After a year of low volatility and twelve consecutive months of gains the indices in Q1 2018 have given us everything. Technology continues to be the markets kool-aid and it's a great investment until it's not. Lets get right to the point of what we see, what could happen and where opportunities can be found.
After listening to endless earnings calls we are still scratching our heads as to how many stocks have sold off so drastically. Earnings have been quite bullish which is has yet to be reflected in stock prices. Opportunities remain in the beaten up high quality stocks with organic growth and earnings per share growth. From an allocation perspective, we've been using ~25% of cash reserves to buy the $SPY in the rage of 255-258. This represents a -10% drawdown and a good initial entry point to deploy cash. Having cash available during times of high volatility is one of the keys to achieving long term success. Our job is not to predict the outcomes. We focus on putting clients in a position to be successful for the long term regardless of what happens.
The rising dividend strategy is doing well +32.23% (net) from inception given our comps. In addition, given the environment, staying highly diversified and not holding any of the crowded tech stocks Facebook, Amazon, Aaple, Netflix and Google ("FAANG") is solid as well. For example, as of 4/17/18 FAANG has been responsible for ~21% of SPY returns from 12/31/15. Our focused rising dividend approach does not include the FAANG stocks or most tech stocks within our universe. Low Volatility had a tough Q1 due to a rising rates environment. In addition, the selling pressure in low volatility stocks has been extremely discouraging. It's quite rare to have low beta stocks with such high downside volatility which is what happened in Q1. Unfortunately, this trend has yet to revert as the typical defensive sectors have been sold off hard. Our Annuity strategy has performed well producing income and realized gains while maintaining a conservative approach. We also have a unique ESG / Impact Investing index where we track all stocks in our universe that qualify for socially responsible categories. This particular ESG index can be customized to meet various needs and interests.
- Chart A - S&P 500 ("$SPY") vs. $SPY over 100 day moving average ("MA").
This has been a critical chart illustrating how dislocated the market really is. Towards the end of January the overall market was overbought having ~80% of the $SPY above their 100 day MA. Since January the majority of the $SPY has fallen drastically below their 100 day MA (80% to 30%). However, the broader market has not seen the fallout yet from those declines. Technology which is the most crowded trade in history has supported the entire market. Looking forward, the broader market must participate in any substantial moves higher while tech under-performs. If this does not occur we are at the mercy of one of the most crowded trades in history blowing up or bubbling higher. This is one of the issues I can foresee ending badly. If the market were to drop another -10% the majority of $SPY stocks could be down 1.5-2X at current levels. However, there is some support holding the rising dividend stocks if earnings keep growing as a 1.5-2x draw-down versus the $SPY would be unlikely.
Chart B - Worst case scenario and where could we go?
History has shown it takes approximately 18 months to form a market top back to the prior starting point. Looking back two years I wanted to illustrate the worst case scenarios based on historical cycles. I drew these outcomes going into 2018 and this would still hold true as the markets have been approximately flat year to date.
*Data presented is with real capital, unaudited and subject to change
*Performance is net of management fees (1.00% SDS & 0.50% Low Vol/Annuity). Performance assumes that all income, including dividends was reinvested in the Strategy, but does not reflect the effects of taxation, which would reduce the performance to taxable investors.
*HISTORICAL PERFORMANCE IS NOT A GUARANTEE NOR INDICATIVE OF FUTURE RESULTS.
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