As Stocks Struggle, Commodities Shows Signs of Energy
As we wait for Spring to arrive in the northern hemisphere, the Bull market in equities cooled off during March, with many western markets dipping below the lows during the February “momentum crash”.
Trend followers has taken a lot of stick from uninformed investors who believe that this type of trading strategy would be able to provide a hedge for them during the 9 days of turbulence in late January and early February.
In fact, only in the last few days, I had an exchange on LinkedIn with a Phd who claim that he studies CTAs for a living, arguing that CTA's have been “cheating” the last few years because they “must” have been adding too many short volatility strategies to help returns, causing them “not” to perform as a hedge in February.
He completely ignores that the only real trend in 2017 was in equities and that managers made a lot of money from being long this trend…knowing full well that when the turning point comes, some of those profits would be “given back”. And as you well know, being longs stocks last year, was really the same as being short volatility.
As you can probably guess…I don't share his view of CTAs “cheating”, as Trend Followers in particular, has never been designed as a hedge against equities (although some unfortunately would sell the strategy like that), but rather as an uncorrelated strategy, that historically have done well during longer periods of crisis.
To argue that a 9-Day correction of only 11% in the S&P is a crisis, is in my opinion misguided.
But what is perhaps more interesting to observe, is that with a bit more time passing during March, the continuation of the equity correction, did not really cause any problem for CTAs as indicated by the flat to slightly down early performance indications for most of the benchmarks tracking CTAs and Trend Followers. This is of course a result of the underlying models having had time to adapt to the “change” in trend, at least for now.
This is a good reminder that these strategies really are to be bought by investors because of their low or non correlation, and not as a direct hedge to their stock holdings.
Now, let’s look at where the trend Barometer finished the month;
After the big drop during February in the Trend Barometer, we saw some improvement and stability during March…but as it for the most part was hoovering around the Neutral level, I'm not surprised that we ended the month in that zone.
I tend to find that month-end readings between 40 and 50, leads to CTA and Trend Following performance on either side of flat.
The next chart below shows a snapshot of a 44-market portfolio with markets listed in “groups” of market sectors;
The number of markets recorded in a trending state increased from 11 to 18 during the month, with a few landing right at the neutral reading (indecated by the “grey” shade right at the 30% level. Please note that for the individual markets a reading of 30 is considered neutral as opposed to the Trend Barometer itself, where this level is 45.
The strongest reading was in Live Cattle (LC) but its cousin Lean Hogs (LH) also showed signs of a decent trend. As you can see on the chart, Commodities were dominant in March in terms of trends and only a few financial markets showed signs of consistent price moves.
In the chart below, I have grouped the markets into 10 sectors. Since last month, the number of sectors exhibiting an overall trending state halved again from 2 to 1 out of 10 sectors… which is pretty much the lowest reading you can get, as its rare to see no trending behavior in all 10 at the same time.
As suggested above, the 2 meat markets in the 44-market portfolio that the Trend Barometer uses, both showed signs of persistent trends at the end of March…so it's not surprising that this is the lone sector that overall ended in a trending state.
Clearly when such a small sector as Meats is the only “game in town” it makes it harder for large managers to benefit from this, as their size often prevent them form having meaningful exposure to markets like Cattle and Hogs.
The last chart shows the daily trend barometer chart for the past 3 years or so.
After the nosedive in February the TB spent the first couple of weeks in March, licking its wounds before finding renewed strength to start moving back up again. This in fact, meant that many managers were in positive territory for most of the month but as you can see the last few days of March saw a dip in the TB and this is what led managers to (for the most part) end up just below the zero line at the end of play in March.
Looking at the bigger picture, the S&P recorded an app. 1% loss in Q1, after recovering 1.5% on the last day of the month. Other key assets logged the following performances since Jan. 2, to close the first quarter:
- The US 10-year treasury yield finished at 2.74%, up from 2.49%.
- The U.S. Dollar Index finished at 90, down by 2.35%.
- WTI crude finished at $65 a barrel, up by 8%.
- Gold finished at $1,325 an ounce, up less than 1%.
- The iShares High Yield ETD finished at 85.6, down by 2%.
- The iShares Investment Grade ETF finished at 117.4, down by 2.8.
- The VIX finished at 20, up by 103%.
Clearly an eventful first quarter in some asset classes, and it certainly feels like volatility will be at an elevated level going forward compared to the abnormal levels we “almost” got used to during 2017.
Asset allocation across non-correlated investments will, in my opinion, be the most important area that investors need to focus on to make sure they are well prepared for what looks like an uncertain geo political as well as economical period ahead.
PAST PERFORMANCE IS NOT INDICATIVE OF FUTURE RESULTS
I hope you found the information useful as part of your own evaluation of the trend following part of your investment portfolio. I will continue to do my best to keep you up-to-date with regards to the environment for diversified trend following strategies and would love to discuss any of this information with you. Just reach out to me.