Insight & Commentaries

Quality First

There is lots of discussion about the return of speculation. Cryptocurrencies, message board short-squeezes, soaring penny stocks, “blank check” companies, and record issuance of risky debt dominate today’s headlines. It is hard to imagine that, just under a year ago, financial markets were in freefall. Greed replaced fear in the span of a few short months, despite an ongoing pandemic. This week we return our focus to “quality” as a key factor in portfolio construction. Risk-On! Notice the chart below. It is a ratio of the most volatile stocks in the S&P 500 divided by the least volatile. When investors…

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While risk-taking remains in fashion and more stimulus is on the way, we are trimming back some equity exposure. We now forecast some tempering in the outlook ahead (Chart A, below) after a long stretch of improving conditions. As a result, we reduced stock exposure to 67% from 80% and increased bond exposure to 33% from 20%. CONQUEST tactical asset portfolios remain overweight stocks versus bonds, only less so. Chart A WCA Fundamental Conditions Barometer High Hopes Since the governments and central  banks around the world went “all-in” to save the economy from the pandemic last spring, wealth has exploded….

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Muni yields were virtually unchanged in January, continuing their outperformance of U.S. Treasuries, which sold off by up to 20 basis points (bps) on the long end of the curve, as Muni-to-Treasury ratios fell to all-time lows. Low supply combined with continued inflows into muni mutual funds have caused a renewed imbalance in the market. As a result, credit spreads have continued to narrow, leading to an underpricing of credit risk. We continue to focus on high grade credits as underlying economic risks still exist and rates remain at historic lows, leading to limited upside potential.

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Viewpoint 2021

Many are expecting vaccinations to lead to a robust recovery this year. Return to normal and restart of the in-person economy should encourage growth and be celebrated. At the same time, the return to growth could also weaken the case for continued fiscal and monetary ease. And once restarted, the globe faces challenges. The tensions and ailments that existed before the pandemic are still with us. The path appears to be forward but it will not likely be a straight line. Last year’s pandemic-induced downturn was out-and-out different from recessions past. For this reason, we should see recovery as a…

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Valuations, Revisited

The stock market is on a historic run, with U.S. stocks eclipsing $42 trillion in value for the first time ever last week. The broad market, measured by the S&P 500, continues a decade of strong returns with the rolling 10-year real return for the market above 10% (Chart A, below). Chart AS&P 500 Trailing 10yr Real Annualized Return Market of Stocks Many of this year’s “stay at home” themes are playing out and the technology sector is on a tear. Yet, this year reminds us it is not so much a “stock market” as a “market of stocks.” Even…

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In the realm of corporate finance, “real options” are those that allow managers flexibility to make decisions in the future. Instead of making all decisions upfront, managers can wait and make additional choices in the future. The assumption, of course, is that conditions could change or more information might be available then. One of the simplest real options managers have is timing. Delaying investment in hopes of improved information in, say, a year could help improve the project’s value. The same line of thinking can be applied to allocating assets in the context of a thoughtful investment portfolio process. Some…

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As we start the fourth quarter, the major U.S. stock market averages hover around a 0% return for the year. That unexciting performance masks extraordinary volatility — a 35% February-March decline and a 50% March-August bounce back. Other assets demonstrated similar volatility (graph, next page). Through September 30, Long-term U.S. Treasury bonds returned over 20%, and Bloomberg Barclays Aggregate U.S. Bond Index returned 6.5%. Short-term T-Bills returned about 0.7%, and gold is up 24%. Volatility again ruled the roost in 2020, and diversified portfolios generally did better than all stock portfolios. As we head into the final quarter of 2020,…

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Munis were virtually unchanged in December, outperforming U.S. Treasuries, which sold off by 7-10 basis points (bps) across the curve. Market activity was subdued as issuance slowed in December but full-year issuance broke the record for highest ever. Credit spreads continued their dramatic narrowing as more government support is expected, especially with the likelihood of a Democratic Senate. So-called “problem” credits, such as the New York City MTA (which we’ve added to our spread tracking list on page 3), have seen the most significant narrowing. We continue to focus on high grade credits as underlying economic risks still exist and…

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After rising in October, Muni yields fell dramatically in November, outperforming yields on U.S. Treasuries. Munis rallied with Treasuries after the election results were announced but did not track the selloff in Treasuries after successful COVID vaccine trials were revealed. Issuance slowed in November to only about $20 billion, causing a renewed supply and demand imbalance, a dramatic shift after October’s issuance broke monthly records and pushed total 2020 issuance to a yearly record. Even with yields resetting lower, Muni mutual funds continued their streak of inflows, taking in another $6 billion in cash. Credit spreads continued to fall as…

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Boom

A month after the announcement of the first highly effective COVID-19 vaccine, positive momentum is building. Potentially game-changing vaccines, a new round of government spending, and continued, pedal-to-the-metal monetary policy are nurturing a boom environment as we end a most challenging year. While COVID-19 cases grow globally, and in the wake of the election, it is easy to lose track of market trends. In no particular order, here are a set of observations about recent trends worth noting. Observations: The value of all U.S. stocks is nearing $42 trillion, or 2 times the whole economy’s size ($21 trillion GDP). High…

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To The Bone

Interest rates on bonds are at very low levels. The decline in the United States rates follows those of other sovereigns like Germany, the United Kingdom, and Japan (Chart A, below). In turn, global rates are following a long-established, declining secular trend. That trend leads to “negative” rates with more than $17 trillion in such debt circulating globally (Chart B, below). The defeating of inflation and worries of deflation may be behind this trend. Still, other factors may also be at work. Chart A U.S. Long-Term Treasury Yields vs. Average Foreign Yield (Germany, United Kingdom, Japan) Chart B Aggregate Global…

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For years, stock investors have fixated on “style,” which means investing in “growth” or “value.” “Value” in this context is usually defined as buying stocks with low price-to-book or low price-to-earnings ratios. Some are now rethinking the very foundations of this framework as the return to value indexes continues to shrink (Chart A, below). Others are leaving behind simplistic notions of “style” investing and looking for all sorts of new factors to find performance. In our view, adding a multitude of new factors to the mix is also the wrong approach. The right perspective simply relates price to a few…

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In October, Muni yields crept higher, rising by 6-9 bps across the curve, echoing the move higher in US Treasury yields. Muni Mutual funds recovered from a single week of outflows and took in over $5 billion for the month. After the election results were announced, how-ever, both Muni and U.S. Treasury yields fell dramatically as expected gridlock in the split legislature diminished the prospects of a massive stimulus package and higher inflation. The main story in Munis was record monthly supply in October as issuers rushed to market prior to the election.

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