As we approach Labor Day and look ahead to the final four months of the year, investors would be prudent to assess the state of the markets. By analyzing both opportunity and risk right now, you can make the moves you need to stay within a rational portfolio plan.
2013 has been characterized by significant changes in stocks, bonds and commodities that likely have made an impact on your expectations for future returns. The shifting dynamics among these asset classes means you’ll have to get proactive to navigate these murky waters.
Global Macro View
From an economic standpoint, the data continues to point to positive trends. U.S. second-quarter GDP was recently revised up to 2.5% from an initial reading of 1.7%, and the markets reacted favorably. Job numbers continue to remain stable, and we have yet to see the full impact of rising interest rates on consumers.
These are all net positives for the domestic economic picture and point to a confirmation of the Fed’s plan to taper its asset purchases sometime this year. We all knew the free money train was going to come to an end; we might find out how soon in September.
From a geopolitical context, the picture is much darker. We face the potential for conflict with Syria, which has spooked the markets and sent energy prices higher. In addition, we are seeing continued weakness in emerging-markets stocks, bonds and currencies, which does not bode well for overseas investments. All of these factors could create a spillover effect into U.S. markets if conditions continue to worsen.
Stocks: Make the Most of This Pullback
Click to Enlarge The domestic stock market has had a fantastic run this year. The SPDR S&P 500 ETF (SPY) has risen 15% year-to-date, and that’s after August’s retreat. Currently the bellwether large-cap index is sitting just below its 50-day moving average.
Logic would dictate that a larger correction between 5%-10% was long overdue, but stocks — while still pulling back somewhat — have been amazingly resilient.
I believe stocks’ current weakness will worsen if we see a lack of conviction on the buy side, combined with additional policy shift from the Fed or an escalation of international conflict. However, any additional weakness should be viewed as a buying opportunity for cash on the sidelines.
I have been using this pullback to add small positions in low-risk equity holdings such as the iShares U.S. Minimum Volatility ETF (USMV). Another sector that has outperformed considerably is technology stocks, with the re-emergence of Apple (AAPL) keeping the PowerShares QQQ (QQQ) close to its year-to-date highs.
Keep in mind that any new positions should be added with small allocations that you average into by using additional weakness to your advantage. In addition, you should be mindful of the long-term trendlines, and use stop-losses to define your risk.
Bonds: The Most Hated Correction of All Time
Without a doubt, the move in interest rates this year has been a shock to income investors that had grown accustomed to safe and steady returns in their bond funds. In addition, interest-rate-sensitive investment vehicles such as REITs, preferred stocks and utilities have all been stung by higher Treasury yields.
Click to Enlarge There has generally been a very high level of animosity towards any investment with associated interest-rate risk. However, that rushing tide of resentment might be starting to slow. Recently, the iShares 20+ Year Treasury Bond ETF (TLT) hit a new year-to-date low and bounced higher. This likely was due to long-duration Treasuries hitting oversold levels combined with the fear of a Middle East conflict sending money pouring back into high-quality bonds.
I recently outlined the three reasons why I believe we will see at least short-term stability in bonds. However, a great deal of turmoil might be lurking if the Fed does decide to taper its asset purchases in September.
I am keeping my bond exposure very short in duration with a slant toward high-yield and floating-rate note funds that have outperformed. Underperforming bond sectors that I am avoiding right now are emerging-market, municipal and TIPS positions.
Gold: Pause for Applause
Click to Enlarge While there are numerous fundamental reasons for owning gold that can be debated ad nauseam, I have always taken a more balanced and technical approach to owning the precious metal. Back in June, I predicted that the SPDR Gold Shares (GLD) was getting oversold due in large part because of the tremendous pessimism surrounding its downward spiral.
Since that time, GLD has rallied nearly 20% from its low.
GLD has now regained several key technical levels and is in a strong uptrend thanks in large part to a weaker U.S. dollar and strong foreign demand. In addition, gold bullion typically acts well during times of global turmoil as a flight-to-quality instrument.
Despite its harried momentum, I would not be surprised to see GLD take a breather at this point. We might see some backing and filling that will work off some of the overbought indicators and allow for systemic buyers to return to this sector. Short-term traders should consider taking some profits off the table at this juncture and look to use additional weakness to their advantage. Ultimately, I think a minor correction in gold will be a healthy and constructive event to continue its upward progress.
The Final Word
As you are flipping burgers on the grill this Labor Day weekend, spend some time giving thanks to the little things in life that make you happy. Without our friends, family and health, none of this investing game really matters.
But when you return from the long holiday, consider the opportunities and risks that we are presented with for the remainder of the year, and position your portfolio to benefit from these trends. You will sleep better at night knowing you are making proactive changes to enhance your returns — no matter how the next four months play out.
David Fabian is Managing Partner and Chief Operations Officer of Fabian Capital Management. As of this writing, he was long USMV. To get more investor insights from Fabian Capital, visit their blog.
