Friday, September 4, 2015

Are You A "CATASTROPHOBE"? I'm NOT!!! Here's Why....

Just a quick summary of thoughts as we close out the week, and the summer, and head into the holiday weekend…but first a word from our friendly compliance folks:

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In a recent email exchange with an investor who had asked 'what's it like in the markets these days',  I said 'brutal'.  
Given the activity of the past few days, and especially reflecting on the past two weeks,  I'll ditto that and double it!

Incredible volatility persists. Even in futures markets, usually the bastion of supreme liquidity, bid/offer spreads have widened, price swings, sometimes on minimal volume, have been extreme, and reaction to news and data seems to be binary….it's either euphoric or panic, with heavier leaning towards the latter.

It's helpful, if not critical, at times like this, to step back from the intraday and day-to-day activity, and take a look at the bigger picture.  

The bottom line is that the world is a bit of a different place now than when the Fed first started talking about hiking rates many quarters ago.  Back then, US growth was starting to pick up nicely, China was seemingly still growing strong enough and continuing its reforms, Europe was recovering from recession and dealing with periodic flare-ups on Greece, and corporate earnings were growing w/outlooks that were positive.  Now, recent earnings were a yawn, outlooks/guidance by many firms were outright depressing, China is in a battle with markets over policy credibility and their growth rate is slowing markedly, and US growth, while extant, is underwhelming and not yet at a level that could be considered the locomotive for the rest of the world.

So where does that leave investors?  In my mind, the 'quick-fix' mentality of many investors, expects to see a rapid rebound from these past two weeks' correction and a return to  a surging bull market, viewing the recent selloffs as mere corrective pauses in an otherwise bull run. 

I don't agree.  I believe that rough waters will continue to surge around markets, not just for many days ahead, but likely for many weeks or even months!  To be clear, I do not agree w/those who I call  'catastrophobes'  who say that we're headed for a catastrophic global economic meltdown coupled with a bear market that will persist for years.  I do think, however, that the days are over where just because the Fed kept rates at near-zero and other Central Banks accommodated eagerly meant higher stock prices.  We're likely going to be in a new chapter of global growth where the subtleties of policy responses and initiatives will likely play a larger role.  Take China's recent devaluation of the Yuan.  That was viewed by many as the right thing to do, but the execution of that policy change was handled miserably and, in turn, set off a globally negative market response.  The same action, handled better, might actually have been greeted by markets as a good thing in helping to promote China's growth through an increase in exports which had in fact been struggling due the Yuan's linkage to the strengthening USDollar.   If the subtleties of the policy response had been better articulated (vs the silence that accompanied it!) perhaps it would not have raised concerns about an all-out currency war and deflation-contagion.

Whether today's NFP data was enough to feed the Fed the fuel they are looking for in order to hike short-term rates, is still not clear, but whether it's in September or in coming months, a small one-and-done rate hike of say 25bps should not, imho, impact US growth, earnings or global economic growth meaningfully.  I would not view it as a 'foot on the brakes', but rather as a normalization of rates in the short end of the curve which is viewed as necessary in order to more properly allocate capital on a risk-adjusted basis.  Credit-differentiation is almost impossible when everyone is borrowing/lending at near-zero interest rates!  So I understand the interest in raising short-term rates.  But, as I've said often in previous missives, to think that long-rates need to go up, especially in an environment where commodity prices have plummeted and in which labor excesses (despite labor market improvements) are still plentiful, seems unfounded.  Deflation remains public enemy number one, not inflation!

With that in mind, I view the recent markdown in equity prices as bringing valuations more into line with global realities.  I'm optimistic, mildly, about US growth, I'm increasingly (from a near-zero starting point!) optimistic about Europe's growth, I'm concerned but not panicked about China, and I remain very optimistic about the prospects for continued global emerging growth of middle class consumers.   As such,  I remain cautiously long equities around those themes, though I have reduced the percentage in the portfolios overall, keeping names that I expect to hold while we ride out the storm.   These are largely stocks that have historically behaved defensively with strong balance sheets and good dividends.   I also increased the allocation to fixed income (and similar 'yieldy assets') as part of the defensive move.  And finally, I still have a larger than usual cash allocation which I've been using to nibble when valuation markdowns appear overdone.

I believe that we're in the middle of a storm….not a "perfect storm" of the catastraphobe variety, but a storm that should keep volatility and negativity in play.  At this time, however, I'm battening down the hatches and taking precautions to ride it out, all the while on the lookout for a break in the clouds and smoother sailing.

With that as a natural segue into a still-summertime weekend…..

Enjoy the long weekend and get ready for 'seatbelts and helmets' at Tuesday's opening bell!


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(Please note: This article is solely meant to be thought provoking and is not in any way meant to be personal investment advice. Each investor is obligated to opine and decide for themselves as to the appropriateness of anything said in this article to their unique financial profile, risk tolerances and portfolio goals).
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Additional Disclaimer: currently long many stocks/ETFs.  Positions may change at any time without notice.   

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