The ETF Portfolio Strategist: 26 Feb 2023
Trend Watch: Global Markets & Portfolio Strategy Benchmarks
Last week’s market activity doesn’t alter my preference for staying defensive. I’ve been tempted in recent weeks to favor risk-on, but the market trends still look indecisive at best and so I remain skeptical that it’s timely to assume that clear sailing lies ahead.
As noted several times in recent months, I’m far more comfortable being late to the next bull market rather than early. The circumstances are too murky to stick your neck out just yet. Sometimes leading with your chin is a compelling calculated risk. Not this time, at least not based on the analytics I’m looking at.
For example: it’s not yet obvious that the big-picture trend for our primary strategy benchmark—the G.B16 Index—has turned a corner after last year’s selling wave. Ergo, the recent rebound still looks like a bear-market rally. See this summary for design details on the strategy benchmarks listed below.
It’s no help to see all the markets in the G.B16 field take a hit last week. Although gains still outweigh losses in the year-to-date column, the bearish bias in the Signal scores suggest it’s still too early to ramp up risk allocations. For details on how the metrics in the tables above and below are calculated, see this summary.
If there’s an exception to my leery worldview, US small cap beta is a candidate to consider. This market is the year-to-date leader for the G.B16 field, although the price momentum is neutral.
IJR looks relatively strong vs. US equities overall, but if the broad market (VTI) stumbles — a more than trivial risk at the moment — small caps will probably suffer too.
The immediate threat for risk assets is the revival in expectations that interest rates will rise more than recent predicted. That’s a change from previous weeks, when this headwind eased, or so it appeared through a markets-based lens. But sentiment shifted in recent days.
Perhaps the clearest signal of the crowd’s rethink on the rates outlook is found in the comparison of the policy-sensitive 2-year Treasury yield vs. the Fed funds target rate. After trading below Fed funds for most of the time since December, the 2-year yield rose above the central bank’s target rate in recent days. The market, in other words, is again pricing in relatively high odds that more rate hikes are coming.
The key question for the week ahead, and probably beyond: How will risk assets digest the change in sentiment re: the monetary policy outlook? Unclear, but until the crowd works through the shifting outlook for rates, the case for staying defensive still looks like the best bet in town. ■