16 Down, 36 To Go

Last week was a shortened holiday week with very little in the way of new data points or policy chatter to make me rethink my macro viewpoint.

So, I thought it was a good time to take a step back and summarize the state of the United States and its markets 31% of the way through 2014.

I can describe US economic data and US asset performance for 2014 in one word, consistent.

Economic data has been neither good nor bad. Data hasn’t shown significant deterioration and at the same time its also not accelerating towards the moon.

From an asset class perspective, the playbook I laid out in the January 20 issue of TWR has been and will continue to work. The playbook is to favor slow growth US assets over high growth US assets.

Depending on the day of the week, the S&P 500 oscillates between being positive year-to-date and being negative. As of the end of last week, the S&P 500 (SPY) is up 1.4% after entering last week in the red for the year.

But if we dig a little deeper we see the slow growth versus high growth dichotomy at work. I monitor a number of proprietary economic indicators and market indices as part of the management of my hedge fund.

I introduced two such market indices in that January 20 issue of TWR. My US Slow Growth Index is made up of US based asset classes that have historically outperformed during periods of slowing US economic growth.

These types of assets generally include high dividend areas of the market like REITS, utilities, Treasuries and all manner of fixed income as investors reach for yield rather than leaving their money in high growth alternatives.

Gold is also among the outperformers during slow times since these times coincide with declining or lower US interest rates. Here is a breakdown of the year to date performance of some of these types of markets:

US Investment Grade Bonds (LQD) = 3.5%

US Treasuries (TLT) = 8.6%

Gold (GLD) = 7.4%

US Utilities (XLU) = 12.3%

REITS (VNQ) = 11.9%

My US High Growth Index is likewise made up of US based asset classes that tend to outperform during periods of accelerating or high US economic growth. These assets generally include technology companies, US small caps as well as the financial and consumer discretionary sectors. Here is a breakdown of the year to date performance of some of these types of markets:

US Small Cap Equities (IWM) = -1.9%

US Technology (XLK) = 1.2%

US Finanicals (XLF) = 0.4%

US Basic Materials (XLB) = -4.3%

As of January 20, the slow growth index was up 2.5% for the year and the high growth index was up 0.4%. The S&P 500 (SPY) was down 0.6%. So, three weeks into the new year, slow growth assets were outperforming high growth assets by 210 basis points and the S&P 500 by 310 basis points.

While economic data over the last three months hasn’t broken out or broken down, the outperformance of slow growth assets has accelerated significantly. As of ;ast Thursday’s close, my US Slow Growth Index is up 9.4% year-to-date versus a negative 1.9% for my High Growth Index and a +1.4% for the S&P 500.

The spread between slow growth and high growth has expanded from 210 basis points to 1,130! The slow growth assets are outperforming the S&P 500 by 800 basis points! In addition, there have been three critical developments of late.


3 New Factors

1. Lower highs. The first development is that the US High Growth Index peaked on March 7 and as of Thursday’s close has declined 7% since making that new high. For the last six consecutive weeks this index has been making a series of lower highs as weekly volume has been accelerating.

2. Busted trend line. On Friday April 11, the High Growth Index closed below an uptrend line that began on November 16, 2012. Any time a particular market breaches a trendline that has been in place for well over a year, it’s a big deal.

That index traded below that line for 3 of the last 5 trading days. The final development of note is the price movement of the US Dollar (UUP). After starting the year off with a 1.5% rally in the month of January, it has since declined 2.1%.

Into the abyss. It also broke down below our long standing ABYSS line of 21.29 in the middle of March. While UUP currently resides 37 basis points above this price, it has been unable to sustain any upward momentum and looks poised to fall further. The real question is: Will this performance differential between slow and high growth assets continue?

I believe it will through the balance of the second quarter and probably well into the third quarter.

There are two things that could shift the power back into the hands of the high growth assets: a breakout of US interest rates above their ALPINE line of 2.821% or an acceleration to the upside of US economic data.

In addition to these two points, historically, the highest growth periods were always accompanied by a rising or elevated US Dollar. Look no further than last year when economic data accelerated before peaking in the 3rd quarter, US interest rates climbed 77% and the US Dollar (UUP) continued its 2012 strength for most of the year.

This backdrop led to the US High Growth Index outperforming the S&P 500 by 6% (600 basis points) and the Slow Growth Index by a staggering 55% (55,000 basis points)!

As long as rates stay range bound and economic data continues to muddle through, look for opportunities to sell high growth assets on intermittent rallies and buy slow growth assets on pullbacks.

Focus Markets Update

Our Trade Ideas declined 1.3% last week leaving us with a 20.3% gain in our trade ideas YTD through Thursday’s close.

Our 2 open LONG GLD positions declined 3% cumulatively leaving us with a gain of 1.3%.

Our 2 open SHORT FXI positions both gained another 4% last week leaving us with a gain of 2.4%.

And finally, our one open LONG UUP position was essentially unchanged gaining 0.01%. It was a holiday shortened week ahead of Easter and volume was non-existent. I don’t put a ton of credit in last week’s price movements so my biases for these markets haven’t changed either.