Increasing Vulnerability Before End of Year

The DJIA has MRI levels near the tops of their historical ranges. The Macro (long term) MRI continues to be positive but is at the 95th percentile of it levels since 1918. Its Micro (short term) MRI is at the 89th percentile. This market continues to be resilient but is nearing a natural transition to weaker resilience (greater vulnerability). A weakening dollar may contribute to higher Micro (short-term) resilience for this index. The more domestically-biased S&P and DJ industrial sectors lost their Micro MRI a week ago (November 3, 2017). As indicated in prior notes, with the increase in market vulnerability the character of the US large cap market is shifting toward having greater volatility.

The US 10y Treasury bond index is a mirror image of the DJIA. The Macro MRI continues to be negative but is at the 10th percentile level since 1983. Its Micro MRI is at the 11th percentile. This index is likely to shift to having higher resilience over the coming weeks.

The SPGS Commodity Index has a low Macro MRI (14th percentile since 1971) that is moving higher and a high Micro MRI (96th percentile). Importantly, the Exceptional Macro is present for this index. Overall, this index remains resilient.

For the dollar index, DXY, the long-term trend is still negative, as reflected in the absence of the Macro MRI. Its Micro is present at the 80th percentile and is moving higher. After it reaches its peak, DXY is likely to decline in the absence of any positive MRI.

The relative resilience of global inflation-linked bonds and world government bond index (WGBI), is currently favoring WGBI.

More broadly, the MSCI World Stock Index also has a high Micro MRI (89th percentile) and more moderate Macro MRI (80th percentile) compared to the US stock market. The US stock market is more advanced in the cycles than are the other major stock markets, which are likely to continue to exhibit resilience.

Japanese stock index, Topix, is at an inflection point in the Micro MRI. The Micro MRI is at the 99th percentile since 1972, and is likely to cease in the next few weeks. The Macro MRI for Topix is still moving higher and is at a moderate level (70th percentile since 1972), leaving room to move higher. Topix is likely to pause in its upward movement, but is, at this point likely to resume its upward movement after the pause.

The Russell 2000 lost its Micro MRI this week. It continues to have its Macro MRI, which is at the 82nd percentile since 1985. This index could experience some near-term declines.

All We Need is a Catalyst

Many of the stock indexes have Micro MRIs that are high and have recently shifted or will soon shift to their vulnerable phases. This alone can result in greater price volatility while the long term trend remains positive.  For some markets (e.g., the US stock market DJIA), the Macro MRIs are also at high levels.  Thus, at least on a short term basis, the markets are in a somewhat precarious state for shocks. Debt ceiling, tax reform jitters, North Korea or other issues could be catalysts for a more major shift in the markets.  Any of these could be seen as causing a shift to a more negative long term trend in stock prices.

Our portfolios are fully invested right now, despite this situation. Historical testing indicates that it is better to accept some early volatility and declines rather than to move assets in anticipation of greater volatility.