This is the time of year when I’m called upon to put the “Expert Prognosticator Patch” on my shoulder and select the biggest investment opportunities for 2016.
While I understand the need to speculate on what might happen over the next 12 months, the humbling fact is that most likely even the best, most-well-argued predictions made today will probably end up being embarrassingly wrong by Christmas morning next year.
But hey, as Hyman Roth says in The Godfather: Part II: “This is the life we’ve chosen.”
Putting your picks out there and trying to select the biggest investment opportunities for the year to come always starts with looking at what led us up to where we are right now, then extrapolating what conditions will be present during the coming year that will have the greatest influence on stocks.
The problem with that approach, of course, is that the future has a funny habit of doing what we least expect.
Still, our money needs to be invested in the stock market in order to get a proper return, and that means it is incumbent upon us all to try to figure out where best to put that money to work.
Here are what I think will be the biggest investment opportunities for 2016.
High Relative Strength Stocks
By far the best indicator for finding stocks that will likely continue to outperform the markets is to find stocks that are actually outperforming the market right now.
I do this by looking at a metric called relative price strength, which simply means the stocks whose price performance is outpacing the rest of its peers on a relative basis.
This principle worked exceedingly well in 2015, and that was clearly demonstrated by the gains in the so-called “FANG” stocks, i.e., Facebook (FB), Amazon.com (AMZN), Netflix (NFLX) and Google, now Alphabet (GOOGL). (Although I’m a huge Google fan, I really dislike the name Alphabet.)
Each of these stocks scored in the top 95th percentile or higher in terms of price performance vs. all other stocks in the market, and each had stellar performances this year.
Will the FANG stocks lead the market again in 2016? Possibly, but that’s largely an unknown.
What isn’t an unknown is that stocks with strong relative price performance will be the ones leading the market next year, and every year—and those are the stocks that will continue representing the biggest investment opportunities in 2016.
Buying the Buck
The value of the U.S. dollar vs. rival foreign currencies was a winning investment in 2015, with the benchmark exchange-traded fund in the space, the PowerShares DB US Dollar Bullish ETF (UUP), up 6.8% year to date through Dec. 23.
While that performance is far better than the benchmark S&P 500 Index, which is basically flat year to date, there are very good reasons to suspect that next year will see more money flow into the greenback.
The first and most powerful reason is the Federal Reserve, which has finally started to normalize monetary policy after nearly a decade of dollar debasement.
While I suspect the Fed will move at a “gradual” pace with its rate hikes in 2016, I think it is very likely the Federal Funds rate will be at least 50-75 basis points higher than it is right now—and that is bullish for the dollar.
At the same time the Fed is hiking rates in the U.S., central banks around the world are slashing rates. That means more downward pressure on currencies such as the euro and yen, and more upside for the greenback—upside that will be reflected in UPP.
Banking on Regionals
The Fed’s new rate hike cycle is going to be good for the dollar, but it’s also good for financial stocks. Higher interest rates mean bigger net interest margins, and if the economic and labor market strength the Fed cited as chief reasons for raising rates continues, then regional banks stand to be big beneficiaries.
While not all regional banks are performing like gangbusters, many have done quite well in 2015, and I suspect the entire industry will do increasingly well in 2016.
If you want to bank on regionals in 2016, there is no better way to do so than with the SPDR S&P Regional Banking ETF (KRE).
This fund holds a basket of the top regional banking stocks, including BBCN Bancorp (BBCN), Bank of the Ozarks (OZRK) and Simmons First National (SFNC). The fund was up 4% year to date through Dec. 23, and it also offers a yield of 1.57%.
I’m expecting the sector to double that performance in 2016, as net interest margins rise, and especially as some of the worry subsides over potential energy sector loan defaults and their effect on the high-yield debt market.
As of this writing, Jim Woods was long FB, GOOGL and OZRK.