Here Are My Top 5 Investment Themes For Q1
I just updated members of EPB Macro Research on my Q1 investment themes as well as recapped the Q4 investment themes.
As a membership benefit, each quarter, five investment themes are released that have the highest probability of unfolding based on the economic cycle research.
For the first quarter of the new year, below is the full note, released to subscribers.
If you would like to see the model portfolio to go along with the investment themes and receive all updates, join EPB Macro Research today. Click here to learn more about membership.
[Quarterly Themes] Investment Themes Moving Into Q1 2019
Firstly, I'd like to wish everyone a Happy New Year.
Below is a recap of the five key investment themes from Q4 with a check on how each theme played out. After the recap of Q4, the five investment themes for Q1 will be outlined.
These themes are/will be covered in the weekly writings with the data to support each investment thesis.
Updates to this list will be made as the data changes and at the start of each new quarter.
Q4 Investment Themes Review
For the original Q4 themes post in which you can see more detail, released on October 1st, please click here.
1) Growth Decelerating From Q3 to Q4
At the time of the Q4 themes writing, on October 1st, Q3 GDP was expected to be 3.19% on a year over year basis. Growth estimates came down as Q3 GDP was officially reported at 3.00% year over year. Based on the current estimate from the Atlanta Fed, Q4 GDP will be lower than Q3 GDP. Q4 GDP, based on the current estimates is tracking at 2.94% year over year, down from 3.00%.
On top of actual growth numbers coming down, growth expectations and fear of a global growth slowdown also emerged in Q4.
Investing based on decelerating growth from Q3 to Q4 was a correct theme for Q4.
2) Inflation Decelerating From Q3 to Q4
Inflation was expected to decelerate in Q4 compared to Q3. In Q3, headline CPI averaged 2.61%. As of December, Q4 inflation is tracking to an average of 2.35% which is likely to move even lower after the final numbers for the quarter are reported.
Inflation expectations also plunged in Q4 based on 5-year breakeven inflation rates.
Investing based on decelerating inflation from Q3 to Q4 was a correct theme for Q4.
3) Interest Rates In A Topping Process
Calling for lower long-term interest rates was a very out of consensus call and during the spike in rates, during October and November, appeared to be an incorrect call.
We did not let emotion take over, stuck with the data that continued to suggest growth and inflation were slowing and long-term interest rates ended the quarter lower than the start.
30-Year Treasury Rate:
Source: YCharts, EPB Macro Research
Long-term interest rates are completing a topping process.
4) US Dollar Bull Market Continues
We stuck with the US Dollar bullish call for all of Q4 and saw the dollar increase in value. The dollar rose because the rest of the world was slowing faster than the US was slowing.
Towards the end of the year, it is becoming unclear if the US or the rest of the world will be slowing at a faster pace which is why the dollar has given back some gains.
US Dollar Bullish ETF (UUP):Source: YCharts, EPB Macro Research
The bullish US dollar call was a solid investment theme for Q4.
5) Emerging Market Slowdown Continues
The slowdown in the emerging markets continued, with China registering a contractionary PMI reading at the end of December. EEM also closed near the lowest level of the year.
As mentioned above, this is no longer a top bearish idea due to the possibility of the US slowing faster than the rest of the world in Q1.
A continuation of the emerging market slowdown was a correct investment theme for Q4.
Investment Themes Moving Into Q1 2019
Below are the five key investment themes at EPB Macro Research as we move into the first quarter of 2019 as well as the risks associated with each investment theme.
1) Growth Decelerating From Q4 to Q1
Year over year GDP growth came in at 3.00% for Q3. It is expected that the growth rate ticks lower in Q4 as the final numbers are reported and lower still in Q1 of 2019 relative to Q4.
As growth expectations continue to trend lower throughout Q1, risk assets will remain volatile, long-term yields should drop and cash will remain a strong investment.
Risks To Theme: Fiscal stimulus, increasing government spending's contribution to GDP growth.
2) Inflation Decelerating From Q4 to Q1
Inflation came down significantly in Q4 relative to Q3. Average inflation so far in Q4 was 2.35% (likely to move lower with December numbers) compared to 2.65% in Q3.
I expect inflation on a headline basis to move lower, especially in the first half of Q1, to an average lower than 2.35%.
Risks To Theme: Oil prices rebound on a supply shock.
3) Long-Term Rates Continue To Move Lower
Due to falling growth and inflation expectations, the forecast is for long-term interest rates to continue moving lower in Q1 relative to Q4. The call for long-term interest rates to decline was an out of consensus call, especially while rates were rising in October and November but the 30-year yield finished the quarter lower than where it began.
I expect long-term interest rates to continue falling, especially once the economy moves into the ease-off phase where long-term bonds are one of the best performing asset classes.
Risks To Theme: Any upside surprise in growth or inflation expectations, likely due to government stimulus.
4) Real Rates In A Topping Process - Gold/Silver Move Higher
Something that has been discussed at length recently is the topping process in real interest rates and thus, the change in trend for gold and silver.
Real Interest Rates:
For more on this theme, I suggest reading the latest [Weekend Dashboard] report, which you can find by clicking here. The report has detailed explanations on the current view regarding gold and silver.
Risks To Theme: The Federal Reserve raises interest rates more than expected or inflation expectations decline too fast relative to nominal interest rates.
5) The Federal Reserve Gets Increasingly Dovish As The Ease-Off Phase Arrives
I expect the Federal Reserve to ramp up the dovish language, thus causing downward pressure on short-term interest rates. Currently, monetary tightening expectations are quite light, as seen below, with less than 10 basis points of expected tightening in 2019 and easing in 2020.
Future Monetary Tightening:
I expect these estimates to move lower still, and talks about adjusting Quantitative Tightening to emerge.
Risks To Theme: Better than expected growth and inflation figures that causes the Fed to increase monetary tightening expectations.
Please let me know if you have any questions about any of the new quarterly investment themes for Q1.
All themes will be/have been discussed thoroughly in the weekly writings.
By nailing essentially all five investment themes in Q4, the portfolio was able to massively outperform, rising 0.94% compared to a staggering loss of 13.53% for the S&P 500.
We are looking to continue this outperformance in the new year with continued accuracy across the quarterly themes.
If you would like to see the model portfolio to go along with these investment themes, join EPB Macro Research today.
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I hope to hear from you in the member chat room. Have a Happy New Year!
I wish you continued success with your investment goals.
- Eric Basmajian