Market Vacillates as Oil and Yields Challenge Bull
Over the past month yields have bounced between recent highs of 4.36% and just below 4% for the ten year bond. This matters because as yields move to the top of that range, investors fear a yield breakout that threatens holders of longer dated bonds and lending costs across the economy. When yields recede, it lowers fears about bond losses and improves economic prospects. Stocks appear to be inversely correlated: Advancing as yields recede and falling as they rise.
The good news is that stocks have decent gains this year (S&P 500), and markets are vacillating around good or quite good year to date numbers. This is a much better place to be than being down roughly 20% where we were at this time last year.
That said, markets are entering an unfavorable season where historically all kinds of god-awful things have played out (depression crash, Oct. 1987, Lehman). One glaring possible detractor from good market vibes is the (gulp) budget negotiation that could threaten a government shutdown. We miraculously escaped a debt ceiling disaster earlier this year. Whether we can pull this off again remains to be seen.
My view is that the markets will break out of the recent range and establish either an upward or downward trend in the upcoming weeks.
Adaptive High-Income Strategies poised for New Era
So far this year, trend-driven high yield strategies, such as those that we manage, have produced lackluster returns relative to both stocks and money market returns, although they are roughly in line with investment grade bonds. However, several factors may position these strategies for potential gains ahead in a manner that may be new for advisors. This possibility comes largely because of higher yields.
In our High-Income models, we have traditionally moved between high yield bonds and T-bills or other cash instruments when in a defensive posture. For a majority of the past decade high yield bonds have yielded 4-5% and cash instruments have produced nil.
In the current environment, high yield bonds are yielding 8.4%, while T-bills (3 months) are yielding 5.3%. That means that we toggle between these two types of instruments whose potential yield is at a higher starting point than it was prior to 2022.
A third type of possible allocation in the strategies is aggregate bonds. If the economy falters and enters a recession, the FED is expected to respond by lowering rates, which historically is associated with Investment grade bond appreciation. Here’s how this math potentially plays out:
A favorable economy = Allocation to High Yield bonds with a potential for high yields and potential appreciation.
A faltering economy = Fed lowers rates triggering a potential for appreciation in Investment Grade Bonds.
This second possibility is what’s new. In the past, the expectation was that these strategies would have very low returns when in a defensive posture due to short term rates.
Recent Trades and Current Positions:
Between September 1stth and the 6th, we moved into a fully invested posture in our US Stock allocations. Earlier, between August 28th and the 30th, we moved to a fully invested position in our HY Bond allocation.
International Stocks are fully defensive currently.
High Conviction Tactical Models1,2:
Developed International Stocks: 100% Defensive
High Yield Bonds: 67% to 100% Defensive3
US Stocks: 100% Defensive
Investment Grade Bonds: 100% Cash Equivalents
Managed Risk: Approximately 11.2% out of the money at yesterday’s market close (LEAP on SPX Futures Put strike price)
Equity Portion of Defensive Alpha Models1:
33% Defensive Posture
These include the Toews Capital Preservation, Balanced, Balanced Income, Balanced Growth, Growth, and All Equity, High Income, Balanced Income, and Conservative Income portfolios. They do not reflect the allocations of these strategies that are not allocated to Toews Funds.
Exposure to vehicles invested in the listed asset classes.
All statements other than statements of historical fact are forward-looking statements (including words such as “believe,” “estimate,” “anticipate,” “may,” “will,” “should,” and “expect”). Although we believe that the expectations reflected in such forward-looking statements are reasonable, we can give no assurance that such expectations will prove to be correct. Various factors could cause actual results or performance to differ materially from those discussed in such forward-looking statements.
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