Based
on prices as of November 11, 2016; views effective November 21, 2016
The press has been talking about a Trump stock market rally. Trump’s election
roughly coincided with the beginning of sharp increase in stock prices over the
last week. Is this really a Trump rally? Or was Trump’s victory associated with
a move that would have taken place anyway?
According to the Market Resilience Indexes (MRI) developed
by Focused 15 Investing, the stock market’s inherent resilience started to move
higher a week before the election, as published on Nov 1. The markets moved up, as anticipated,
beginning Monday, Nov 7, the day before the election. Monday’s price move
coincided with polls suggesting Clinton was ahead. The rally continued through
the rest of the week after Trump won the necessary electoral votes. It has been
a catch-up rally.
The appropriate way to think of the last couple of months is
that prices were abnormally depressed prior to the election. On the 7th,
the depression began to ease.
Recent Malaise
Over the last few months, the bounce off the March trough of
the phantom bear market has been weak. We had
rally-like MRI levels and behavior… but not rally-like price behavior. In past
commentaries, I described the last few months as a malaise and an anemic rally.
This weakness may have been the result of some or all of these factors:
- The fact that the phantom bear market did not produce price declines in the US, and there was no capitulation, which meant there was no real bear market and therefore no reason to rally
- The fear that our last remaining monetary tools were not boosting growth
- The global markets were struggling to come to terms with the massive decline in oil prices and what that meant for global growth (and its subcomponent, struggling to assess the impact of the Saudis’ focus on market share rather than price)
- Concern about US election uncertainty
Last week’s move caught the market up to roughly where it
should have been based on its own inherent resilience, regardless of whether
Trump or Clinton won. The catalyst was a natural inflection point in market
resilience. It does not appear to be a market verdict on the US election.
A possible qualitative rationale is that both candidates
would likely increase spending on infrastructure, taking heed of suggestions by
economists and the central banks. The prospect of moving forward on spending
and infrastructure programs and having the election behind us may have been a
relief.
If we accept that we have had a
catch-up rally, we gain some perspective on the near-term future. Going
forward, the current situation suggests that prices still have an upside. The
Micro MRIs, those with a 6 to 12 week horizon, for most equity markets are
still clearly positive and are likely to be for several weeks. Thus, we are
still early in the rising trend. Continued exposure to the US stock market is
appropriate.
How About a Price Reversal?
After a period of strong returns,
the market sometimes experiences losses. The Dow Jones industrial average was
up about 5% election week. This return is abnormally high for a one-week time
period. The idea of a reversal suggests that the market has moved too far and
overshot the “appropriate” price level. Prices may fall back to where they
started, or even further.
We evaluated over 100 years of
market history for the DJIA and almost that for the S&P, plus the full
histories of the TOPIX (Japanese Stocks) and Russell 2000 to determine the
circumstances when price reversals typically occur. It turns out that some
markets do experience price reversals that can be predicted systematically.
However, the current situation does not appear to be one of the classic
situations where a price reversal typically occurs.
Price declines can certainly
happen over the next few weeks, but they are likely to be mild and/or
short-lived. Further increases in resilience should ultimately lead to stronger
support for stock prices. The best strategy at this time is to hold tight.
Accordingly, the Focused 15 Investing portfolios have had relatively high
allocations to their stock ETFs prior to the election, and this will continue.
Bond yields (10y) continue to have positive Micro and
Exceptional Macro MRI ratings —
suggesting higher rates. However, the Macro for the 10y bond is still
stubbornly negative, suggesting that a longer-term trend for higher rates has
not started. Short term, however, markets will fear rising rates.
