored by the markets. On Thursday, the ADP employment change figure for the month of December posted a gain of only 153,000 jobs, a little short of the expected 170,000 jobs, but not short enough to cause alarm about the government figures that were released the following day. The services side of the ISM was also released on Thursday and came in slightly higher than the markets had anticipated, much like the overall ISM index released earlier during the week. On Friday the US government released its latest trove of employment information with overall unemployment for the month of December holding steady at 4.7 percent, while both nonfarm public and private payroll figures disappointed market expectations. The labor force participation rate stayed almost flat at 62.7 percent, while wages were shown to have ticked up to an annualized growth rate of 0.4 percent during December. Overall, the employment and labor force numbers that were released last week painted a picture of a steady labor market here in the US to start 2017.

 

This second week of 2017 is a bit of a slow week for economic news releases as there are only five releases. The releases with the highest potential impact on the markets are highlighted in green below:

 

Date Release Release Range Market Expectation
1/13/2017 PPI December 2016 0.30%
1/13/2017 Core PPI December 2016 0.10%
1/13/2017 Retail Sales December 2016 0.70%
1/13/2017 Retail Sales ex-auto December 2016 0.60%
1/13/2017 University of Michigan Consumer Sentiment Index January 2017 98.5

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

All of the economic news releases this week occur on Friday and are kicked off with the release of the Producer Price Index (PPI) for the month of December. Overall prices are expected to show very little inflation despite oil prices moving higher by more than 8 percent during the month. Core PPI is expected to print an even lower number as prices just seem stuck in the US economy. Retail sales for the month of December are released later during the day on Friday and could potentially impact the overall markets. Already, the data from retailers who have spoken out about December sales does not look very strong, even though initial holiday sales figures had looked very good. Wrapping up the week this week is the release of the University of Michigan’s Consumer Sentiment index for the month of January (end of December reading), which is expected to be little changed from the mid December reading of 98.2. Additionally, this week there will be many Fed officials speaking, with Chair Yellen herself giving a speech on Thursday. The financial markets will likely watch these speeches more closely than the other economic news releases because everyone is trying to figure out just how many times the Fed is expecting to raise rates in 2017 and to gain insight into any of their thoughts about the new administration. Thus far, all Fed officials have done a pretty good job of staying away from answering political questions.

 

Interesting Fact —Penny could be on the chopping block

 

The cost to produce the 1-cent coin rose to 1.5 cents in the 2016 fiscal year, Mint spokesman Tom Jurkowsky said. That’s the first time costs have been up since 2011, but still just the latest in a string of losses for the most abundant, but least valuable coin in circulation.

 

The White House budget released in March 2014 called for a “comprehensive review” of U.S. currency production, including alternatives for the money-losing penny and nickel. Treasury Secretary Jacob Lew just over a year ago said his department was conducting such a review to see if it still made sense to keep the penny.

 

Only the a government needs to generate reviews and reports to figure out just how long they can keep making products they lose money on for each and every one made.

 

Source: www.Forbes.com

For a PDF version of the below commentary please click here full-year-2016-in-review

2016 Wrap Up: “Populism” and “Antiestablishmentarianism” are two of the best words that can describe the underlying tones of 2016 that had noticeable impacts on the global financial markets. Populism is defined by dictionary.com as “antiestablishment or anti-intellectual political movements or philosophies that offer unorthodox solutions or policies and appeal to the common person rather than according with traditional party or partisan ideologies.” The best example of populism at work during 2016 was in the UK when the Brexit vote occurred and the global financial markets fell by a significant amount. Antiestablishmentarianism is defined by dictionary.com as “a policy or attitude that views a nation’s power structure as corrupt, repressive, exploitive, etc.” This was the primary platform that President-Elect Trump rode through the primary election cycle, ultimately beating the epitome of the establishment—Hillary Clinton. Both of these events, Brexit and the US Presidential election, drove the vast majority of the market movements that were seen around the world in 2016.

Roller coaster

The year 2016 was a bit of a wild ride for the financial markets as we started the year with the Dow seeing the worst 5 trading days to start any year going back to 1886 and 6 days in the first half of January having greater than 400 point swings on an intraday basis. What ultimately transpired early during 2016 was a 10 percent correction in the US financial markets and even larger losses in many of the main global markets, thanks to the falling price of oil. Energy companies around the world were starting to panic as the price of oil briefly touched $26 per barrel, a 13 year low. Then in early February, OPEC announced a plan to freeze production near an all-time high level, which was enough to turn around the 18-month slide that had been occurring in the price of oil; the black gold ultimately moved up to $50 per barrel by the beginning of June.  As the price of oil turned upward, so too did overall corporate earnings that were dragged down by the energy sector’s dismal results in the low price oil environment that started the year. With very favorable year-over-year comparable quarters, earnings on the S&P 500 went from a 12 month decline of 5.7 percent at the end of first quarter 2016, to a positive 4.3 percent increase for third quarter of 2016, which is a very fast recovery in earnings by historical standards. All of this movement in the markets was done during a year that was fraught with speculation about several other major themes that moved the markets—the US Federal Reserve and Politics.

 

We started 2016 with the expectations that Fed Chair Yellen would be able to raise rates a few times during 2016. In the end, the Fed was only able to eke out a single rate hike in 2016 of 0.25 percent at the year-end December meeting. Primary reasons given by Chair

Yellen throughout 2016 for not raising rates was that inflation was running too far below the target rate of 2 percent and that foreign markets and events had materially changed the Fed’s thinking about raising rates. All of this was said despite the labor market here in the US improving much of the year and the overall unemployment rate in the US falling below the Fed targeted rate. As we moved through 2016, it became clear that the Fed did want to raise rates, but political events derailed what would likely have been rate hikes at two key points along the way.

Brexit flag star leaving

The Brexit vote in the UK on June 23rd rocked the global financial markets and brought in a significant amount of immediate uncertainty that we had not seen in the global markets since the Great Recession. The Brexit vote was a referendum vote that asked the people of the UK if the UK should stay in the EU or leave. Leading up the vote and even early on Election Day, it was commonly thought that the “stay” vote would prevail as there were just too many potentially disastrous outcomes should the UK leave the EU. However, the voice of the Populist movement in the UK was louder than everyone else and the vote ultimately came in with the “leave” group winning. The movement in the aftermath of the vote was extreme in certain areas of the global markets and much less so in others. European banks took the outcome badly, falling by more than 20 percent the following day in most cases. The British Pound plunged against the Yen and the US dollar and fears of an economic collapse in the UK mounted. The government was left in a bit of a lurch as Prime Minster David Cameron resigned, as he promised he would do if the “leave” vote won. Financial markets around the world quickly realized that it would take a significant amount of time to work out the mechanics of a leave vote in the UK and how best to move forward and that it was not the end of the world that some pundits had made it out to be. For the most part, global financial markets recovered the majority of the Brexit vote losses in less than two weeks following the large decline. However, as we saw later during the year, the populist vote in the UK emboldened other movements around the world, including the Trump campaign in the US and the referendum vote in Italy.

 

US politics played an integral part in the movements of the financial markets both here in the US and abroad during 2016 as there seemed to be an endless amount of campaigning being done by a very wide field of candidates. The Democratic Party nominated its obvious front runner, Hillary Clinton, with a little less enthusiasm than it would have liked, thanks to the dogged campaign of Bernie Sanders and the seemingly unstoppable leak of information about her campaign and other dealings. The Republican side of the ticket was more a circus act than anything else as the wide field of candidates slowly thinned to the eventual winner, Donald Trump. While the primary process made for some great late night comedy routines, they paled in comparison to the comedy routines that were created during the head-to-head run up to Election Day. In a very interesting twist, the campaign boiled down to antiestablishment versus the establishment. Trump, for his part, played the game very well, focusing on the downtrodden areas and people in the US who had not benefitted from the past 8 years of Democrats running the White House. Ultimately, it was these disgruntled people who came out to vote that pushed Trump over the 270 needed electoral votes to ultimately win the race. From an investment point of view, there were virtually no investment managers or pundits on TV that realistically gave Donald Trump a true shot at winning; leaving the markets very uncertain about what to do with Trump’s victory. This is no more clearly seen anywhere than on election night as commentators called out election results and watched the Dow futures plunge to losses of more than 820 points when it became clear that Trump was going to win. Then, with Trump’s victory speech sounding like he was going to soften some of his hard-line stances from the campaign trail, the markets turned all of the way around and ended the day after the election with a more than 200 point gain for the Dow, representing a more than 1,000 point turn around in less than 24 hours. The speed of the turnaround was truly remarkable as investors scrambled to adjust their positions from an expected Hillary Clinton win to an actual Trump victory. Sectors of the markets that would benefit from large increases in government spending on infrastructure jumped higher. As more and more potential cabinet candidates came to light and were officially announced (sometimes through twitter) after the election, very specific areas of the markets that should do well in an era of deregulation, such as energy and financials, popped higher. Hope of a political outsider being able to come in and “fix” a broken government system have pushed the US markets higher with the Dow receiving the greatest benefit, gaining nearly 12 percent in the month following election day. On all three of the major US indexes, nearly all of this year’s gains have occurred post US election.

 

2017 Outlook: 2017 will be about President Trump and whether or not he can accomplish many of his campaign ideas when he gets to Washington DC and finds out that he actually does need congressional support for many of his big ideas. Republicans control both houses of Congress and the White House, but unlike in times past, it does not mean that everything will run smoothly in terms of legislation. There are many Republicans who dislike President Trump and will not go out of their way to support some of his legislation, potentially even siding with Democrats on some issues. The biggest items of 2017 that could have an immediate impact on the US and global financial markets will be a potential tax cut for corporate America going from the current 35 percent down to a 15 percent rate and consolidating and lowering personal incomes taxes. The Corporate tax rate decrease would be a big boost for business in America, but it would be a one-time short lived boost. The key will be to make sure that it has a lasting impact. Individual tax reform is a much larger deal for the economy as the US consumer contributes a lot to the overall wealth and spending in the economy. Low tax bills for everyone would provide a boost to the economy and it could be fairly long lasting. However, lower income taxes would likely be inflationary, which could force the Fed to take action of raising rates faster than they otherwise would like to do. Raising rates has adverse impacts on the housing market as well as financial lending, which could ultimately put the Fed in a very precarious position, needing to take action while at the same time knowing that the action it is taking could very well lead to a mild recession.

 

Keep in mind that many of President-Elect Trump’s ideas involve spending a lot of money or cutting income from the government (lower taxes). At some point, all of this will need to be paid for or else the national debt will balloon very quickly. China may also have a potentially big impact on the debt situation in the US as it is one of the largest foreign owners of US debt and anything the US does to extend our credit even further will likely put China in a more powerful position. It will be a very interesting balancing act to watch with Trump’s inevitable missteps along the way.

 

From an investment specific standpoint, 2017 looks like it will be a good year for industries that have been heavily regulated in the past, but under the new administration have strong hopes of diminished regulations— financials, banking and energy. Less likely to perform well in 2017 are areas of the market that have either been heavily against Trump all along, like most of the major technologies companies and industries that rely heavily on government subsidies, such as alternative energy. The US dollar looks like it could continue to either maintain its current level or increase in value against foreign currencies, for the simple reason of the US having problems that are not as potentially damaging to our currency. Countries still peg their currencies to the US dollar because they know free floating their own currencies would make business within their countries virtually impossible. The barrel of oil is still denominated in US dollars and, despite the quasi dysfunctional times we have recently seen with the US government, the US government is still the best government in the world for business and prosperity. None of those fundamentals that make the US dollar attractive are likely to change in 2017 or any time in the next few years.

 

It is now time for the fun part of this review and outlook—the prediction for how 2017 should turn out for the US financial markets if history repeats itself. The following analysis is based strictly on the historical movements of the three major indexes, given certain situations playing out in 2017. I provide a table of the assumptions and variables being examined and then the average corresponding returns for each of the indexes based on those assumptions and variables being true:

 

Assumption Variable Dow S&P 500 NASDAQ
10 Year Yield Increasing 10 Year Rate Change 7.22% 8.42% 11.30%
1st Year President Election Cycle 6.73% 8.35% 10.22%
GDP between 2% and 3% GDP 5.23% 3.27% -11.52%
Years that end with 7 Years ending in 7 2.75% 9.03% 8.38%
Year after Strong Returns Market Change 5.62% 8.72% 10.27%
Unemployment between 4.0% and 5% Unemployment Rate 7.37% 1.78% 11.05%
Inflation between 1% and 2% Inflation Rate 9.13% 10.08% 14.02%
Long run average Long Run Average 8.22% 8.39% 12.09%
Total Average 6.54% 7.26% 8.23%

 

I start my analysis with fixed income, looking at the directional move in the US 10-year bond yield.  My assumption is that bond yields will be moving higher over 2017 due to the current market thinking of three rate hikes during 2017. The second item I looked at was 2017 being the 1st year for a new President. The third point I looked at was GDP and years during which GDP grew by between 2 and 3 percent. The latest projections from the US Federal Reserve as well as other institutions such as the World Bank and the IMF largely fall within this range. I want to point out that the NASDAQ data is a little skewed for this GDP assumption as there have only been two times when this series of variables have occurred. The fourth scenario I looked at was a very simple scenario where I pulled all of the previous years that ended in “7” (I have some reservations about using this data set in my analysis since it only has a handful of data points, but it is interesting). The fifth set of data I looked at was what happens the year following a move greater than or equal to the move we saw in 2016 on each of the indexes. The sixth indicator I looked at was the overall rate of unemployment in the US, which I estimated would be between 4 and 5 percent at year-end for 2017. The seventh indicator I looked at was the inflation rate here in the US and what happens during years that we see inflation between one and two percent. The final data set that I looked at was all of the historical years for each of the indexes and what the average return has been. All of the data was analyzed using the full time series of data on the three major indexes for the Dow. The data went back to 1930 for the Dow, to 1958 for the S&P 500 and to 1972 for the NASDAQ.

 

I’m expecting a below average year from the numbers above in the scenario analysis. There appears to be many things that could be positive for the US in 2017, but there are still a number of global uncertainties that could impact the global financial markets. China is a big unknown over how it will handle the new US administration. Russia is a wild card, to say the least. North Korea is getting closer to a nuclear capable missile (from the latest information from a defector in the UK). Protectionism threatens a global trade war among super powers that could lead to everyone being worse off.  All of these could have adverse impacts on the markets, but in the end, financial markets around the world are very adept at climbing the proverbial wall of worry. Being able to adjust and manage investments in a manner that is capable of assessing opportunities and threats and then taking action on the analysis provides the best opportunity to take advantage of the ever changing investment world in which we find ourselves living.

 

 

Have a great 2017!

 

Peter Johnson

 
Full Year 2016 in numbers:

 

The following is a numerical representation of 2016. I will start with the three major US indexes and the VIX, which turned in performance as follows:

 

Index 2016
Dow 13.42%
S&P 500 9.54%
NASDAQ 7.50%
VIX -22.90%

 

The returns in the above table are a little misleading as it looks like a good year from a returns standpoint and yet is was a very difficult year for the markets. With a more than 10 percent correction out of the gate in January and very spiky upward movement on oil and the results of the election, the year did not feel like a good year for the markets. In fact, without the impact of the Trump victory in early November, we very easily could have seen the markets end the year in negative territory.

 

Globally, the top three performing indexes for 2016 were:

 

Country Index 2016
Venezuela Caracas General 117.3%
Egypt CASE 30 76.2%
Russia RTS Index 52.2%

 

 

 

Politics played a very big part in the top three performing indexes in 2016. In Venezuela, out of control inflation within the country is forcing anyone who has access to money to put it into the country’s stock market, which is essentially made up of a handful of companies, hoping that they will at least be able to keep up with inflation and maintain their value through the eventual regime change. Egypt’s stock market rocketed higher during the last three weeks of 2016 because the country allowed its currency to free float, which in turn brought a huge inflow of foreign investors who drove the beaten down stock much higher, very quickly. Russia is the oddity of the group as it suffered under the low price of oil throughout the year, especially during the start of the year, but now seems to be gaining some power and is seeing its stock market increase. This one could have legs if the incoming US administration tries to greatly improve the relationship the US has with Russia through the lowering of sanctions or other actions that could benefit the country.

 

Globally, the bottom three performing indexes for 2016 were:

 

Country Index 2016
Denmark OMX Copenhagen -11.9%
Portugal PSI 20 -11.9%
China Shanghai Composite -12.3%

 

China turned in the worst performance globally in 2016 as the economy in China slowed down to a growth rate that in all likelihood is well below its stated 6.5 percent growth. While it is not a hard landing for any economy in a classical point of view, when an economy goes from double digit growth to mid-single digit growth, it feels like a hard landing and the stock market in China reflects this. Portugal having the second worst performing stock index was not entirely surprising as the country has struggled for the last several years under the terms of the bailouts that occurred three years ago when the PIIGS all looked to be in financial trouble. Denmark turned in poor performance for 2016, mainly due to the large concentration of the main stock index in pharmaceuticals and healthcare companies. Novo Nordisk, the global pharmaceuticals company, made up a large part of the decline on its own, falling almost 40 percent for the year. When that single company is more than 25 percent of your total index in terms of value, it is hard to overcome such a decline.

 

For those of you who follow and are interested in the style box performance of various investments throughout the year, below is the standard style box performance for 2016:

 

Style /  Market Cap Value Blend Growth
Large Cap 17.26% 12.03% 7.01%
Mid Cap 19.79% 13.69% 7.22%
Small Cap 31.98% 21.60% 11.68%

Value was the clear winner in 2016, when looking at the style boxes, performing better than both blend and growth when looking at each of the different market cap areas. Small caps were better than mid and large caps and mid caps were better than large caps. Going into the election here in the US, this table was almost perfectly flipped, with small caps being the worst performing and growth beating value. It is truly amazing how fast things can turn around in the financial markets.

 

The following table gives the performances for the top-performing sectors for 2016:

 

Sector Change
Semiconductors 44.12%
Regional Banks 32.32%
Natural Resources 30.09%
Energy 27.88%
Oil & Gas Exploration 24.98%

 

 

Semiconductors continued to enjoy their time in the spotlight as the Internet of things (IoT) continued to evolve in 2016, calling for more and more semiconductors; demand only seems to be going one way for the industry as a whole. Regional banks made it into second place thanks to the Trump rally; prior to that, they were middle of the pack. The final three sectors that rounded out the top 5 for 2016 were all oil related as natural resources benefited from rising oil prices, as did energy in general and oil and gas exploration. These were longer term trends in 2016 that were mainly based on OPEC and its decision to freeze production and its promise to cut production in 2017.

 

The bottom-performing sectors for 2016 were as follows:

 

Sector Change
Consumer Staples 1.24%
Healthcare Providers 1.01%
Healthcare -2.69%
Pharmaceuticals -11.74%
Biotechnology -21.41%

 

Biotechnology and Pharmaceuticals came under a lot of pressure during 2016 as the political environment made it easy to go after big corporations that didn’t seem to care about the people their medicines helped. This was highlighted during the year by one former hedge fund manager who used to run a pharmaceuticals company that decided to raise the price of his company’s drug by 1,500 percent on little more than a whim. The election didn’t help the industry as both sides took aim at drug pricing and vowed to hold the companies accountable. The spillover from Pharma and Biotech was seen in Healthcare and Healthcare Providers as well, as these two sectors struggle with drug pricing as well as the unknowns of the Affordable Care Act and the spiraling out of control costs of medical insurance. Consumer staples took the fifth spot form the bottom for 2016 as many of the consumer staples companies were hit in the rising rate environment combined with uncertainty over the speed at which the Fed will be raising rates in 2017.

 

Commodities continued to see very volatile trading throughout 2016. Returns were as follows:

 

Commodities Change
GS Commodity Index 10.12%
Gold 8.03%
Silver 14.56%
Copper 16.76%
Oil 6.55%

 

Overall, commodities turned in a good year, thanks to a late-in-the-year rally. Metals all moved higher, but much of their movement was experienced in the first half of the year and faded toward the close of 2016. Oil ended up with a gain of only 6.5 percent for the year, which may seem small, but is a gain of almost 50 percent compared to where oil was trading in early February.

 

With 2016 starting out the year looking like the Fed would increase rates and the Fed delivering the single rate hike in December, the US fixed income market changed very little over the course of the year:

 

Fixed Income Change
Long (20+ years) 1.18%
Middle (7-10 years) 1.01%
Short (less than 1 year) 0.41%
TIPS 4.68%
Long US Dollar 3.16%

 

 

Much like other asset classes, the benign movement seen in the overall yearly fixed income movement figures doesn’t tell the full story of 2016. Long bonds, for example, were up nearly 20 percent from the start of the year through the end of June, only to fall by almost 20 percent during the last half of the year, with losses accelerating as the Fed moved on rates in December. Other similar movements were seen to a lesser extent on shorter maturity fixed income throughout the year. TIPS rallied at the end of the year as the inflation protection aspect of the bonds brought a lot of value in light of the proposed spending plans of the new administration. Overall, the US dollar gained a little more than 3 percent during 2016 against a basket of international currencies. As mentioned above, however, this trend does not look like it will be slowing

For a PDF version of the below commentary please click here fourth-quarter-2016-in-review

Fourth Quarter 2016 in Review: One word pretty much sums up the Fourth Quarter of 2016 in terms of investments and that word is “Trump.”

 

The meteoric rise of a B list celebrity best known for saying “You’re fired” caught nearly all investors by surprise when he actually pulled off one of the greatest election upsets of modern time here in the US. The potential impacts of having a political outsider holding the highest office in the US has sent waves through the stock market and politics as usual seems to have been tossed out the window. For its part, the US financial markets, caught completely by surprise on Election Day, turned in results that even Trump was probably a bit surprised by.

 

The fourth quarter of 2016 started out with OPEC announcing the framework of a deal by the group to freeze and ultimately cut oil production, but the market was left unimpressed and uncertain that OPEC would actually be able to hammer out a real deal. OPEC surprised the markets about two months later when it did outline the actual terms of a deal to cut production and it pushed oil prices up toward $50 per barrel. However, OPEC was playing second fiddle to what was going on in US politics throughout the quarter as the Presidential election became very heated during the debates and leading right up to Election Day. There were three Presidential debates and one vice Presidential debate during the fourth quarter, with the markets seeming to move on each debate.

 

The debates were largely won by Hillary Clinton as she stuck to the script she had been using all throughout the campaign cycle and baited and waited for Trump to go off the deep end on live TV. For his part, Trump in the debates did not say anything that was fatal to his campaign, despite some serious gaffs at times. Wiki leaks and apparently the Russian government and FBI here in the US had a hand in the election as all three seemed to form a consorted effort against Hillary Clinton through the release of e-mails internal to her campaign and constant legal questions about her backup sever at her home while she was Secretary of State. The financial markets and investors had to contend with the swing from the media talking about a potential Democratic sweep in Washington DC in mid-October to the reality of the Republican sweep that unfolded in the polls. US politics was not the only factor in the market movements; the US Federal Reserve finally managed to increase rates during 2016.

 

Chair Yellen and other members of the Federal Reserve took it down to the wire, much like they did in 2015, but they did manage a meager quarter of a percent increase in interest rates in 2016 at the last possible meeting. It was obvious that the FOMC was not going to raise rates at the October or November meetings out of fear of looking like it was playing politics, but after the surprise win by Trump, the Fed was almost forced into raising rates with how much the financial markets jumped higher following the election. The reasons for the rate hike were numerous and included the US housing market being at an all-time high, unemployment being well below target, earnings for US companies having gone from negative to positive in the third quarter, increased holiday spending and inflation picking up with oil prices and the potential for vast amounts of government spending under the new administration. The markets took the rate hike in stride and even failed to blink much when, in the announcement and ensuing press conference, Chair Yellen made it seem like at least three potential rate hikes were on the table to 2017. You may remember that going into 2016 it looked like four potential hikes were on the table and only one actually happened, so take their prediction of three hikes with a large grain of salt.

 

The market movements of the fourth quarter are best summed up by being Trump Drunk in the month and a half following the election, particularly, and throughout the rest of the fourth quarter. In looking at the three main indexes here in the US, there was clearly a Trump driven rally from the day after the election through early December, during which the main indexes each gained more than 8 percent, with the Dow leading the way higher, gaining 11.3 percent. With the Trump Drunk rally removed from the quarterly performance, the three major US indexes would have posted declines of between 3.3 and 6.9 percent for the quarter. But, the three broad US indexes do not show just how much movement there really was in the markets during the fourth quarter. The movements are easier to see when the different market caps of the US markets are compared:

trump-drunk-rally

You can see in the above tables that both in the time period leading up the election and in the time period following the Trump rally, all three of the major market cap segments of the markets were down. If the outcome of the election had been different or if the markets had not turned around from a more than 800 point decline on the futures markets seen election night before Trump’s acceptance speech, the fourth quarter of 2016 would have been very different. While the US election stole the majority of the spotlight during the fourth quarter, there were also significant developments in areas of the world other than the US, such as in Europe and Asia.

 

In Europe, the Brexit was the primary focus of the first half of the fourth quarter as Theresa May’s government continued to move toward an early 2017 Article 50 announcement. The legal system in the UK, however, stepped into the foray when it announced that the PM may not have the power to invoke Article 50, a measure that is currently being appealed by the government. The ECB, for its part during the quarter, also moved markets when it announced the extension of the latest round of quantitative easing, while at the same time lowering the overall amount of bonds that the bank will purchase each month. Later during the fourth quarter, Italy voted “no” on a referendum that Prime Minster Matteo Renzi staked his political career on, leading to further uncertainty about the stability of the Italian banks and Italy’s membership in the EU. In Asia, the bulk of the economic data that was released during the fourth quarter pointed toward a continued slowdown as the economy is now expected to grow between 6 and 7 percent during 2017, according to the latest figures released by the government in China. China also moved lower in December as President-Elect Trump made it pretty clear that he was not going to be a favorite US President of China as he wants more competition and more goods and products being made here in the US.

 

Looking forward to the first quarter of 2017, the markets will continue to focus on President Trump and his first 100 days in office. Can he do all of the things that he has said he wants to do? Will Congress go along with some of his more grand plans? Will the markets continue to believe that everything will go right for the new administration? These are all questions that only time will answer, but for the time being the markets look elevated given the underlying economics and the fact that they have run so far on the hope of change in 2017.

 

Peter Johnson

 

 

Fourth Quarter 2016 Numbers:

 

The following is a numerical representation of the fourth quarter of 2016. I will start with the three major US indexes and the VIX, which turned in performance as follows:

 

Index 4th Quarter 2016
Dow 7.94%
S&P 500 3.25%
NASDAQ 1.34%
VIX 5.64%

 

As mentioned above, the Trump bump was the story for the fourth quarter of 2016 because without the large upward move on the hopes of the new administration, all three of the major US indexes would have been significantly lower during the fourth quarter. Volume for the quarter was actually elevated and above the three-year average quarterly volume, again thanks in large part to the US election. The VIX turned in a relatively tame move of only 5.6 percent during the quarter, but this too was skewed by the election. Going into the election night, the VIX was up nearly 70 percent between the end of September and November 4th, only to fall by 40 percent between Election Day and the end of the year.

 

Globally, the top three performing indexes for fourth quarter of 2016 were:

 

Country Index 4th Quarter 2016
Venezuela Caracas General 144.6%
Egypt CASE 30 56.6%
Pakistan KSE 100 17.9%

 

Venezuela posted the top index performance when looking at all global indexes, mainly on the hyperinflation the country is experiencing and the hope of a regime change with Maduro being tossed out of office.  Egypt came in second with a strong gain thanks to the un-pegging of its currency from the US dollar, which was a prerequisite for many foreign investors that had kept them from investing in the country. Once the peg was removed, foreign money flowed into Egypt’s stock markets, helping to run it up to multi-year highs during the fourth quarter of 2016. Pakistan rounded out the top three performing indexes for the quarter, primarily due to foreign aid and assets continuing to move into the country and the fact that the country was relatively stable, politically, during the quarter.

 

Globally, the bottom three performing indexes for fourth quarter of 2016 were:

 

Country Index 4th Quarter 2016
Hong Kong Hang Seng -5.6%
New Zealand S & P/NZX 50 -6.5%
Philippines PSEi -10.3%

 

 

The common theme for the indexes that turned in the worst performance of fourth quarter is that they are all major trading partners with China and at great risk to any potential trade war that may start between the US and China. The Philippines, however, also has the added bonus of a newly elected President who is openly against the current US administration and taking radical steps to combat drug use within his country.

 

For those of you who follow and are interested in the style box performance of various investments throughout the quarter, below is the standard style box performance for fourth quarter 2016:

 

Style /  Market Cap Value Blend Growth
Large Cap 6.80% 3.88% 1.10%
Mid Cap 5.51% 3.20% 0.42%
Small Cap 14.24% 9.02% 3.73%

The fourth quarter, when looking at the style boxes, really is all about riding the Trump rally. If the US turns more nationalistic than it has been in the past, it benefits companies that build and produce in the US for the US. These companies are primarily slower growth companies more orientated toward value investments and they are also smaller companies in general. We saw this theme and thinking play out almost perfectly in the style boxes for the quarter as small and value companies were clearly the largest gainers for the quarter, while Growth companies greatly lagged and mid and large cap companies were on par with each other during the quarter.

 

The following table gives the performances for the best sectors for the fourth quarter of 2016:

 

Sector Change
Regional Banks 29.52%
Financial Services 21.56%
Broker Dealers 19.38%
Financials 13.91%
Insurance 12.72%

 

Much like the other major movements in the US during the fourth quarter, the top five performing sectors of the market were all the largest beneficiaries of the Trump bump and all related to financials. Financials should benefit from two major factors, those being deregulation and rising interest rates, both of which look highly likely under the new administration.

 

The bottom-performing sectors for the fourth quarter of 2016 were as follows:

 

Sector Change
Healthcare -5.15%
Consumer Staples -6.21%
Medical Devices -8.16%
Biotechnology -8.29%
International Real Estate -8.70%

 

In contrast to everything financial, healthcare related companies made up three of the bottom performing sectors of the markets during the fourth quarter, thanks in large part to uncertainty over the future of the Affordable Care Act and potential government interference in the pricing of medications. International real estate saw the largest losses of any sector during the quarter, due mainly to the increasing value of the US dollar. Consumer staples also made the list of poor performing sectors as this was an area of “safe” investments that was sold during the Trump rally in order for investors to purchase higher risk investments in their portfolios.

 

Commodities produced very mixed results during the fourth quarter of 2016. Returns were as follows:

 

Commodities Change
GS Commodity Index 5.74%
Gold -12.76%
Silver -16.98%
Copper 14.35%
Oil 7.23%

 

Oil turned in a solid gain of more than 7 percent during the quarter, thanks to the announced OPEC deal to cut production from current levels during 2017 in order to try to reign in the supply side of the oil equation. While there is still great skepticism about whether OPEC members will actually cut supply and if non-OPEC countries like Russia will go along with it, for the time being the deal got the bump in prices they had been trying for. With the potential for increased industrial spending through massive infrastructure projects here in the US under the new administration, Copper jumped higher during the quarter and was one of the largest commodity beneficiaries of the new administration’s rhetoric. The historical safe haven assets of Gold and Silver saw large selloffs during the fourth quarter as investors did not see the need for safety in their investments in light of the Trump victory. Overall, commodities for the fourth quarter, as measured by the Goldman Sachs Commodity Index (GSCI), turned in a positive quarter, thanks in large part to the movement of oil.

 

With the US Fed finally increasing interest rates during the fourth quarter, it was not surprising to see that fixed income investment pushed lower over the course of the quarter:

 

Fixed Income Change
Long (20+ years) -12.64%
Middle (7-10 years) -5.77%
Short (less than 1 year) 0.05%
TIPS -2.64%
Long US Dollar 7.21%

 

Bond math is pretty clear and it is fairly easy to figure out how prices will change given rising interest rates. Prices of outstanding bonds are pushed lower as interest rates move higher. The longer the duration (maturity) of a bond, the larger impact the interest rate changes will have on the price of the bond. Long bonds during the quarter fell by more than 12 percent, something that we had not seen in the market for a significant period of time. The middle of the yield curve declined by almost 6 percent, while the very short duration bonds saw a small bump upward in prices, mainly prior to the Fed raising rates during its December meeting. TIPS (inflation protected bonds) got a lot of help from the inflation protection piece of the bonds during the fourth quarter, but it was not enough to overcome the downward pressure that was on the duration side of the bond as they turned in a -2.6 percent return for the quarter. The US dollar turned in a great quarter as the markets took the Make America Great Again and ran with the thought that it means the US dollar will be strengthening under the Trump administration, which looks likely at this point.

For a PDF version of the below commentary please click here weekly-letter-1-3-2017

Commentary quick take:

 

  • Major developments:
    • Holiday trading week volume was low, as expected
    • Markets technically broke down

 

  • US:
    • No major developments in the US

 

  • Global:
    • No notable developments around the world in the financial markets

 

  • Technical market view:
    • All three major US indexes broke down
    • Support level being tested on NASDAQ
    • VIX moved off of the 52-week low point last week

 

  • Hybrid investments strategy update:
    • There were no changes implemented last week in the hybrid models
    • 2016 model performance wrap-up

 

  • This week for the markets:
    • Volume should pick back up this week
    • January Effect: will we see it this year?
    • Focus will continue to be on the new administration

 

  • Interesting Fact: Naming of January

 

Major theme of the markets last week: Holiday trading week

low-volume-cartoon-1-3-17

Low volume was the name of the game last week in the US and global financial markets as many investors and professional money managers took time off for the holidays. With volume the lowest of the year and even lower than it was during the holiday week the past several years, it was not surprising to see that the markets gave back some of the gains as cooler trading heads prevailed and trading was done because of actual company changes and not just the hopes of future upward movement. Not a lot can be read into the end-of-the-year trading from last week, but the Dow did fail to end 2016 above the 20,000 level. It seems likely that early in 2017 the Dow will probably make another run at the psychological level once everyone gets back in the swing of investing.

 

US news impacting the financial markets:

january-effect-1-3-17

Last week was a very quiet week for the markets as there was virtually no news that made an impact on the overall markets. One aspect of the markets that came up two weeks ago and a little more last week was the thought that the markets were being held up by investors not wanting to sell in 2016 as there is an increasing likelihood that capital gains taxes could be lower in 2017 than they were in 2016. While this theory may have some relevance, it seems less likely that many pundits made it out to be because a very large percentage of investments for most people are within tax sheltered accounts, which would have no impact from taxation. This lack of selling in December compared to typical years could have a noticeable impact on the January Effect.

 

The January Effect as defined by Investopedia is:

 

“A seasonal increase in stock prices during the month of January. Analysts generally attribute this rally to an increase in buying, which follows the drop in price that typically happens in December when investors, engaging in tax-loss harvesting to offset realized capital gains, prompt a sell-off. Another possible explanation is that investors use year-end cash bonuses to purchase investments the following month.”

 

The January effect used to be seen very easily, but since the late 1990’s it has become less pronounced as investors have tried to jump in early (buy in December) in order to ride the potential gains in January. By jumping in in December, investors essentially pulled forward some of the gains that would have otherwise happened in January, when they would originally have been buying.


Global news impacting the markets:

 

Global markets were a mix of open and closed last week, depending on the region of the world one looked at, and it was a very uneventful week. Aside from a few pieces of economic updates in countries like the UK, Japan, and China, all of which came in very close to market expectations, there was nothing really going on. The end of the trading year around the world was an uneventful affair, which was a nice end to a year that had its fair share of surprises.

 

Technical market review:

 

The three major US indexes finally broke from the trading channels (yellow lines below) that had been in place since the US Election in November, breaking down below the channels. Each trading channel on the charts below was drawn based on the rough movements of the markets seen since election night. The red line on the VIX chart remains the 52-week average level of the VIX, which the index is currently solidly below.

4-charts-combined-1-2-17

Now that we have finally seen a break down in the very fast moving rally that occurred post Trump Election, we will have to wait and see just how much the markets give back in the coming weeks. While the breakdown was inevitable, some technical market watchers will say that this break down is less important than if it was done during a normal trading week on normal volume and they would be correct. Volume was so low last week that the downward movement of the market was almost entirely due to a few large companies pushing lower. We do need to wait until we have a solid week of data and volume in order to fully proclaim that the trading channel is in fact fully broken. Going off of where each of the indexes ended 2016, it looks like there is a limited amount of technical support for the NASDAQ (lower left pane above) near the current price level, while it looks worse on the S&P 500 (upper left pane above) and the Dow (upper right pane above). The next support level for the S&P 500 stands 1.1 percent below the year-end closing price and the Dow has support a full 3.2 percent lower than it closed out the year. One concerning thing about the rally in the markets following the election is that it was a steady uptrend, for the most part, with very few breaks along the way, so after the previously mentioned support is broken to the down side (if it is), there really isn’t any further technical support until you get back down to the lows seen prior to the election. It seems unlikely that the hope that pushed these markets up since the election will just dissipate immediately and the markets give back all of their gains, but anything is possible with an irrational market.

 

Hybrid model performance and update

For the shortened trading week ending on 12/30/2016, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

 

  Last Week 2016 YTD Since 6/30/2015
Aggressive Model -0.67% 0.94% 5.28%
Aggressive Benchmark -0.14% 5.16% -0.19%
Growth Model -0.54% 1.04% 4.42%
Growth Benchmark -0.10% 4.19% 0.15%
Moderate Model -0.40% 0.81% 3.56%
Moderate Benchmark -0.07% 3.16% 0.37%
Income Model -0.32% 0.74% 3.38%
Income Benchmark -0.04% 1.78% 0.47%
S&P 500 -1.10% 9.54% 8.52%

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

There were no changes in the hybrid models over the course of the previous week as they had already been repositioned for the start of the year over the past month and a half. Currently, the hybrid models are invested in low volatility dividend paying equities, coupled with some very specific themes that are likely to play out in 2017. A stronger US dollar and increasing financial and energy sectors are the three main themes that the models start 2017 invested for, as each seems likely to benefit from the incoming administration. 2016 was a difficult year for the hybrid models, as it was a year of extreme political events having profound impacts on the global financial markets.

 

The start of the year was not difficult for the models as the more than 10 percent decline was greatly mitigated by correctly being positioned for a risk-off scenario, which ended up playing out. Markets here in the US rallied from the low in the middle of February through the middle of April, as did the hybrid models and then the markets sold off on fears of a Fed rate hike from April to mid-May. The hybrid models were once again well positioned for this downward movement of the markets and largely did not participate in the downside. Brexit occurred toward the end of June and once again the hybrid positioning was very beneficial with the models falling around 1 percent, while the markets lost more than 5 percent in just two days. Taking advantage of the knee jerk reaction of the markets to the Brexit, the hybrid models made some purchases in the aftermath of the Brexit that turned out to be great buying points. From mid-July until Election Day the Hybrid models were adjusted from time to time as opportunities came up, but overall the models were dragged down by the overweighting of the solid dividend paying companies that make up the core of the models. Some of the negative movements were due to currency movement hurting bottom lines, some of it was due to selling of positions that were perceived as “safe” by investors in favor of more risky assets and some of it was just due to companies operating in the wrong sectors of the markets, such as AmerisourceBergen being taken down along with the healthcare sector.

 

Following the surprise US election, the three major US indexes jumped higher with Industrials, Financials and Energy leading the way. The positioning for the election in the hybrid models turned out to be about as incorrect as it could have been. The hybrid models were positioned for a Hillary victory and a potential small boost in the markets from such an outcome and they were also well positioned for a surprise Trump victory and the common thought that the markets would crater if he won. In looking at the futures numbers on election night when the Dow was down more than 800 points, it looked like the defensive positioning was really going to pay off. Then Trump gave his acceptance speech and all of the negativity changed and the markets reversed course by more than 1,000 point in less than 6 hours. This was the most surprising aspect of the election, as there was virtually no one who, even knowing Trump was going to win, would have thought the markets would have moved higher. Having little to no exposure to the sectors of the markets that rallied the most on the Trump victory greatly hurt hybrid returns on a relative basis when compared to the indexes. A second fault in the aftermath of the election was not moving fast enough into areas that were rallying hard on Trump. It looked like the rally was going to be short lived as investors rationalized that Trump is one person who, while very powerful, does not control the financial markets. This, however, also failed to come to fruition—at least thus far. After the initial movements of the Trump rally, the hybrid models were adjusted to the new investment environment. Steps were timid and slow, but they were made. By the end of 2016, the hybrid models had been repositioned for the new administration with positions in sectors such as financial, energy and the US dollar having prominent positions within the models. Fixed income made an appearance, being largely absent for 2016, as two keys areas of the fixed income market looked very attractive following the Fed’s rate hike: senior loans and high yield global short duration bonds. At the current time, there is probably the most differentiation between the different levels of risk being taken in each of the hybrid models than there has been in the past three years. In the end, missing the Trump rally of 2016 due to very unfavorable “A” symmetrical risks surrounding the election was almost the entire reason for the models underperforming both the broad markets and their respective benchmarks. It was a positive year for the markets, but it was not a good year for the models. Going forward, it looks like the models are well positioned for what is on the horizon, while maintaining the ability to be nimble in the event that things do not go as planned for the new administration.

 

Market Statistics:

 

Last week, the rally continued for all three of the major US indexes, despite volume being very low:

 

Index Change Volume
Dow -0.86% Below Average
S&P 500 -1.10% Below Average
NASDAQ -1.46% Below Average

 

As mentioned above, the market broke down on very low volume last week, while many investors took the week off. While the percentage declines on the broad indexes were significant, the implications of the declines should be taken less so than if the downward move was done on normal trading volume.

 

The following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change   Bottom 5 Sectors Change
Residential Real Estate 2.31%   Telecommunications -1.51%
Gold 1.65%   Broker Dealers -1.55%
Materials 0.16%   Oil & Gas Exploration -2.04%
Utilities 0.16%   Semiconductors -2.35%
Consumer Staples -0.08%   Biotechnology -2.55%

 

The sector movements last week were virtually random in terms of which sectors came out on top and which came out at the bottom. Safe haven assets did seem to be making a weak stand last week as Gold, Unities, Real Estate and Consumer Staples took four of the top five spots. The other side of the risk spectrum also held true last week as the more risky sectors of Biotechnology, Semiconductors, Oil and Gas Exploration and financial Broker Dealers made up four of the bottom five performing sectors of the markets.

 

After posting losses almost across the board last week, thanks to continued fallout from the Fed, this week fixed income investments in the US posted gains:

 

Fixed Income Change
Long (20+ years) 0.91%
Middle (7-10 years) 0.83%
Short (less than 1 year) 0.00%
TIPS 0.67%

Global currency trading volume was way below average last week, with the holiday closing down many of the global currency markets. Overall, the US dollar declined 0.64 percent against a basket of international currencies. The best performing of the global currencies last week was the Egyptian Pound, which gained 3.38 percent against the US dollar as it continues to trade a bit erratically after being unpegged from the US dollar. The worst performance among the global currencies was seen in the Uruguay Peso, as it declined by 3.24 percent against the value of the US dollar. This is not a currency I follow, so I have little clue as to why it was down so much last week.

Commodities were higher last week as they ended 2016 in unison:

Metals Change   Commodities Change
Gold 1.56%   Oil 1.38%
Silver 1.34%   Livestock 2.05%
Copper 1.30%   Grains 1.70%
      Agriculture 1.11%

The overall Goldman Sachs Commodity Index gained 1.75 percent last week, with gains coming from every commodity included in the index. Oil advanced 1.38 percent in a week of slow trading. All of the metals pushed higher as Gold advanced 1.56 percent, while Silver gained 1.34 percent and the more industrially used Copper pushed higher by 1.30 percent. Soft commodities were positive last week, with Agriculture overall gaining 1.11 percent, while Livestock advanced 2.05 percent and Grains posted gains of 1.70 percent.

Top 2 Indexes Country Change   Bottom 2 Indexes Country Change
Caracas General Venezuela 11.85%   NASDAQ USA -1.46%
Jakarta Composite Indonesia 5.35%   Nikkei 225 Japan -1.61%

Last week was a good week for global financial markets as 71 percent of the markets posted gains. The best performing index last week was found in Venezuela, with the Caracas General Index turning in a gain of 11.85 percent for the week. The trading in Venezuela has become nothing short of head spinning at this point as the index seems to be either gaining or losing more than 10 percent every week as the country battles a very weak President and the repercussions of hyperinflation. The worst performing index last week was found in Japan, with the Nikkei 225 Index turning in a loss of 1.61 percent as the economic data that has come out over the past weeks continues to point toward Japan struggling economically in 2017, much like it has for the past decade.

The VIX was one asset that was on the move last week as we saw an outsized gain in the fear index given the relatively small movements that we saw in other assets last week. The VIX gained 22.73 percent last week, ending the week and the year well below the lowest point that we saw on the VIX over the past year, which occurred just two weeks ago. The current reading of 14.04 implies that a move of 4.05 percent is likely to occur over the next 30 days. The direction of the move over the next 30 days is unknown.

Economic Release Calendar:

 

Last week being the week between Christmas and New Year was the reason there were very few economic news releases, with only one that actually significantly beat market expectations:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Neutral 12/27/2016 Case-Shiller 20-city Index October 2016 5.10% 5.10%
Positive 12/27/2016 Consumer Confidence December 2016 113.7 109.8
Neutral 12/30/2016 Chicago PMI December 2016 54.6 55.2

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

The first release of the week last week came out on Tuesday and was the Case-Shiller 20 City home price index, which surprised no one when it posted a gain of 5.1 percent on a year-over-year basis, which was exactly as the market anticipated. Later in the day on Tuesday the government released its latest reading for consumer confidence, which easily exceeded market expectations, coming in at 113.7, while the market had only been expecting 109.8. Consumer confidence has been very elevated since the Trump victory, yet spending has been lagging. Hopefully, in 2017 spending will start to pick up as confident consumers spend more historically than consumers who are not very confident in the current economic situation. Wrapping up the week and the year last week on Friday was the release of the Chicago area PMI for the month of December, which came in very close to market expectations and had no noticeable impact on the markets. Maybe there was just no one left watching the economic news releases late in the day on the last trading day of the year.

 

This first trading week of 2017 holds more economic news releases than last week, but we are still below average in terms of total number of releases. The releases with the highest potential impact on the markets are highlighted in green below:

 

Date Release Release Range Market Expectation
1/3/2017 ISM Index December 2016 53.6
1/4/2017 FOMC Minutes December 2016 NA
1/5/2017 ADP Employment Change December 2016 170K
1/5/2017 ISM Services December 2016 56.6
1/6/2017 Nonfarm Payrolls December 2016 175K
1/6/2017 Nonfarm Private Payrolls December 2016 170K
1/6/2017 Unemployment Rate December 2016 4.70%

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This year’s economic news releases start on Tuesday with the release of the ISM index for the month of December, which is expected to show little change from the 53.2 level that was reported for November and to remain solidly above the inflation point of 50. On Wednesday, the FOMC meeting minutes from the previous meeting are set to be released with few surprises expected in the minutes. The markets will be looking for any indications about how Fed officials felt the new administration will perform and the potential economic impact the administration’s performance could have on the economy. On Thursday the first of the employment related releases of the week is released with the ADP employment change figure for the month of December, which is expected to be about 50,000 jobs lower than it was in November. The Services side of the ISM is also released on Thursday and should largely track in the same direction as the overall ISM released earlier in the week. On Friday, the overall unemployment rate for the month of December is expected to tick up to 4.7 percent from the November level of 4.6 percent; nonfarm public payrolls are expected to be a little worse than in November, while nonfarm private payroll figures are expected to be about 20,000 jobs better than they were in November. As always, the labor force participation rate as well as wage growth will also be reported and could have a greater impact on the markets than the headline unemployment rate and payroll figures.

 

Interesting Fact —Thank the Roman god Janus for the month of “January”

 

January is named after the Roman god Janus, who was always shown as having two heads. He looked back to the last year and forward to the new one. The Roman New Year festival was called the Calends and people decorated their homes and gave each other gifts.

 

Source: www.popculturemadness.com

For a PDF version of the below commentary please click here weekly-letter-12-27-2016

Commentary quick take:

 

  • Major developments:
    • Low volume pre-holiday trading week
    • Markets saw small gains last week

 

  • US:
    • Three rate hikes still on the table for 2017
    • GDP picked up in the third quarter

 

  • Global:
    • Italian Banks see trouble mount

 

  • Technical market view:
    • The three major indexes stayed within their trading channels
    • Technical strength is still the strongest on the Dow
    • VIX moved slightly lower

 

  • Hybrid investments strategy update:
    • Increased low volatility holding
    • Nearly complete with shifting toward 2017 allocation

 

  • This week for the markets:
    • Very slow time of year for the markets

 

  • Interesting Fact: Did you have a white Christmas?

 

Major theme of the markets last week: Lead up to Christmas holiday week

funny-12-26-16

Last week was the week before Christmas and, as is typical, investors’ minds seemed to be on much more than the financial markets. Americans were clearly spending money this holiday season. In a report produced by Forbes, the 2016 holiday spending figure was $1 trillion, a number President-Elect Trump quickly took credit for via his Twitter account. If the $1 trillion spending number holds up through further validation, it would represent a 3.6 percent increase in spending over 2015 and the spending should go a long way toward bolstering some retailers’ bottom lines. Online sales are thought to have accounted for only $117 billion in sales (an increase of more than 7 percent from last year), according to American Express Spending & Saving Tracker, and 76 percent of holiday shoppers have said they are using their mobile phones to help with their holiday shopping. Clearly, there is a continued shift toward online shopping. This year, we also saw a number of brick-and-mortar retailers jump further into the online shopping experience, with companies such as Wal-Mart and Target boosting the speed of their free shipping and order fulfillment to compete with online retailers such as Amazon.

 

US news impacting the financial markets:

 

There were very few developments in the financial media in the US that impacted the overall markets last week and many people enjoyed some end-of-year time off. On Monday last week, Federal Reserve Chair Janet Yellen made a few headlines as she addressed the graduating class at the University of Baltimore. Her primary message focused on employment and how the current US labor market is the best we have seen in the past 10 years. She cited unemployment being 4.6 percent overall and only 2.3 percent for individuals with college degrees. There was an initial, muted response in the fixed income market following her comments that seemed to indicate that the Fed is on track for three rate hikes during 2017, but this movement could have been entirely coincidental. One of the other major storylines from last week was the growth seen in the US during the third quarter of 2016.

 

On Thursday last week, the government released its latest revision (third estimate) to third quarter GDP, which was revised upward to 3.5 percent from the second estimate of 3.2 percent, which was released in mid-November. As you can see in the above chart that shows the various components of GDP, Personal Consumption Expenditures (PCE) (blue bars) was the primary driving force behind the solid growth in the markets. In fact, PCE was the second highest that we have seen during the third quarter looking back over the past 7 quarters, which means that individuals are driving the majority of the expansion, as is typically the case. It will be very interesting to see how the fourth quarter shapes up in terms of GDP growth as there seems to be a lot of enthusiasm (as measured by confidence indicators) surrounding Donald Trump coming into office, as well as strong spending during the holiday season. President-Elect Donald Trump made the final round of headlines last week as he continued to fill out his cabinet and close advisers with primarily independently wealthy individuals who have little to no experience in government work. The markets seem to still be cheering on the changes that look to be on the horizon, as things like lower taxes for both individuals and businesses seem to have taken top spots on the agenda for the incoming administration.

fred-data-12-26-16

Global news impacting the markets:

italian-bank-12-27-16

During a slow week for global financial news, the main news last week was about Italian banks and it was very negative. The world’s oldest continuous bank, Italy’s Monte de Paschi, failed to secure enough funds to pass ECB stress tests on liquidity. In plain terms, the bank is running out of assets and is on the edge of failing and needing a full blown bailout by the Italian government. According to a report released by the ECB last week, the bank’s capital shortfall currently stands at $9.2 billion, almost double what it was just three months ago and the situation, according to the report, is deteriorating quickly. Much like the banks in Greece last year, the Europeans are left with a problem of what do to with another failing bank. They do not want the depositors’ savings to get hit, while at the same time they do not want to wipe out either the stock holders or the bond holders. The public stock of Monte de Paschi is held in large part by older pensioners in Italy who own it as a matter of pride. The bond holders are arguing that the stock holders would have to be wiped out before they should have to take any losses, and the depositors are saying both the equity holders and the bond holders have to be wiped out before they should have to incur any losses. Even then, their deposits are supposed to be backed by the government of Italy, much like the FDIC insures against bank failures for US deposit accounts. The government in Italy, however, would like to stay out of the situation as much as possible. The government announced on Monday a $20 billion rescue package for some of the Italian banks to boost liquidity, but similar to Greece, the first rescue package will likely be far undersized for the problems that will likely come up in the next few months. This bailout comes despite there being a new temporary government in Italy that has formed, following the resignation of Matteo Renzi last month; a government that would rather coast along than make big decisions until formal elections are held, sometime in 2017. While the banking crisis in Italy is unlikely to spill over to the rest of Europe, it does add a little more uncertainty to a region that is currently dealing with problems on many different fronts as populism and nationalism seem to continue to sweep through the region.

 

Technical market review:

 

The trading channels (yellow lines below) drawn last week held up over the previous week with the markets moving in a primarily sideways fashion. Each trading channel on the charts below was drawn based on the rough movements of the markets seen since election night. The red line on the VIX chart remains the 52-week average level of the VIX, which the index is currently solidly below.

4-charts-combined-12-26-16

With each of the indexes now atop the lower end of their respective trading channels, we could be in for a break down if the markets fail to move higher this week, a week that typically sees very low trading volume. A breakdown occurs when the index fails to keep pace with the trading channel, meaning the index is not increasing at the same pace as the channel. In this case, the channel is rising very fast as the gains since election night have been very outsized, particularly on the Dow. While this has been occurring, the VIX (lower right pane above) has continued to wander aimlessly lower, falling intraweek last week to almost exactly the lowest point that we have seen over the past year. We are now within 30 days of inauguration day, so the thought of the VIX being low because that window of time had not yet been reached has been invalidated with time.

 

Hybrid model performance and update

For the trading week ending on 12/23/2016, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

 

  Last Week 2016 YTD Since 6/30/2015
Aggressive Model 0.51% 1.60% 5.97%
Aggressive Benchmark 0.04% 5.31% -0.05%
Growth Model 0.34% 1.57% 4.97%
Growth Benchmark 0.03% 4.30% 0.25%
Moderate Model 0.17% 1.20% 3.96%
Moderate Benchmark 0.03% 3.23% 0.44%
Income Model 0.06% 1.04% 3.69%
Income Benchmark 0.02% 1.82% 0.51%
S&P 500 0.25% 10.76% 9.73%

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

There was only one change in the hybrid models over the course of the previous week and that was to increase the low volatility S&P 500 positions in all of the models. The purchase was made from cash that was on hand in each of the models. Low volatility had been under a lot of pressure after Election night and through the Fed decision to raise rates at the December meeting, but it looks like that pressure is now starting to lift. If the pressure continues to lessen on the group, we could see returns outpace those of the broader markets as the group plays a bit of catch-up. At this point, the hybrid models are nearly positioned for the end of the year and the start of 2017. One aspect of the models that will likely be changing in the New Year is the selling of a few long held stocks. I held off on selling them at the end of 2016 as tax rates (individual taxes as well as capital gains) will likely be lower in 2017 than they are now in 2016, and there was no immediate need to sell any of the stocks at the end of this year. The prudent thing to do is wait until 2017 and then sell, if need be, to capitalize on potentially significantly lower tax bills in the future. If you have any specific tax situation that I should be made aware of before the end of the year, please let me know as soon as possible to see if there is anything that can be done with your investments to ease the tax burden.

 

Market Statistics:

 

Last week, the rally continued for all three of the major US indexes, despite volume being very low:

 

Index Change Volume
NASDAQ 0.47% Below Average
Dow 0.46% Below Average
S&P 500 0.25% Below Average

 

The Dow made three good runs at 20,000 last week during the first part of the week, but each time had a very difficult time breaking through 19,980. There isn’t really any big prize at the 20,000 level for the Dow; it is little more than a psychological level. However, investors get excited when they see such a large, nicely round number. This week could be the week we see the 20,000 mark fall. If the Dow does make it to 20,000 this week it will be one of the faster 1,000 point moves in terms of the number of days it took to gain 1,000 points that we have ever seen for the index.

 

The following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change   Bottom 5 Sectors Change
Telecommunications 4.03%   Energy -0.23%
Semiconductors 3.12%   Basic Materials -0.34%
Regional Banks 2.05%   Consumer Service -0.36%
Global Real Estate 1.62%   Software -0.44%
Financial Services 0.98%   Home Construction -0.53%

 

Telecommunications took top honors last week, gaining more than 4 percent, thanks to a global satellite company that is a member of this small sector that gained more than 75 percent last week on speculation about a pending FCC approval. Semiconductors turned in a solid week, continuing to play catch up, and regional banks and financial services continued to ride high on the hopes of deregulation coming swiftly from the next administration. On the negative side last week, there was a random grouping of sectors that were all down for different reasons. The biggest reason seems to be that investors could have been taking some short term gains off the table as several of the bottom 5 sectors are sectors of the market that have run up very quickly since the election.

 

After posting losses almost across the board last week, thanks to the Fed raising rates, this week fixed income investments in the US posted gains:

 

Fixed Income Change
Long (20+ years) 1.04%
Middle (7-10 years) 0.47%
Short (less than 1 year) 0.02%
TIPS 1.20%

Global currency trading volume was below average last week, as many of the large institutional traders did just the bare minimum due to the time of the year. Overall, the US dollar advanced 0.23 percent against a basket of international currencies. The best performing of the global currencies last week was the Brazilian Real, which gained 3.66 percent against the US dollar. The worst performance among the global currencies was seen in the Egyptian Pound, as it declined by 2.56 percent against the value of the US dollar, as Egypt continues to allow its currency to free float against the value of the US dollar.

Commodities were mixed last week as oil moved higher, while nearly all of the other commodities moved lower:

Metals Change   Commodities Change
Gold -0.11%   Oil 0.09%
Silver -2.36%   Livestock -0.86%
Copper -3.17%   Grains -4.22%
      Agriculture -1.94%

The overall Goldman Sachs Commodity Index lost 0.45 percent last week, with all of the losses coming from soft commodities and metals. Oil advanced less than one tenth of a percent, gaining 0.09 percent in what was one of the smallest weekly moves in the price of oil that we have seen all year. All of the metals continued to slide last week as Gold declined 0.11 percent, while Silver fell 2.36 percent and the more industrially used Copper pushed lower by 3.17 percent. Soft commodities were negative last week, with Agriculture overall falling 1.94 percent, while Livestock declined 0.86 percent and Grains posted losses of 4.22 percent.

Top 2 Indexes Country Change   Bottom 2 Indexes Country Change
CASE 30 Egypt 9.66%   PSEi Philippines -4.19%
FTSE MIB Italy 1.74%   Caracas General Venezuela -5.75%

Last week was a mixed week for global financial markets as 45 percent of the markets posted gains. The best performing index last week was found in Egypt and was the CASE 30 Index, which turned in a gain of 9.66 percent for the week. The gains in Egypt were entirely due to the country free floating its currency back in November and the continued inflow of foreign funds into the country. The worst performing index for the third week in a row was found in Venezuela, the Caracas General Index, which turned in a loss of 5.75 percent as the Maduro government continues to hold on to power despite the government crumbling around him.

As mentioned above, we are now well within the 30 days to inauguration that some pundits were pointing to as the reason why the VIX was so low over the past month and a half, but that doesn’t seem to have mattered as the VIX continued to push lower last week, falling by 6.23 percent. We hit a new low point for the VIX over the past year (11.27) this past week before it moved a little higher at the end of the week. The current reading of 11.44 implies that a move of 3.3 percent is likely to occur over the next 30 days. The direction of the move over the next 30 days is unknown.

Economic Release Calendar:

 

Last week was a relatively busy week for economic news releases when compared to the general lack of interest in the market:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Neutral 12/21/2016 Existing Home Sales November 2016 5.61M 5.50M
Positive 12/22/2016 GDP – Third Estimate Q3 2016 3.50% 3.30%
Negative 12/22/2016 Durable Orders November 2016 -4.60% -4.50%
Neutral 12/22/2016 Durable Orders, Ex- Transportation November 2016 0.50% 0.20%
Neutral 12/22/2016 Personal Income November 2016 0.00% 0.30%
Neutral 12/22/2016 Personal Spending November 2016 0.20% 0.40%
Neutral 12/23/2016 University of Michigan Consumer Sentiment Index December 2016 98.2 98.2
Neutral 12/23/2016 New Home Sales November 2016 592K 573K

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Economic news releases kicked off on Wednesday last week with the release of existing home sales for the month of November, which came in slightly higher than expected. One of the big releases of the week last week was the third estimate of third quarter GDP, which came in higher than expected and higher than the second estimate, which is a positive sign for the US economy. The positive mood from the release was short-lived, however, as a poor durable goods orders report was released shortly after the GDP revision, which muted the impact of both releases. Durable goods orders excluding transportation beat expectations slightly, but with a large piece of overall durable goods orders coming from transportation, it was somewhat of a moot point. Also released on Thursday was the latest reading for personal income and spending, which saw personal income post no growth during November, while personal spending ticked up a very tepid amount. On Friday, the University of Michigan released its latest reading on consumer sentiment, which came in as expected with no change at the beginning of December when compared to the mid November reading. Wrapping up the week last week on Friday was the release of new home sales for the month of November, which came in above market estimates, signaling that the US housing market may have a little further to move up.

 

This week, between Christmas and New Year, is typically a very slow week for economic news releases and this year seems to be fairly standard as there is only one release that has much potential of moving the markets:

 

Date Release Release Range Market Expectation
12/27/2016 Case-Shiller 20-city Index October 2016 5.10%
12/27/2016 Consumer Confidence December 2016 109.80
12/30/2016 Chicago PMI December 2016 55.2

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

With the markets closed on Monday, the economic news releases kick off on Tuesday this week with the release of the Case-Shiller 20 City Home Price index, which is expected to show a gain of a little more than 5 percent on a year-over-year basis. While a 5 percent gain in the housing market is certainly not what many would consider a fast growing housing market, it does signal that the US housing market is still making solid gains and is on relatively sure footing moving into 2017, a year that will likely see rates move higher. Also released on Tuesday is the latest reading of consumer confidence, as measured by the government. Expectations are very high for this release, as the index is expected to post a multiple year high. If we do see the estimates come to fruition it could be a positive development for the markets to maintain their upward trajectory into 2017. Wrapping up this week on Friday is the release of the Chicago PMI for the month of December, which is expected to show a slightly lower reading than it did in November, but still be solidly above the all-important 50 level. There are no speeches being given by any Federal Reserve officials this week as the Fed seems to be taking some well needed time off from the media spotlight.

 

Interesting Fact — Did you have a White Christmas?

According to the National Weather Service, 38 percent of the lower 48 states experience a white Christmas in any given year. The dispersion is much like you probably would expect.

 snow-12-26-16

Have a great week!

Peter Johnson

 

A referral from a client is a tremendous compliment and a huge responsibility that can

For a PDF version of the below commentary please click here weekly-letter-12-19-2016

Commentary quick take:

 

  • Major developments:
    • US Federal Reserve raised rates
    • Markets were mixed last week
    • US dollar jumped higher

 

  • US:
    • Chair Yellen announced a rate hike of 0.25 percent
    • Market reaction was muted
    • Bonds continued to feel pressure

 

  • Global:
    • All central banks except for Mexico kept rates unchanged last week
    • Venezuela is getting out of hand

 

  • Technical market view:
    • The three major indexes stayed within their trading channels
    • Technical strength is still the strongest on the Dow
    • VIX moved slightly higher, but remains very low

 

  • Hybrid investments strategy update:
    • Increased financials
    • Increased small caps
    • Increased Sierra strategic income
    • Increased senior loans
    • Purchased an Energy mutual fund
    • Sold half of Schwab payout funds
    • Nearly complete with shifting toward our new investments for 2017

 

  • This week for the markets:
    • Holiday slowdown

 

  • Interesting Fact: Zsa Zsa Gabor (2/6/1917-12/18/2016)

 

Major theme of the markets last week: The Fed finally raised rates in 2016

funny-12-19-16

Fed chair Yellen finally achieved a small rate hike during 2016. It only took her nearly 12 months to pull it off and a whole lot of market speculation about whether she could do it or not given the slow rate of growth and low inflation in the US economy. The markets last week took the rate hike in stride as it had already been priced in, thanks to the Fed’s telegraphing of information over the past month. There were, however, some interesting changes made in the Fed’s forecasts, which will be discussed further in the national news section below. Now that the Fed has finally acted, the markets can go about setting up for the end of the year and what appears to be the continued hope that President-Elect Trump will actually be able to follow through with his stimulus measures to boost the US economy.
US news impacting the financial markets:

 

Last week, the US financial markets finally focused on something other than President-Elect Trump and his grand plans for making America great again. The focus of the market was the US Federal Reserve and the Fed’s last chance to raise rates during 2016. Taking the decision down to the wire, the Fed finally managed to raise rates from a range of 0.25 to 0.5 percent up one quarter of a percent to a range of 0.5 percent to 0.75 percent. The decision to raise the Fed funds rate was unanimous for the first time this year as all members of the FOMC got behind the decision. Much of the statement language from the previous meeting and the December meeting was unchanged, but there were a few key differences. In the reasoning for the hike, Chair Yellen said that “growth is a touch stronger, unemployment is a shade lower,” which was new language for the statement. She did use the standard line, “We expect that the economy will continue to perform well, with the job market strengthening further, and inflation rising to 2% over the next couple of years.” She also made appropriate adjustments to Fed projections, like adding 0.1 percent to GDP projections for 2017, which now stand at 2.1 percent. Interesting enough, she did not adjust the projections for 2018 and only increased 2019 by 0.1 percent. If one is to believe the amount of spending that President-Elect Trump seems to want to pursue, it would be reasonable to think that these projections are far too low and should be adjusted to something more in the 3 to 4 percent GDP growth range. Obviously, the FOMC does not share the same enthusiasm over changes that will boost GDP as the President-Elect. Back to the Fed funds rate, when looking at the dot plot that was provided by the Fed, the path that interest rates will be taking in 2017 and beyond became a little more uncertain.

dot-plot-12-19-16

The dot plot above shows each voting member of the FOMC’s projection for rates over the next few years. You can see a wide dispersion for 2017 and 2018. You can ignore the lowest dot of 2018 and 2019 as it is a Fed official who no longer believes in forecasting the Fed Fund rate and announced that he would not be adjusting his dot. When looking at 2017 alone, the range goes from sub 1 to over 2 percent, with the average number of anticipated hikes during 2017 being three. This is one less hike than was expected for 2016 when we started the year; you may remember that the dot plot was pricing in four hikes this year. In Chair Yellen’s press conference following the announcement on Wednesday, she was even more noncommittal than normal to nearly all of the questions, taking the wait-and-see approach to the incoming administration, but acknowledging that there is “considerable uncertainty” with regard to policy changes that may occur. With the December meeting of the Fed now behind us, the US financial markets can once again get back to focusing on Donald Trump’s Twitter account and projecting year-end holiday sales that could help boost corporate America’s bottom line. One area of previous concern that seems to be waning is manufacturing here in the US as the latest figures on manufacturing came in much stronger than anticipated in the greater New York region as well as the Philadelphia region.

 

Global news impacting the markets:

 

The US Federal Reserve was not the only central bank meeting for the last time in 2016 last week as the Bank of England, Swiss National Bank, the Bank of South Korea and the Norges Bank (Norway’s central bank) all held rate-setting meetings, at which they each decided not to change their interest rates at all. There was one central bank meeting that did move on rates aside from the US and that was the central bank of Mexico, which increased its target rate by 0.5 percent up to 5.75 percent. This may have had more to do with its economy being strong enough to take a rate hike now than it may be in 2017 if President-Elect Trump follows through with his threats of building a wall and making Mexico pay for it. Another potentially impactful part of the new administration for Mexico is the push for things to be made in the US again, with the threat of an import tariff being added to goods made or finished in Mexico and then brought into the US to be sold. We have already seen a small impact of these threats on a company’s plans when the Carrier group decided to abandon plans to move a manufacturing plant from Indiana to Mexico, a move that Trump announced very publically. As we move into the end of 2016, global and national financial news typically slows way down as investors and money managers alike finish off their holiday time-off and get ready for the New Year.

 

Technical market review:

 

The trading channels (yellow lines below) drawn last week held up over the previous week with each of the three channels being tested by the indexes on the upside early during the week and bouncing lower as the week progressed. Each trading channel on the charts below was drawn based on the rough movements of the markets seen since election night. The red line on the VIX chart remains the 52-week average level of the VIX, which the index is currently solidly below.

4-charts-combined-12-19-16

 

In terms of ranking technical strength, not much changed over the past week. The Dow (upper right pane above) remains in the lead as the index has been moving quickly higher since the election of Donald Trump. The S&P 500 (upper left pane above) is currently in second place, while the NASDAQ (lower left) is solidly in third. One thing to note in the above movements is that much of the movements of the indexes have been driven by outsized gains in a relatively small number of sectors in the markets. For example, remove the financial sector from any of the three major indexes and the returns are significantly lower. While the Dow and the S&P 500 look overdone at this point, in terms of having moved higher too quickly, the VIX seems to be supporting the move as legitimate since the index has failed to move higher in any meaningful way since election night. Complacencyin the VIX can change in a hurry, however, as the VIX is known for having spikes in excess of 50 percent over very short periods of time.

 

Hybrid model performance and update

For the trading week ending on 12/16/2016, returns in the hybrid hypothetical models* (net of a 1% annual management fee) were as follows:

 

  Last Week 2016 YTD Since 6/30/2015
Aggressive Model -0.72% 1.08% 5.43%
Aggressive Benchmark -0.47% 5.27% -0.09%
Growth Model -0.42% 1.22% 4.61%
Growth Benchmark -0.37% 4.27% 0.21%
Moderate Model -0.09% 1.02% 3.78%
Moderate Benchmark -0.26% 3.21% 0.41%
Income Model 0.14% 0.98% 3.62%
Income Benchmark -0.12% 1.80% 0.49%
S&P 500 -0.06% 10.48% 9.45%

*Model performance does not represent any specific account performance but rather a model of holdings based on risk levels that are like my actual holdings, the hypothetical models are rebalanced daily to model targets.

 

My rotation toward positions that should benefit from the plans discussed about future spending with the Trump Administration continues. Last week we also saw some bounce back in some of the more beaten down dividend stocks that are still owned in the hybrid models. The movement last week in the hybrid models was comprised primarily of purchases of “next steps” into already existing positions. Financials was added to, as was small cap value stocks, senior loans and the Sierra Strategic income fund. The only selling done last week was selling half of the positions in the Schwab payout funds. The Schwab payout funds are broad based mutual funds that own both fixed income as well as equity positions. The position was sold in order to reduce the overall exposure of the hybrid models to the intermediate and long term bonds, both of which are positions within the Schwab payout funds. Some of the proceeds from the sales went to cash, while some went into positions such as senior loans. The only new purchase of the week last week was an initial position purchased into a US Energy focused mutual fund. The fund provides a wide exposure to the energy industry, which will likely benefit from loosened regulations from the EPA under Trump as well as higher oil prices, which have been elevated by OPEC over the past several weeks. Currently, we are nearly set up with the new positions that need to be purchased for moving into 2017.

 

Market Statistics:

 

Last week the rally continued for the Dow as it pushed ever closer to 20,000, but the other two indexes failed to stay above water, posting losses for the week:

 

Index Change Volume
Dow 0.44% Above Average
S&P 500 -0.06% Above Average
NASDAQ -0.13% Above Average

 

With last week being a major Fed meeting week and there being a rate hike, it was a little surprising to see that the markets really took the change in stride. Volume on a weekly basis was higher than it has been on average over the past year, but other than that, it would be difficult to guess that the Fed raised rates during the week when looking at the numbers.

 

The following were the top 5 and bottom 5 performers over the course of the previous week:

 

Top 5 Sectors Change   Bottom 5 Sectors Change
Pharmaceuticals 2.45%   Aerospace & Defense -2.36%
Utilities 1.73%   Transportation -2.45%
Healthcare 1.65%   Home Construction -2.85%
Biotechnology 1.02%   International Real Estate -3.45%
Infrastructure 1.00%   Materials -3.52%

 

The top five performing sectors of the market last week are a little confusing as two are considered lower risk sectors, while the other three are much higher risk sectors of the markets. Pharmaceuticals, Biotechnology and Healthcare all moved higher last week in what looked like a snap back rally after the losses experienced two weeks ago on President-Elect Trump’s comments about drug prices. There were also a few drug approvals by the FDA last week that helped to boost the sector. Utilities is one of the confusing sector moves last week; conventional thought is that when interest rates are moving higher, Utilities are at risk of being pushed lower as they are typically held for no reason other than being a bond proxy. Infrastructure is the other odd positive moving sector last week as it, too, is historically interest rate sensitive and goes down when rates go up. The bottom 5 performing sectors are a smattering of sectors that moved lower, predominantly due to news about the specific sector. For instance, Home Construction took a hit on Friday after the announcement of weaker than expected housing starts during the month of November. Aerospace and Defense took a hit last week, thanks to continued comments from President-Elect Trump over the cost of the F-35 fighter jet. One concerning sector that made the bottom 5 sectors last week is Transportation, as this sector touches many other sectors and is typically seen as an early indicator of trouble ahead for the US economy. We will have to wait and see if this downtick develops into a trend or if it is just a blip on the map.

 

Fixed income markets here in the US had a much better week than the previous time the Fed raised rates as the movement was almost tame. It was a little surprising to see that the largest losses in the fixed income market last week occurred in the middle of the curve rather than on the long end of the curve. We also saw a flattening of the yield curve overall as the short end actually went up, while the long went down. This was probably the goal of the Fed when looking at the fixed income market and the action it took:

Fixed Income Change
Long (20+ years) -0.31%
Middle (7-10 years) -0.91%
Short (less than 1 year) 0.05%
TIPS -1.52%

Global currency trading volume was above average last week, despite traders knowing that there was a high probability of the Fed raising rates at the meeting. Overall, the US dollar advanced 1.26 percent against a basket of international currencies. The best performing of the global currencies last week was the Macau Pataca, which gained 1.65 percent against the US dollar, thanks to changes in the gambling laws of Macau that went into effect last week. The worst performance among the global currencies was seen in the Chile Peso, as it declined by 3.26 percent against the value of the US dollar. I was surprised the Venezuelan currency did not take the bottom spot after the changes last week that sunk its financial market.

Commodities were mixed last week as oil moved higher, while the metals all pushed lower:

Metals Change   Commodities Change
Gold -2.13%   Oil 0.96%
Silver -4.38%   Livestock 4.94%
Copper -4.12%   Grains -0.34%
      Agriculture 1.72%

The overall Goldman Sachs Commodity Index gained 0.32 percent last week, with much of the gains coming from soft commodities. Oil advanced less than 1 percent, gaining 0.96 percent as the OPEC deal still seems to be holding up, although we have yet to see any production numbers from the group since the announcement. All of the metals continued to slide last week as Gold declined 2.13 percent, while Silver dove 4.38 percent and the more industrially used Copper pushed lower by 4.12 percent. The safe haven assets were not pushed up after the rate hike, as has previously occurred. Soft commodities were mixed last week, with Agriculture overall gaining 1.72 percent, while Livestock jumped 4.94 percent and Grains posted losses of 0.34 percent.

Top 2 Indexes Country Change   Bottom 2 Indexes Country Change
BUX Hungary 4.21%   Dow Jones China 88 China -4.80%
FTSE MIB Italy 3.95%   Caracas General Venezuela -17.26%

Last week was a mixed week in term of global financial markets as 53 percent of the markets posted gains. The best performing index last week was found in Hungary and was the BUX index, which turned in a gain of 4.21 percent for the week. The worst performing index for the second week in a row was found in Venezuela and was the Caracas General Index, which turned in a loss of 17.26 percent. The government in Venezuela took a very interesting step last week when it announced that the largest paper bill widely circulated, the 100 Bolivar bill, was no longer legal tender and that it was being replaced with a new 500 Bolivar bill. The problem was that the government didn’t have any of the new bills on hand to exchange for people, so long lines started at banks to exchange old bills for new bills that were not there. Chaos ensued as businesses stopped taking the old bills and no one knew what to do. In true Hugo Chavez fashion, the President of Venezuela blamed the new bills not arriving on foreign governments holding up the shipment of the new bills. In reality, this is just what happens to a command and control economy where inflation is running at greater than 1,500 percent.

After declining by more than 17 percent two weeks ago, the VIX turned in a tame week last week, gaining 3.83 percent. This week we see the VIX 30-day contract finally cover inauguration day here in the US as it will be less than 30 days away, so we could see a little more movement than we have been seeing the past few weeks. We are very near the lowest points that we have seen on the VIX over the past year, so having it move a little higher is probably just a normal course of action. The current reading of 12.2 implies that a move of 3.52 percent is likely to occur over the next 30 days. The direction of the move over the next 30 days is unknown.

Economic Release Calendar:

 

Last week was a busy week for economic news releases, as more than just the statement by the Fed was released:

 

Economic Impact Date Economic News Release Date Range Actual Expectation
Negative 12/14/2016 Retail Sales November 2016 0.10% 0.30%
Slightly Negative 12/14/2016 Retail Sales ex-auto November 2016 0.20% 0.40%
Neutral 12/14/2016 PPI November 2016 0.40% 0.10%
Neutral 12/14/2016 Core PPI November 2016 0.40% 0.20%
Neutral 12/14/2016 FOMC Rate Decision December 2016 0.63% 0.63%
Neutral 12/15/2016 CPI November 2016 0.20% 0.20%
Neutral 12/15/2016 Core CPI November 2016 0.20% 0.20%
Positive 12/15/2016 Philadelphia Fed December 2016 21.5 9
Positive 12/15/2016 Empire Manufacturing December 2016 9 3
Slightly Negative 12/16/2016 Housing Starts November 2016 1090K 1225K
Neutral 12/16/2016 Building Permits November 2016 1201K 1236K

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

Last week, the economic news releases started on Wednesday with the release of retail sales for the month of November, which missed expectations, both when looking at overall sales and sales excluding auto sales. This was a curious release as all of the sentiment indicators for the same time period showed increasing confidence about the economy, which should have translated into higher retail sales. Also released on Wednesday was the Producer Price Index (PPI), both overall and core for the month of November, with both figures coming in slightly higher than anticipated, thanks in large part to the increase in the price of energy that occurred during the month. The big release of the day on Wednesday, however, was the FED’s rate decision, which was discussed in further detail above. On Thursday, the Consumer Price Index (CPI), both overall and core, showed very low inflation being seen in the US economy. The two manufacturing related releases of the week were also released on Thursday with the Philadelphia Fed index handedly beating market expectations, coming in at 21.5 while the markets had been expecting a reading of only 9. The Empire Manufacturing index also handedly beat the expected 3 reading by posting a reading of 9. Both of these figures showed strong results during November for manufacturing here in the US and hopefully the start of a sustained uptrend and not just a temporary uptick. On Friday, the first of the housing related information for the month of November was released with housing starts and building permits, both of which missed market expectations and had a negative impact on the US home construction sector.

 

This week is a typical week for economic news released, with several releases that could impact the overall movement of the US markets:

 

Date Release Release Range Market Expectation
12/21/2016 Existing Home Sales November 2016 5.50M
12/22/2016 GDP – Third Estimate Q3 2016 3.30%
12/22/2016 Durable Orders November 2016 -4.50%
12/22/2016 Durable Orders, Ex- Transportation November 2016 0.20%
12/22/2016 Personal Income November 2016 0.30%
12/22/2016 Personal Spending November 2016 0.40%
12/23/2016 University of Michigan Consumer Sentiment December 2016 98.2
12/23/2016 New Home Sales November 2016 573K

Data for table from Econoday.com, Bloomberg and Yahoo Finance

 

This week the economic news releases start on Wednesday with the release of existing home sales for the month of November, which, if they are anything like the two housing data points last week, could slightly disappoint the markets. On Thursday, the big releases of the week are released with the third estimate of third quarter 2016 GDP being the potentially most impactful release of the day. Expectations are for no change from the second estimate of 3.3 percent, but no change on the third revision is very rare. Normally it is an adjustment of a few tenths of a percent in either direction. If it is a downward revision, the markets have historically increased as that meant that the likelihood of the Fed being able to raise rates diminished. Durable goods orders for the month of November are also set to be released on Thursday, but expectations for these releases are not very good as overall orders are expected to post a decline of 4.5 percent, with much of that decline being attributed to a decline in airplane orders. Excluding transportation, durable goods orders are expected to post a meager gain of 0.2 percent during the month of November, which is far lower than it should be given the high level of consumer confidence, according to the sentiment indexes. Rounding out the day on Thursday is the release of personal income and spending for November, both of which are expected to show small gains during the month. On Friday the University of Michigan’s Consumer Sentiment index for the month of December (as of the end of November) is set to be released with the expectation of little change over the level seen in the middle of November. Wrapping up the week this week is the release of the existing home sales figure for the month of November, which is expected to be slightly better in November than it was in October, but still pretty lack luster. In addition to the scheduled economic news releases, there is only one single Fed official making a speech, but it is Chair Yellen on Monday, so the markets could pay attention to what she says, though it is highly unlikely that anything would have changed in her thinking between last week’s statement and press conference and this week’s speech.

 

Interesting Fact The fascinating life of Zsa Zsa Gabor

 

With Zsa Zsa Gabor’s passing yesterday, there was bound to be many interesting facts resurfacing about her life. Here are some of the more entertaining ones:

 

Zsa Zsa gabor was married 9 times, including to Conrad Hilton her second husband. Commenting on her 9 marriages, she said, “I am a marvelous housekeeper: Every time I leave a man I keep his house.”

 

Gabor and her last husband Frédéric Prinz von Anhalt adopted at least ten adult males who paid them a fee of up to $2,000,000 to become descendants by adoption of Princess Marie-Auguste of Anhalt.

 

Gabor appeared in 29 movies and nearly 40 TV series.

 

Source: earnthenecklace.com

 

Have a great week!

Peter Johnson