September 20, 2013
By Steve Blumenthal
If you asked me five years ago if the largest investment manager on the planet, BlackRock, would suggest to a room of professionals to “allocate to flexible core bond alternatives, find unconstrained managers and implement long/short strategies”, I would have bet you big that would never happen.
I smiled as I listened to Heidi Richardson, Director of BlackRock and Global Investment Strategist, express that now “is a great time to be tactical with HYG” and share her current thoughts on investment positioning. A lot has changed in five years and much of it can be attributed to the growth in a broad set of tools that help you manage your clients’ money.
This week I’m in Chicago at the Morningstar ETF Investment Conference and I have to say that it is one of the most well run conferences I have attended. Joe Davis from Vanguard presented his macro thoughts and stated that solving our debt problems is “the seminal economic and political issue of our lifetime”. He added that “mankind has never seen the size and scope of Central Bank action, let alone many at the same time”. It is going to be bumpy as we find our way – and we will find our way. I share some exciting notes of optimism below.
All of the big players were here and the conference was sold out. Andy Gogerty from Morningstar has taken important leadership in teaching advisors what the world of tactical investment strategies is all about. He is clear and articulate with a total grasp on the space. Go to www.MorningstarAdvisor.com. Investment tools that were previously available to institutional investors are available to all investors today. This, thanks to the exponential growth in ETFs.
This week, I share the following relevant research:
- When the Fed “Gets Us Off The Dope” – What Likely Happens – Druckenmiller CNBC Interview
- HY Bonds – How to Tactically Trade HYs
- Trade Signals – Investor Sentiment Remains Favorable
- Concluding Thoughts from the Morningstar ETF Investment Conference
Get Us Off The Dope – Druckenmiller on CNBC
We can watch a hundred programs and read articles and research reports from investors with no skin in the game. What matters is what the big money is doing. In my opinion, June was a shot across the bow. Have a plan in place to tactically risk protect your equity exposure, tactically manage your fixed income exposure and include liquid alternatives into your mix (think long/short and managed futures).
Here are some highlights:
- QE1 was creative, courageous and one of the boldest moves in the history of the Fed.
- It was phenomenal, but QE is an extreme tool to be used at extreme times.
- He doesn’t think the academics at the Fed understand the unintended consequences of the exit.
- Whenever the subsidies are taken away, the markets will adjust; they will adjust immediately and they will do it on no volume.
- Stan says, “I will bet that from the beginning of QE to the end of QE that the wealth effect from QE will be negative, not positive.”
Here is the link to the video. Jump to the 6:50 minute mark.
HY Bonds – How to Tactically Trade
I was thrilled to see BlackRock’s Global Investment Strategist suggest that now is “a great time to be tactical”. For someone (me) who has been a tactical HY manager for more than 20+ years, it was nice to see some validation from the big guys. I recognize that this might be a new concept to you so I thought I’d share just how you might tactically trade HY yourself. I believe the ultra low yields and the real risk of rising interest rates (bonds lose when rates rise) require a tactical approach to bond investing.
Though I favor a slightly different process, one that has guided me for 20+ years, the following approach may prove helpful to you. Take a look at the next chart from Ned Davis Research and I’ll then walk you through the process.
First a quick note on HY. This from NDR, “Many investors use junk bonds as an alternative to stocks and, in some cases, perceive them as less risky because of the cash flow that is generated. Junk bonds are defined as high yield bonds that offer investors higher interest rates than the bonds of financially sound companies.” High yield bonds tend to have a high correlation with small cap stocks. When you look at HY funds’ price history, you’ll find that they trend predictably in price; in regards to both positive and negative price momentum.
Ok – here is how it works. The first thing to do is create a 36-day smoothed moving average price line of the Standard & Poor’s 600 Index (think in terms of a 36-day moving average line – you might be familiar with 50-day and 200-day moving average lines). Then look to see if the current price is above or below the smoothed moving average price line.
Next compare the current level of the NDR Small-Cap Advance/Decline Line against its 40-day smoothing (you may use the S&P 600 Advance/Decline line or consider the Russell 2000 Index A/D line). Then, plot these lines in an excel spreadsheet or use a service like stockcharts.com. If above, score it +1. If below, score it -1.
Using trend analysis, this chart shows that when small-cap trends are positive, junk bond prices tend to show healthy gains. Conversely, when these trends are falling, junk bond prices tend to fall.
Finally, note the performance box in the middle right of the above chart. When both measures are above their smoothed moving average lines, buy HY. You may consider holding HY when just one of the two measures is above but move to cash or “BIL” when both are below. Barclays would like you to trade their HY ETF symbol “HYG”; however, I favor “JNK” and some simple old fashion HY mutual funds.
Trading the momentum trends in the HY space has served me well over many years. Yields are low today and the risk of holding medium- to long-term maturity bond funds is significant but solutions exist. Now is the time to be tactical.
Trade Signals – Investor Sentiment Remains Favorable Here is the link to the charts. Note – Trade Signals is posted to our website every Wednesday at 6:00 pm.
Trade Signals is designed to help you navigate the risks and rewards of the stock market. I believe a less certain investment outlook is ahead due to unmanageable debt, entitlements and unprecedented central bank manipulation.
Have a plan in place that enables you to participate in the stock market’s gains while mindfully reducing your downside risk.
Included in this week’s update:
- Sentiment Charts – The short-term trend remains favorable supporting a continued rally.
- Cyclical Bull Market Charts – The cyclical bull market trend remains favorable
Concluding Thoughts from the Morningstar ETF Investment Conference
Joe Davis from Vanguard should have received a standing ovation. His optimism around nanotechnology, digital glass, energy efficiency, intellectual trade, 3D printing and advances in genetics and bio chemicals was nothing short of exceptional.
Imagine electricity in the 1900s, automobiles in 1910, refrigeration in 1925, air conditioning in 1948, computers in 1980 and the internet in the 1990s. Today a doctor in NYC can review images on a large high tech glass screen in real time sent via the internet from an operating room in China and share his intellectual capital to help the patient. Consider that a 3D printer is kicking out a made to fit prosthetic for a six year old child. Think about what this can mean to the manufacturing process. Genome, biotech and the delivery of medicine directly to specific targeted cells.
There is and always will be business cycles that expand to excess, contract and expand again. Our debt and entitlement imbalances are unmanageable and need to correct; spending needs to match revenues. Grown up decisions need to be made. We will make them but we may have to kick the bums out of Washington first. Maybe they find the light. Let’s hope it happens before the markets force their hand.
It’s been a great few days of sessions, meetings and dinners followed by a late night glass of wine with a colleague or two. I found the picture above on the internet and thought it beautiful. Fall is in full swing and winter is around the corner. I’m going to close my eyes here at 36,000 feet (somewhere over Ohio), put on some peaceful music and visit the place in the picture in my mind. Hope you find some time to escape somewhere this weekend.
Have a great weekend!
With kind regards,
Steve
Stephen B. Blumenthal
Founder & CEO
CMG Capital Management Group, Inc.
Philadelphia – King of Prussia, PA
steve@cmgwealth.com
610-989-9090 Phone
610-989-9092 Fax
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