As I write this the S&P 500 futures are indicating a down open setting us up for possibly three down days in a row. If you watch the financial media someone will undoubtedly talk about how the sky is falling. I was actually listening the CNBC in the car the other day and almost had to pull over when they asked one of the guests if he was worried that the Dow was down 47 points after such a major rally. I would actually worry if it was the other way around. I have said it before and I will say it again, markets don't go in straight lines, it is normal and healthy for up moves and down moves to correct from time to time. When they don't we get what happened in Japan, Apple, Gold, etc.
Money continues to flow out of bond funds and ETFs into stock funds and ETFs. The biggest bond fund, Bill Gross‘s $261.7 billion PIMCO Total Return Fund had a $7.5 billion net outflow last month, according to data from Morningstar Inc. on Friday. Year to date through July 31, $15.6 billion has been pulled from the fund.
Interestingly I saw a note from 361 Capital that only 20% of the money being pulled from bonds is going into stocks. This cash on the sidelines could fuel the stock rally for a while.
In Muni Bonds a Michigan county's decision to postpone a $53 million bond sale is a sign of the problems facing the muni market in the wake of Detroit's bankruptcy. Investors are growing more cautious, especially in Michigan, and that could lead to even higher yields and lower prices.
Another item of note is that money is starting to flow into international and emerging market stocks, especially in wake of the higher than expected European PMI Data. This is a good sign as you like to see confirmation of a rally from other stock markets.
Recent Moves
We sold most of the counter trend positions in our Trend Aggregation Strategies prior to the three day decline based on market strength. We also went back into floating rate bonds in our income strategies.
Think Risk Factors Not Asset Classes
The idea behind traditional asset allocation is to not have all your eggs in one basket therefore you will have protection from market declines and other calamities. While this sounds good in theory it doesn't work well in practice. Why? Because the traditional asset allocation portfolio has all of it's eggs in two baskets---stocks and bonds.
If you look at risk factors instead of asset classes then no matter what area of the stock market you are in you are at risk when the market declines. On the bond side, most bond sectors are at risk of higher interest rates and/or higher inflation. Higher yield bonds like Junk and emerging markets are also subject to many of the risks that stocks face.
Breaking up portfolios by risk factor is a better approach than trying to diversify by asset class. For example, some major risks are:
1. Market decline
2. Higher interest rates
3. Higher inflation
In this approach you would add investments to your portfolio that would do well in each of these scenarios. Just doing that would blow away the traditional asset allocation portfolio but tactical asset allocation can improve upon this model. For example, TIPs and commodities are two investments you could have to protect from inflation. If we see a period of high inflation those assets should do quite well. However, if we go through an extended period, like now, where there is no inflation, then those assets are likely to decline in value. Instead of having fixed allocations to TIPs and commodities an investor could take a tactical approach and only buy them when they are in an uptrend and sell them when the trend changes.
Top Holdings
1. Cash
2. US Small Cap Stock
3. S&P 500
4. US Dividend Stocks
© Tuttle Tactical Management
