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Emerging Trends in Reward and Risk as Summer Approaches

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Emerging Trends in Reward and Risk as Summer Approaches

And, what could stay

“Sell in May and Go Away” is an old Wall Street expression.  It describes the tendency for the stock market to do better during the months of November through April.  That leaves an allegedly weaker season when it’s boiling hot here in South Florida, from May through October.

Like so much of what we read about investing, there is a half-truth.  The rest is either hype, or it doesn’t really mean much to you as an investor.  After all, the markets act very differently now than even a few years ago, thanks to algorithmic trading, index investing, central bank quirks, a decade of easy monetary policy and a host of other new investment realities.  So, expecting any trend of the past that is based purely on the calendar is, well, hype.

So rather than feed the myth monster any more than is already being done elsewhere, I scoured my list of 100 ETFs that I use as a global market tracker and noticed some emerging trends in reward and risk as summer approaches.

None of this is “all or nothing” and should be considered relative analysis, not absolute.  As I often say, investing is not black and white, but shades of gray.  In all cases, consider your own situation and objectives, and think more in terms of where excesses may lie in your portfolio than some type of purging.

In keeping with the limitations of the column, I will comment on general market areas instead of specific securities.

1. Broad market equities – if the first half of May’s decline “gets legs” and is more a beginning than an end, don’t count on finding too many stock market areas that buck the downtrend. Utilities, REITs, and Consumer Staples stocks are typical outperformers when the market’s first knee-jerk reaction occurs.  But as declines deepen, these tend to be treated not as conservative ways to still own stocks, but as part of the club…a club that is out of favor.  And if rising interest rates ultimately become part of the rationale for the equity selloff, Utilities and REITs could be in the crosshairs.  And, don’t look to non-U.S. markets, small caps, value stocks, etc. for much help.  When the equity market tanks, all of these major asset classes tend to hold hands and jump together…Thelma and Louise style.

2. Gold – I own some gold in more conservative accounts, but don’t mistake me for a “gold bug.” I am more of a “risk-management bug” which means that I look for pockets of opportunity in places that are traditional oasis sites during turbulent times.  Gold and gold stocks, like Utilities and REITs, probably feel good for a little while amid the equity market carnage.  But my chart work shows me that the upside is likely limited.  Gold has been trapped in a range between $1,000 and $1,300 an ounce for the better part of 6 years.  It will need to bust a move through that long-term top level to be more than a portfolio rental to me.

3. “Credit” Bonds – to paraphrase a famous movie line…I see dead asset classes. I have written to you for some time about my deep concerns for investors who have been “chasing yield” the past several years, trying to make up for paltry income returns from CDs, T-bills and Money Market Funds.  This happens in every cycle, and it is happening again.  High Yield Bonds, Convertibles, Bank Loan Funds, Closed-End Bond Funds (which are typically full of leverage) are all flirting with trouble right now.  If you have bonds or bond funds that yield way above what Treasuries do (10-year U.S. Treasury yield is about 2.4%), this would be a good time to double-check the level of credit risk you are taking on.

4. U.S. Treasury Securities – whatever you think of the U.S. economy or the ongoing hot air festival in Congress, U.S. Government Bonds appear to be retaining their position as one of the main beneficiaries of the “fear trade.” This is a double-edged sword, however.  See the chart below, which shows that the 1-year return of the ETF that tracks 20-30 year Treasury Bonds is currently around 7.8%.  Pretty nice.  But what you also see is that depending on when you run that 1-year clock over the past few years, the return has been anywhere from a gain of over 12% to a loss of over 9%.  This is a tool for traders and investment managers, but I fear that too many investors and financial advisors have shoved long-term bonds into portfolios to boost the yield, but are not considering how much risk they are taking if they view it as a “buy and hold” position.

5. Does anything else “work” right now? – YES. Not panicking works.  So, does knowing that you have a pre-defined plan to confront speed bumps and bear markets in stocks.  Understanding the potential benefits of hedging your portfolio (so you can resist the urge to sell everything, only to reconsider in a week or a month and drive yourself nuts) is also something that works right now.  I think that what also works is embracing what I call “tactical portfolio management” which is simply a fancy way to describe dividing your portfolio among what you should own longer-term and what you “rent” for months or even weeks.  After all, in rough markets, everything speeds up.

Related: Why It’s A Great Time For “Aggressive Capital Preservation”

Conclusions: there are no obvious big winners if the environment of the first half of May continues.  However, that does not mean you can’t thrive in a volatile market.  They say that the only thing that goes up in market is correlation, or the extent to which different types of assets all head up and down together.  That may be true in most cases, but as I have noted before, this is a great time to practice “aggressive capital preservation” which includes hunting down opportunities to try to succeed in any market.

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