/ January 03 / Yearly Preview
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Wednesday:
ISM Manufacturing PMI (47.3 exp.)
JOLTS Job Openings (8.75M exp.)
FOMC Minutes
Thursday:
Initial Jobless Claims (225K exp.)
Friday:
Non Farm Payrolls (150K exp.)
ISM Services PMI (52.8 exp.)
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Wednesday:
Cal-Maine Foods CALM
Thursday:
Walgreens Boots Alliance WBA
Conagra CAG
Friday:
Constellation Brands STZ
What may 2024 bring for the markets?
Happy New Year! Wishing you a joyful and prosperous year ahead, and ever grateful for everyone being here and supporting our fledgling research platform! As we head into 2024, we’ll start by briefly reviewing the market landscape through the end of last year, then make a couple of projections and lay out the key questions that will need answering in order to position our portfolios for the best outcome.
From a broad asset class allocation perspective, 2023 was a year where equities shined. Gold came in behind, as investors bid the yellow metal due to its inflation-hedge properties. Long-term treasuries suffered a large -20% drawdown, but managed to recover in the last 2 months of the year on Fed dovishness. Finally, despite persistent inflation concerns, commodities finished 2023 as the worst performing asset class, with oil being the biggest drag.
On the year:
SPY was up +25%
GLD was up +13.5%
TLT was almost unchanged
DBC finished lower -10.4%
2023 was a year dominated by US markets, despite all talks of “de-dollarization”, national debt, the growing deficit, and concerns about a looming recession. Asset allocators of all stripes experienced subpar results, as performance was isolated to a couple of key sectors that enjoyed eye-popping returns.
Just 3 out of 12 sector ETFs managed to outperform SPY over the last year. This is a highly unusual level of disparity, reflecting a bi-polar and volatile market environment. Here they are, ranked according to 1 year excess returns over the benchmark (SPY):
The sectors that experienced outperformance did amazingly well. Tech (XLK), Communications (XLC) and Consumer Discretionary (XLY) were up 52%, 48% and 38% on an absolute basis respectively. The worst place to be, by far, was Utilities (XLU), which returned -8.8% on an absolute basis and underperformed SPY by -33% (!). In conclusion, defensives did not work, while high beta, high growth names (especially Mega Caps and “the Magnificent 7”) led the charge higher.
However, in order to understand the performance of 2023 better, we need to put things in the proper perspective. Here’s a “winners” portfolio of XLK + XLC + XLY (orange) plotted against a basket of broad market ETFs with Utilities and Energy for good measure (MDY, IWM, XLU, XLE) for the past 2 years:
It turns out that over this very turbulent period, investing in the broad market would have yielded better results. Tech, Communications and Consumer Discretionary were the severe laggards of 2022 and simply did a lot of “catching up” in 2023. They did not actually outperform over the whole period. It’s important that we realize this, as one key question comes up:
“Will laggards become winners again, in 2024?”
We suspect this year will see a more balanced investing landscape, and less disparity among sectors. Individual stock selection will become more important than simply nailing the winning sector in 2024.
From a factor perspective, we clearly see the opportunity for small caps (IWM) to catch up to their large capitalization peers. This “catch-up” in performance will simply be a function of valuation expansion, as long as no recession occurs. We ran a screener comparing the average Price to Sales of the top 100 Market Cap companies with a Pietroski F-Score of 6 or greater, with that of the lowest 100 stocks by Market Cap and the same Pietroski Score (the idea being to compare valuations across companies of similar fundamental quality). The result was striking:
Average P/Sales for top 100 companies: 5.62
Average P/Sales for bottom 100 companies: 1.36
Now this simply begs the question:
“Will there be a recession in 2024?”
And speaking of Price to Sales… Using our latest instrument (the just released Ranking System / Factor Returns), we can see that the most expensive companies did incredibly well in the 6 months. Price to Sales ranked as the best performing fundamental metric across a medium term historical window. Just not in the last year or last week. (We’ll release a video describing how this instrument works real soon!)
The last week in the markets clearly brought a reversal of sorts. While we are still trading in the “holiday period”, the first indicator for 2024 will find its conclusion at the end of today’s session. The Santa Claus indicator runs on the timeframe of the final five trading days of the year and the first two trading days of the following year - a positive outcome is supposed to herald a positive year ahead (similar to the January Barometer). In order to get a positive reading, the S&P 500 needs to close above 4.770 today.
Which brings us to the current state of affairs. We will rely on our Market Outlook published in November 2023 in order to adjust the chart below. Our base case estimation is for SPY to finish 2024 at around $470. This “call” can turn out to be accurate, even in the case of a more optimistic outcome ($502, at the high range of the channel) or a more disappointing result ($438 at the lowest point). The idea here is to portray an accurate picture of the current risk/reward proposition.
As can be seen from the chart… the risk / reward for the broad market is not great. This does not mean that markets can’t go higher from here, and such a set-up does not preclude a “crash”. It simply serves as a warning against indiscriminate buying and chasing the hottest stocks right now.
SPY Analysis
From a sentiment perspective, the market has cooled down a bit, but still remains broadly overbought, despite yesterday’s decline. Ideally, we’d like to see sentiment hover at around 50 or lower, before “buying the dip”. Until then, we’d rather “let winners run” and take profits accordingly, while keeping portfolios on the defensive side, slightly below allocation targets.
Positioning Recap
Our Live-Trading Portfolio (called the Sigma Portfolio) is benchmarked to a classic 60% Stocks (SPY) / 40% Bonds (TLT) allocation and seeks to draw on all platform resources in order to give you added insight into how to use the tools available here. The allocation is 100% discretionary, using our automated strategies and manual research as decision support tools.
We’re starting off 2024 slightly below target exposure for both stocks and bonds, while holding 10% in cash. The idea here is to maintain a healthy allocation to a subset of stocks that have continued upside (MSFT, NVDA, LLY, AMGN, PRGS), while not going “all in” on bond duration yet. Out of the 31% bonds exposure, 12% is TLT (long duration) and 14% is SHY (short duration), with the remainder in corporates.
Stocks and long duration bonds are still well correlated. We’d like to see a “real” drawdown or correction first, before adding to TLT and to our equities holdings. Depending on how small caps perform, the plan is to also buy weakness in that area of the market.
Investing Rules to Win in Any Market Environment
While these “resolutions” apply at every market juncture, it’s worth remembering this set of rules at the start of the year. Nothing here is exactly groundbreaking, but the secret lies in the actual application, not the theory. First of all, let’s define the concept or “risk” as it relates to investing. Howard Marks wrote a great piece on this concept:
“If I ask you what’s the risk in investing, you would answer the risk of losing money.
But there actually are two risks in investing: One is to lose money, and the other is to miss an opportunity. You can eliminate either one, but you can’t eliminate both at the same time. So the question is how you’re going to position yourself versus these two risks: straight down the middle, more aggressive or more defensive.
I think of it like a comedy movie where a guy is considering some activity. On his right shoulder is sitting an angel in a white robe. He says: ‘No, don’t do it! It’s not prudent, it’s not a good idea, it’s not proper and you’ll get in trouble’.
On the other shoulder is the devil in a red robe with his pitchfork. He whispers: ‘Do it, you’ll get rich’. In the end, the devil usually wins.
Caution, maturity and doing the right thing are old-fashioned ideas. And when they do battle against the desire to get rich, other than in panic times, the desire to get rich usually wins. That’s why bubbles are created and frauds like Bernie Madoff get money. Unemotionalism.”
Unemotionalism is key to managing any portfolio. In practice, it’s a very hard thing to do. That is why we have built this entire application - as a decision support tool that should help you see the market from an unemotional perspective. Here are the rules:
Cut losers short and let winners run. Scale up into positions that work, rarely vice-versa. Refer to our Removals guide.
Set actionable goals. Decide the proper position sizing, Profit Taking and Stop Loss price for each position, when doing your investment planning. Do this when the market is closed. In the “heat of the moment”, during the live session, consult your pre-set plan. Use the Portfolio Tracker to monitor positions and risk.
Abstain from emotional mistakes. Emotionally driven decisions void the investment process. Use the Sentiment indicator to avoid buying in Greed and selling in Fear.
Never let a “trading opportunity” turn into a long-term investment. Until your thesis is proven correct, a position in your portfolio is “just a trade”. Many traders become “long term investors” when their positions under-perform. Refer to rule #1.
An investment discipline does not work if it is not followed. “Just do it” - easier said than done, but focus on the process rather than returns, and profits will eventually materialize.
“Losing money” is part of this game. You should not be investing if you are not prepared to take losses. Refer to Rule #2 to understand the risk you are taking.
Strive for a “70% win rate”. No strategy works 100% of the time. There’s no “magic bullet” when investing. However, doing research, managing risk and emotions can be practiced every day and will lead to successful outcomes given time.
That’s it for today! As we wrap up the first article of the year, we’re pleased to inform you that we have a couple of custom strategies in the works, as well as several stock reports. We’ll deliver these as fast as possible to all of our subscribers.
Have any questions or suggestions for improvement? Need a stock symbol that’s not currently covered? Feel free to reach out any time!
Have a great day and happy investing in 2024!
Signal Sigma PRO members will be notified by Trade Alert of any live portfolio changes (if subscribed). If you’re not on this plan yet, you can get a free trial when you join our Society Forum. If you need any help with your trading strategy (or would like to implement one on your account), feel free to reach out!