March 21, 2014
By Steve Blumenthal
It was a big week for Chairwoman Janet Yellen. Loved her transparency. Can’t you just feel the collective investment world sitting on the edge of its seat? We are all watching with concern and for good reason.
So with interest rates front and center, let’s take a look at where the Fed Participants believe rates are headed. The most recent data suggests the FOMC will begin hiking rates sooner and probably more aggressively than previously expected.
Today, I share the following in this week’s On My Radar:
- The Likely Path to Higher Rates – Overview of Fed Participants
- S&P Composite Index – Regression to Trend
- Insiders are Dumping – Most Pessimistic Level over the Last 25 years
- Fire sale of US Treasuries is a warning of acute stress across the world – Ambrose Evans-Pritchard
- Trade Signals – Far Too Much Optimism
The Likely Path to Higher Rates – Overview of Fed Participants
This from Joe Kalash, Chief Global Macro Strategist at NDR, “Although Fed Chair Yellen cautioned against reading too much into the so called “dot plot,” we can’t get it out of our head that the median year-end values rose compared to three months ago. The median year-end fed funds rate target of FOMC participants for 2015 is now 1.00%, up from 0.75%, while the year-end target for 2016 is 2.25%, up from 1.75%. (emphasis mine) This suggests the FOMC will begin hiking rates sooner and/or more aggressively than previously expected.”
Note: In the upper panel, the height of each bar denotes the number of FOMC participants who judge that, under appropriate monetary policy, the first increase in the target federal funds rate from its current range of 0 to 1/4 percent will occur in the specified calendar year.
In December 2013, the numbers of FOMC participants who judged that the first increase in the target federal funds rate would occur in 2014, 2015, and 2016 were, respectively, 2, 12, and 3.
In the lower panel, each shaded circle indicates the value (rounded to the nearest 1/4 percentage point) of an individual participant’s judgment of the appropriate level of the target federal funds rate at the end of the specified calendar year or over the longer run.
Overview of FOMC Participants’ Assessments of Appropriate Monetary Policy
Source: Federal Reserve. NDR
S&P Composite Index – Regression to Trend
QE has fueled the move. What will it look like absent QE? One of my favorite charts on valuation is Median PE which shows the market nearly 20% above its 50 year trend. Here is another look showing regression to trend across 140 years of market history courtesy of our friends at DShort.
Source: DShort http://advisorperspectives.com/dshort/charts/index.html?valuation/SP-Composite-real-regression-to-trend.gif
Note the 76% overvaluation is nearing the 2007 high. I’m not here to debate which valuation measure is best – just saying I’d feel a lot better if the end of QE and the beginning of Fed tightening was coming at a period of time when the markets were undervalued and not overvalued.
Insiders are Dumping – Most Pessimistic Level over the Last 25 years
Add this to the concern list: In-the-know insiders are dumping stocks.
The current message of the insider data “is as pessimistic as I’ve ever seen over the last 25 years.”
Prof. Nejat Seyhun
Corporate insiders are more bearish than they have been in almost 25 years. That isn’t good news for the stock market, since these insiders — corporate officers and directors — know more about their company’s prospects than the rest of us.
In fact, you may want to take their pessimism as a signal to ditch some of your stocks or shift into industries in which insiders aren’t heavily selling, such as energy, financials and basic industrials.
Just be aware that this record bearishness isn’t evident from the insider indicator that gets widespread attention on Wall Street — the ratio of shares of company stock that insiders have recently sold versus the number they have bought.
According to the Vickers Weekly Insider Report, published by Argus Research, this sell-to-buy ratio, when applied to transactions over the previous eight weeks, is higher than average but no higher today than it was one year ago — when the S&P 500 was poised to produce an impressive double-digit gain.
In late 2003, just as the 2002-07 bull market was gathering steam, the insiders’ sell-to-buy ratio rose to even higher levels than it is today.
But this measure is misleading, says Nejat Seyhun, a finance professor at the University of Michigan who has extensively studied insider behavior. That is because it uses a government definition of insiders that includes a group of investors whose past transactions, on average, have shown no correlation with subsequent market moves: those who own more than 5% of a company’s shares.
Though on rare occasions a large shareholder also will be an officer or director, in almost all cases it will be an institutional investor — such as a mutual fund or a hedge fund.
Because the transactions of these big shareholders often involve a far greater number of shares than those of the insiders who do show more insight — officers and directors — the raw sell-to-buy ratio is heavily dominated by insiders with the least forecasting ability.
For example, Seyhun found that far from being a laggard, the average stock sold by the largest shareholders actually outperformed the market by 0.7% over the subsequent 12 months.
For his calculation, Seyhun strips out the largest shareholders from the sell-to-buy ratio. Currently that adjusted figure shows a record level of insider bearishness. According to this measure, corporate officers and directors in recent weeks have sold an average of six shares of their company’s stock for every one that they bought. That is more than double the average adjusted ratio since 1990, which is when Seyhun’s data begin.
Fire sale of US Treasuries is a warning of acute stress across the world – Ambrose Evans-Pritchard
Somebody is a selling a fistful of US Treasuries. It could be Russia, or China, Turkey, South Africa, or Indonesia, or all frantically selling bonds at the same time for different reasons.
We don’t yet know. All we know is that the US Federal Reserve’s custody holdings on behalf of foreign central banks plunged by $106bn in the week ending March 12, the biggest one-week drop on record.
Russia’s central bank is undoubtedly liquidating reserves at a breakneck pace to prevent a collapse of the ruble, as foreign companies scramble to get all their spare cash out of Russian accounts before the G7 guillotine comes down on the Putin clan next week. It is certainly trying to remove its assets beyond the jurisdiction of the US authorities — though that will not be easy. The SEC takes no prisoners. In the end, the world is more frightened of US regulators than it is of Putin’s tanks or his polonium. Soft power can trump hard power.
One investor told me that clients in Russia are literally loading up cars with computers, machinery, and anything that will fit, and rushing them out of the country for fear that assets will nationalized. Whatever happens, nobody will forget this in a hurry.
Yet the latest financial ructions go beyond Russia, they reek of stress in the international system. “Countries are intervening all over the place to defend their currencies (which means they are tightening). Their central banks built up huge war chests of reserves for a rainy day, and now it is raining,” said David Bloom, currency chief at HSBC.
Indeed it is. The international order is unravelling. Russia is, of course, smashing the post-Cold War order by seizing Ukraine, and blowing up the global architecture of nuclear non-proliferation. Let us not forget that Ukraine agreed to give up its nuclear weapons — the world’s third biggest arsenal at the time — in exchange for a guarantee by the great powers in 1994 that its territorial integrity would be upheld. Russia was one of the signatories.
China is laying claim to large parts of the East China and South China Seas, and has established an air identification control zone over the Japanese-controlled Senkaku Islands.
China and Japan are one blow — or misjudgment — away from outright military conflict. The battle on the Pacific Rim is ultimately even more dangerous than the west’s clash with Russia over Ukraine.
Whether or not the wheels really are falling off the Chinese economy remains to be seen, but the discussion has crept into the market. You can smell the beginning of fear.
“The global situation is extremely serious,” states Lars Christensen from Danske Bank. “Russia is committing economic suicide, there is a massive corruption scandal in Turkey, and capital outflows from China threaten to have huge ramifications.”
“If the US dollar were to strengthen drastically at this point, we would go straight into a global recession.”
That is indeed the risk. Let us hope the Fed can pull its head out of its closed-economy macro model for once and take a look at the world before it tightens again next week. Tread very carefully Madame Chairman.
Trade Signals – Extreme Optimism
Click here for a link to Wednesday’s Trade Signals.
Trade Signals identifies the equity and fixed income markets’ cyclical trend and suggests ways to hedge your long-term focused equity exposure tied to periods of excessive investor optimism. Charts are posted weekly on Wednesdays.
While I’m among the millions who are desperate for the end of this enduring winter, the year wouldn’t be complete without sneaking in an early spring ski trip to Utah. I’m in Salt Lake City on Monday for business and my favorite mountain is just 30 minutes away. With my teenage boys on school break, the excitement here at home is building. The ideal scenario for my teenage boys: hiking high up to find and ski untracked fresh powder! We are optimistic as a recent powder alert said 14 inches of new “champagne” powder.
The powder addiction is truly that powerful. It is an indescribable feeling of floating on top of airy snow. It can only be experienced. The day begins with the sound of booming dynamite set off by Ski Patrol to control the risk of avalanche. While they do their best to make the mountain safe for skiers, there still remains a risk. They are human, after all. I can’t help but think the same about Chairwoman Yellen and her team at the Fed.
Like the skier seeing soft powder snow and pressing forward with excitement, we’ve been conditioned by the trillions of fed snowflakes (money creation and unnatural market participation). The landscape looks inviting but the avalanche control (dynamite in T&T form – Taper and Tightening) is coming. There is instability in the system. The mountain may not break this time but I do see more risk than I did in 2007. Look at the back of your investment lift ticket and press forward at your own risk.
Here is what you can do right now. Overweight portfolio allocations to sound tactical investment strategies run by experienced and disciplined managers. Hedge your long-term equity exposure (those positions you plan on holding for years). Invest in flexible bond funds and strategies. Fortunately, the liquid tools exist.
Wishing you a fun-filled and exciting weekend!
With warm regards,
Stephen B. Blumenthal
Founder & CEO
CMG Capital Management Group, Inc.
Philadelphia – King of Prussia, PA
IMPORTANT DISCLOSURE INFORMATION
Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk. Therefore, it should not be assumed that future performance of any specific investment or investment strategy (including the investments and/or investment strategies recommended and/or undertaken by CMG Capital Management Group, Inc. (or any of its related entities-together “CMG”) will be profitable, equal any historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. No portion of the content should be construed as an offer or solicitation for the purchase or sale of any security. References to specific securities, investment programs or funds are for illustrative purposes only and are not intended to be, and should not be interpreted as recommendations to purchase or sell such securities.
Certain portions of the content may contain a discussion of, and/or provide access to, opinions and/or recommendations of CMG (and those of other investment and non-investment professionals) as of a specific prior date. Due to various factors, including changing market conditions, such discussion may no longer be reflective of current recommendations or opinions. Derivatives and options strategies are not suitable for every investor, may involve a high degree of risk, and may be appropriate investments only for sophisticated investors who are capable of understanding and assuming the risks involved. Moreover, you should not assume that any discussion or information contained herein serves as the receipt of, or as a substitute for, personalized investment advice from CMG or the professional advisors of your choosing. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisors of his/her choosing. CMG is neither a law firm nor a certified public accounting firm and no portion of the newsletter content should be construed as legal or accounting advice.
This presentation does not discuss, directly or indirectly, the amount of the profits or losses, realized or unrealized, by any CMG client from any specific funds or securities. Please note: In the event that CMG references performance results for an actual CMG portfolio, the results are reported net of advisory fees and inclusive of dividends. The performance referenced is that as determined and/or provided directly by the referenced funds and/or publishers, have not been independently verified, and do not reflect the performance of any specific CMG client. CMG clients may have experienced materially different performance based upon various factors during the corresponding time periods.
CMG SR Tactical Bond FundTM, CMG Global Equity FundTM and CMG Tactical Futures Strategy FundTM: Mutual Funds involve risk including possible loss of principal. An investor should consider the Fund’s investment objective, risks, charges, and expenses carefully before investing. This and other information about the CMG SR Tactical Bond FundTM, CMG Global Equity FundTM and CMG Tactical Futures Strategy FundTM is contained in each Fund’s prospectus, which can be obtained by calling 1-866-CMG-9456. Please read the prospectus carefully before investing. The CMG SR Tactical Bond FundTM, CMG Global Equity FundTM and CMG Tactical Futures Strategy FundTM are distributed by Northern Lights Distributors, LLC, Member FINRA. NOT FDIC INSURED. MAY LOSE VALUE. NO BANK GUARANTEE.
Hypothetical Presentations: To the extent that any portion of the content reflects hypothetical results that were achieved by means of the retroactive application of a back-tested model, such results have inherent limitations, including: (1) the model results do not reflect the results of actual trading using client assets, but were achieved by means of the retroactive application of the referenced models, certain aspects of which may have been designed with the benefit of hindsight; (2) back-tested performance may not reflect the impact that any material market or economic factors might have had on the adviser’s use of the model if the model had been used during the period to actually mange client assets; and, (3) CMG’s clients may have experienced investment results during the corresponding time periods that were materially different from those portrayed in the model. Please Also Note: Past performance may not be indicative of future results. Therefore, no current or prospective client should assume that future performance will be profitable, or equal to any corresponding historical index. (i.e. S&P 500 Total Return or Dow Jones Wilshire U.S. 5000 Total Market Index) is also disclosed. For example, the S&P 500 Composite Total Return Index (the “S&P”) is a market capitalization-weighted index of 500 widely held stocks often used as a proxy for the stock market. Standard & Poor’s chooses the member companies for the S&P based on market size, liquidity, and industry group representation. Included are the common stocks of industrial, financial, utility, and transportation companies. The historical performance results of the S&P (and those of or all indices) and the model results do not reflect the deduction of transaction and custodial charges, or the deduction of an investment management fee, the incurrence of which would have the effect of decreasing indicated historical performance results. For example, the deduction combined annual advisory and transaction fees of 1.00% over a 10 year period would decrease a 10% gross return to an 8.9% net return. The S&P is not an index into which an investor can directly invest. The historical S&P performance results (and those of all other indices) are provided exclusively for comparison purposes only, so as to provide general comparative information to assist an individual in determining whether the performance of a specific portfolio or model meets, or continues to meet, his/her investment objective(s). A corresponding description of the other comparative indices, are available from CMG upon request. It should not be assumed that any CMG holdings will correspond directly to any such comparative index. The model and indices performance results do not reflect the impact of taxes. CMG portfolios may be more or less volatile than the reflective indices and/or models.
In the event that there has been a change in an individual’s investment objective or financial situation, he/she is encouraged to consult with his/her investment professionals.
Written Disclosure Statement. CMG is an SEC registered investment adviser principally located in King of Prussia, PA. Stephen B. Blumenthal is CMG’s founder and CEO. Please note: The above views are those of CMG and its CEO, Stephen Blumenthal, and do not reflect those of any sub-advisor that CMG may engage to manage any CMG strategy. A copy of CMG’s current written disclosure statement discussing advisory services and fees is available upon request or via CMG’s internet web site at (http://www.cmgwealth.com/disclosures/advs).