Smart Money

Our regular summary of the capital markets. Check back each month for new updates.

Smart Money

August 29, 2019

Preparing for a New Season

Smart Money

The 2019-20 NHL season is right around the corner.  Players and their families are preparing to depart for various NHL cities to attend training camp and to make sure their kids are ready for the start of school.  These semi-annual moves can cause plenty of stress and confusion. To keep players organized for this summer’s travel, GAVIN created the attached checklist. Click the link be...

The 2019-20 NHL season is right around the corner.  Players and their families are preparing to depart for various NHL cities to attend training camp and to make sure their kids are ready for the start of school.  These semi-annual moves can cause plenty of stress and confusion. To keep players organized for this summer’s travel, GAVIN created the attached checklist. Click the link below to review the many planning considerations.

Checklist: Preparing for a New Season

August 28, 2019

Fear Tightens its Grip on the Equity Markets

Market Recap & Box Score

Equity markets took a breather in August as investors seem to be considering the risks facing the global economy, while trade talks between the US and China became more aggressive.  The MSCI World (USD) and S&P 500 led the declines, down 4.4% and 4.0% respectively for the period.  The TSX’s 2.2% loss was softened by a 9.0% rise in the price of gold.  Outside of precious metals, we...

Equity markets took a breather in August as investors seem to be considering the risks facing the global economy, while trade talks between the US and China became more aggressive.  The MSCI World (USD) and S&P 500 led the declines, down 4.4% and 4.0% respectively for the period.  The TSX’s 2.2% loss was softened by a 9.0% rise in the price of gold.  Outside of precious metals, weakness in commodities is persistent due to reduced global demand.  Copper fell 5.5%, and the CRB US Spot Raw Industrials Index slumped 1.3%.  Both gauges have ignored equity market strength in 2019, which suggests that equity returns and inflation will be suppressed in the near future.  WTI oil also slid 2.1% as it appears to be stabilizing around the $55 mark after a significant 25% decline from its October 2018 high of $75.  Outside of primary markets, cannabis continues its lackluster 2019 campaign, with HMMJ sinking 14.5%.  The sheen may have come off in the near-term but the long-term commitment is endorsed by political advances and medicinal progress.

US Government Treasury Bonds were a primary recipient of investor proceeds over the past several weeks.  The 10-year and 30-year bond yields dropped to 1.49% and 1.97%, respectively.  The yield on the 10-Year Treasury achieved a new three year-low, while the sub-2% yield on the 30-year bond is an all-time low. These low rates reveal the bond market’s expectations for tepid economic growth in the coming years. Further, there has been an abundance of media focus on the yield curve inversion and its proficiency as a precursor for a recession.  Pundits debate whether the 2-year vs. 10-year is a better predictor than the 3 month vs. 5 year; but for investors; here is what you need to know.

    1. The short end of the yield curve (0-2 years) is controlled by the Federal Reserve or simply the central bank of the United States.
    2. The long-end (10-30 years) is much more fundamentally-driven, with two primary inputs; (1) growth of the economy and (2) inflation expectations.
    3. For simplicity, let’s assume there is no inflation, the bond market is pricing in sub-2% growth annually for the next 30 years.
    4. Overreliance on debt to fund growth acts to suppress future growth and carries disinflationary impacts.  Accordingly, this contributes to the forecast for sub-2% growth.  The current policy response to this low growth outlook and to defend against a recession is, ironically, to add more debt.  While we don’t know if a recession is one, five, or ten years out, we do know the bond market is pricing one in.  So, considering the bond market’s track record, it would pay to listen.

In summary, with the 30-year yield at all-time lows in the US, $15 Trillion in global debt yielding negative rates, manufacturing data contracting globally and most equity markets outside of the US in negative territory over the past year, we can be fairly certain a recession, or something close to, is forthcoming.  However, the market is nowhere near euphoria.  The S&P 500 put/call ratio, which is a measure of how much downside protection is being purchased in the option market, is at 2.15.  Over the past year, this level has been typically reached when markets are close to a bottom.  CNN’s Fear & Greed Index, which uses seven market indicators to gauge investor’s bullishness from a rating of 0 (Extreme Fear) to 100 (Extreme Greed), is at a sufficiently fearful grade of 21.  What does this tell us?  It tells us that investors are right to worry, and perhaps this is not the time to be 100% allocated to equities, but investor positioning could be hinting it is not quite time to dig a bunker and clear out Costco for its canned food.  We remain cautiously optimistic and believe that the fear currently over taking the markets may be overdone in the short-term.  The S&P is only ~5% off its highs, but fear has caused the stock of many companies to correct much further.  Accordingly, many more long-term investment opportunities are being created by short-term fear.

July 29, 2019

Positioning For A Game Changer

Second Quarter 2019 Newsletter

Volatile But Solid Quarter – Equity markets were broadly higher last quarter despite an escalation in US-China trade tensions and concerns of a global growth slowdown. The US once again led the group, returning 4.3% during the quarter and 10.42% over the trailing 12-months. The market rally was driven mostly by major central banks shifting their tone more clearly toward an easing bias...

Volatile But Solid Quarter – Equity markets were broadly higher last quarter despite an escalation in US-China trade tensions and concerns of a global growth slowdown. The US once again led the group, returning 4.3% during the quarter and 10.42% over the trailing 12-months. The market rally was driven mostly by major central banks shifting their tone more clearly toward an easing bias as they acknowledged the weak global economic backdrop.

Safe-haven assets such as government bonds and gold were also among the biggest gainers on expectations of interest rate cuts and the possibility of further monetary easing. The Canadian dollar advanced 5.66% against the greenback as US interest rates collapsed and the Canadian economy recovered from its first quarter stall.

Paradigm Shifts & Turning Points – For those that have followed the National Hockey League closely, the paradigm shifts with regards to how the game is played have ebbed and flowed. The transitions from the “Run & Gun Era” (1984-‘94), to the “Dead Puck Era” (‘94-2004), the “Golden Era” (‘05-’15), and finally the “Precision Era” (’15-Today), required changing skill sets to generate success. During each turning point, teams that drafted and prepared well for the shift benefitted the most; Edmonton Oilers, New Jersey Devils, Chicago Blackhawks and Pittsburgh Penguins.

Analogous with eras in hockey, markets experience long-term changes that require structural modifications to portfolios. Early adopters typically see the largest benefits as teams/capital begin to accept and eventually mimic/support the strategy. In due course, a “New Paradigm” is declared because individuals become heavily influenced by current events. It is assumed the existing view will persist but the vast majority fail to anticipate shifts caused by the law of diminishing returns. The transition to a new path begins when a consensus view creates excessive optimism, encourages abnormal risk-taking and distorts valuations.

The 10-year time frame works in hockey and it also appears to hold up well in markets. Looking back at the last four decades there are distinct beliefs that become psychologically engrained in society. These prominent convictions become reflected in markets through valuations that teeter into “bubble territory.” Accordingly, avoiding the previous dominant themes and the largest stocks associated with the era can lead to outperformance over the next 10-years. The table below demonstrates this phenomenon.

1980 to 1989

  • Beginning

Inflation exceeded 10% and bond yields were rising rapidly. Top 10 global stocks included five energy companies and nine were US domiciled.

  • Ending

The best allocation decision was to underweight the US to hold zero energy companies as inflation receded.

1990 to 1999

  • Beginning

Japanese equities dominated, owning eight of the top 10 equity positions by size while accounting for 45% of the global index. The core belief was Japan’s corporations held superior management techniques and banking systems.

  • Ending

Simply underweighting Japan allowed a global investor to outperform as the Tokyo exchange peaked in 1990.

2000 to 2009

  • Beginning

The internet and housing boom fostered the “new economy”. Technology, media and telecom stocks (TMT) comprised more than one-third of the MSCI World.

  • Ending

Investors that performed well in the 2000s owned commodities and sold TMT.

2010 to 2019

  • Beginning

Quantitative easing stoked concerns of inflation once again, while China’s growth and talk of peak oil helped push Chinese and commodity equities into the top 10.

  • Ending

Best trade for 2010s was to underweight China and to be short commodity stocks.

Paradigm shifts do not signal a bleak future; conversely, the transition often leads to net gains. Technology stocks once again dominate the top 10 board by market share and the US now accounts for 56% of the MSCI World Index. However, the seeds that were sowed for this decade’s rich harvest are beginning to become unviable, similar to the one-dimensional enforcer in today’s NHL.

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