7/20/2016

Market Resilience Ratings for Week of 7/25/2016

The ratings range from 0-3, with 3 being the highest.  The symbol “^” means that the rating is likely to move higher (becoming more resilient).  They symbol “v” means the rating is likely to move lower (becoming more vulnerable).





Sections 
                US Bonds
                Developed Market Stocks
                Commodities
                Emerging Stocks and Bonds 

The tables in each section detail the current and prior week ratings; the accompanying text reflects the updated outlook.

US Bonds

Market Resilience Index Rating
For Week of…
7/25/2016
7/18/2016
US 10y Treasury yield
0
0
US 10y Treasury futures
2
3
Credit spreads
0
1 v
High yield bond prices
3
2 ^

With a 0 rating on the resilience scale, the US 10y Treasury yield is vulnerable to declines. I expect this condition to remain in place for the next few weeks.

By the same token, US 10y Treasury bond prices display strong resilience, although the rating for the futures counterpart (TY1) has fallen from 3 to 2 this week. Near term, resilience is abating and prices may ease slightly. That said, the market does not appear especially vulnerable now, suggesting any decline will be moderate.

Credit spreads–US corporate BBB less 10y Treasury yields–are currently rated 0, down from 1 in the prior week, as anticipated, suggesting that spreads will narrow.

Consistent with the above, US high yield bonds are now rated 3, or highly resilient, up from 2 previously, again as expected. All else being equal, prices will tend to rise.

Bottom line: US bonds, in general, and high yield issues, in particular, will remain attractive investments over the next few weeks.

Developed Market Stocks

Market Resilience Index Rating
For Week of…
7/25/2016
7/18/2016
DJ Industrial stocks
2 ^
2 ^
DJ Transportation stocks
1 ^
1 ^
European stocks (SPE)
1
0
Japanese stocks (TPX)
1 ^
0 ^

With a rating of 2, US stocks, as represented by the Dow Jones Industrial Average, display moderate resilience, suggesting that prices will tolerate negative news and events reasonably well in the near term. All else being equal, prices will tend to move higher.

European stock prices have a rating of 0, signaling that they are vulnerable. This suggests prices will likely fall with negative news and struggle to recover. Some elements of resilience are cyclical, however, and a key European stock resilience force is nearing a low in its cycle. Consequently, we may see a rating upgrade over the next month or so.

Japanese stocks also have a 0 rating and prices may fall in response to negative news. That said, they are closer to experiencing a shift to a higher rating than are European stocks.

In either case, prices may move higher on good news, such as additional accommodation by policymakers.  This may correspond to a rise in resilience (e.g., rating of 1).  However, news-driven price increases in the absence of higher resilience could prove temporary.   

Bottom line: Overweight US stocks, underweight European and Japanese stocks.

Commodities

Market Resilience Index Rating
For Week of…
7/25/2016
7/18/2016
SPGSCI
2
2
Crude oil (WTI )
2
2
Gold
3
3
Copper
3
3

Overall, commodity prices remain resilient.

The S&P Goldman Sachs Commodity index represents a basket of commodities, with a high weighting in crude oil. The SPGSCI has a rating of 2, down from 3 previously over the last few weeks, reflecting the fact that oil prices appear vulnerable on a short-term basis. However, this looks to be a short-term breather to price increases rather than a fundamental shift in longer term resilience.

Gold and copper, meanwhile, continue to be resilient, with ratings of 3 for both. Prices may soften near term, but longer-term resilience forces remain decidedly positive for the two metals.

Bottom line: Overweight commodities, in general, and gold and copper, in particular.

Emerging Markets

Market Resilience Index Rating
For Week of…
7/25/2016
7/18/2016
EM stocks (MSCI MXEF)
3
3
EM bonds (FNMIX)
3
3

Emerging market stock and bond prices continue to be resilient.  EM stocks and bonds, represented by the MSCI Emerging Markets Index and a popular EM bond mutual fund, respectively, have ratings of 3.


In both cases, longer-term resilience forces are robust–and decidedly so. I expect this condition to remain in effect for several weeks. They will likely tolerate negative news and events fairly well.


Plausible Narrative

A plausible narrative that makes accommodates the broad set of MRI ratings across asset classes goes like this...

Despite positive signs in the US, the global economy is struggling.  There is high uncertainty about the political situations in the US, UK, and Europe.  The best quick-fix remedy for all our ills is a mix of low interest rates, calming voices from the Federal Reserve’s Janet Yellen and her counterparts around the world. The US Fed has the strongest medicine globally, and it is needed. However, the US is in the least need of the medicine. Therefore, we in the US will benefit from the strong medicine being administered globally, and benefit more than we alone need. For the time being, this will result in greater resilience for US stocks and bonds.

Please note:
  • The disciplined analysis of market resilience drives this narrative
  • Other narratives may also be plausible
  • When the bottom-up resilience data suggests a change in the narrative, that change will be made
  • The narrative does not affect the analysis of market resilience or the target weights in the model portfolios 
Focused 15 Investing model portfolios will be positioned according to the MRI ratings – overweight the resilient, underweight the vulnerable.


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