Resilience Emerges And The Test For Next Week

 |  Includes: EEM, FXI, TLT
by: Michael A. Gayed, CFA


ATAC Week in Review for March 9, 2014, recapping stock and bond market behavior in the context of market news and intermarket behavior.

Emerging markets have been resilient despite Russia/Ukraine.

China is the test for next week.

"Good tests kill flawed theories; we remain alive to guess again." - Karl Popper

Stocks in developed markets rose last week despite concerns over military conflict in Ukraine, largely shrugging off Russia's 10% stock market collapse. Economic data on average came in fairly strong, and inflation expectations are showing signs of life. Average hourly earnings rose, payrolls strengthened, and manufacturing data coming out of Europe overwhelmed fear of a broader equity sell-off. Strength in certain emerging markets has been notable, with India in particular gapping higher in what appears to be a meaningful breakout. The broader emerging markets ETF (NYSEARCA:EEM) closed the week slightly positive, despite significant concerns.

Resilience is building, and the test for emerging markets likely comes next week. News coming out of China (NYSEARCA:FXI) was particularly bad Friday night, with export data downright ugly. As the saying goes, the news matters far less than the market's reaction to news. Remember that China's markets have been weak for over 3 years now, and reaction to poor economic data may actually be positive if it means fiscal/monetary action is coming. China has been vocal about maintaining its growth rate, and likely will try to soften what could be a severe slowdown. This likely occurs through more aggressive devaluation of the Yuan to increase export competitiveness, similar to what has been on-going in Japan.

As such, next week will be particularly important for emerging market momentum. Our ATAC models used for managing our mutual fund and separate accounts do not have exposure currently as small-cap strength continues to persist in an unrelenting way. With long duration Treasury bonds (NYSEARCA:TLT) looking like they are due for a pulse lower in price, "risk-on" sentiment persists. The wild card ultimately will be China and if things escalate further in Crimea. I suspect Putin does not want to escalate things given what could be significant damage to Russia's economy as foreign investment reverses, but one can never discount the possibility that things get out of control.

This has so far been a roller coaster of a 1st quarter. It feels like forever ago that a mini-correction took place because of the rip back higher that followed in a matter of two weeks. Thus far, our strategies have performed nicely in terms of bypassing stock market volatility when things were breaking down, doing a quick trade in and out of emerging markets, and taking advantage of most recent small-cap strength. On balance, the uncorrelated nature of our strategies has so far resulted in returns better than the broader stock market while not expressing downside volatility. This is a key characteristic of our buy and rotate strategies. Because deflation pulses tend to precede corrections, volatility, and bear markets, rotating around stocks and bonds allows us the flexibility to generate absolute returns in multiple cycles. This particular cycle has been abnormally strong for US equities since QE3 began, but over time, risk management will ultimately matter more than buy, hold, and pray.

The remainder of March will be an exciting period for us. Awards for the national competitions we submitted white papers to should be announced in the next few weeks, and we are keeping our fingers crossed that our work wins and is recognized. We believe the topics we presented significantly enhance existing literature on how to outperform over multiple cycles. Once papers are awarded, we will make the work available for anyone interested in getting a deeper understanding of our alternative approach.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.