The ETF Portfolio Strategist: 11 FEB 2024
Trend Watch: Global Markets & Portfolio Strategy Benchmarks
Aggressive posturing in asset allocation continues to pay off while defensive strategies struggle to maintain upside momentum. It’s unclear if this is a relevant signal, but it could be and so it’s worth watching.
Let’s start by noting that the iShares Aggressive Allocation ETF (AOA) closed at a new high on Friday, taking out its previous late-2021 peak. By this standard, a bullish outlook has been reaffirmed.
Yet there’s still no confirmation in AOA’s defensive counterpart, iShares Conservative Allocation ETF (AOK), which continues to meander in a tight trading range that’s well below its previous peak.
Despite AOK’s sluggish performance recently, it continues to keep pace with AOA via the Signal score, shown in the table below. The across-the-board 5 prints tell a consistent tales of strong positive momentum, and so from a big-picture quantitative perspective AOK’s upside performance is expected to persist, even if recent results have been comparatively sluggish. See this summary for details on the metrics in the tables below.
When we dig a bit deeper into the underlying markets we can see where the source of the friction lies. Notably, US Treasuries (IEF) remain in a moderately bearish trend via the Signal score of -2.
IEF had been recovering, but has run into a setback in recent weeks as Treasury yields rebounded. Driving the reversal of fortunes for bond prices: ongoing US economic resilience, which provides the Federal Reserve with an excuse to delay rate cuts. Fed funds futures are now estimating a roughly 60% probability that the first dovish change for this cycle will commence at the the May 24 FOMC meeting, but that’s hardly a high-confidence vote. Until recently, the crowd was pricing in odds that the central bank would start cutting in March, but that’s been moved up to May and so the bond market is wondering if another delay is in the works.
Meanwhile, inflation data has been a bit mixed lately, depending on the metric. Wages are rising faster than inflation, according to the January numbers in the employment report from the Labor Dept. Economists debate whether this is a warning sign for the inflation outlook. At the very least, it’s not helpful for the Treasury market, if only on the margins.
The critical report for the week ahead is Tuesday’s consumer inflation numbers for January. The median forecast sees the monthly change in core CPI holding steady at 0.3% while the year-over-year change is projected to edge down to 3.7% from 3.9% previously, according to MarketWatch.com. That’s a net plus, assuming it’s accurate, although probably not enough to ignite a new rally in Treasuries. Meanwhile, all bets are off if CPI delivers an upside surprise.
The bottom line: the bond market will continue to act as a spoiler for the party in stocks. That’s a minor headache for aggressively positioned portfolios, but it’s a heavier burden for strategies with relatively high fixed-income weights.
The related question is whether the bond market’s headwinds will soon become a new problem for stocks? The S&P 500 Index set another record high at last week’s close and is effectively ignoring/dismissing the bond market’s latest troubles. This is a good time to consider how long equities can rally in their own bubble if the bond market continues to struggle.