Following the worst weekly performance in nearly three months, global equities started February by recouping ground and last week was one of the best on record.
The S&P 500 moved higher in all five trading sessions this past week. It gained 4.7%, led by the Energy sector. Most world indexes also rose in tune with the global euphoria.
One reason for the rally was that Democrats pushed forward with President Biden’s $1.9 trillion stimulus program on Friday. They were able to do this by taking advantage of narrow margins in both houses of Congress.
Another reason was better than expected earnings in the large cap constituents. 57% of the S&P 500 has now reported fourth-quarter earnings. Aggregate profits are up 2.4% from a year ago. This compares to expectations on Jan. 1 for a 10% decline in profits. A large driver of this upside surprise is that 84% of the names have surpassed expectations this quarter. This is ahead of the average of 76% over the previous four quarters.
However, in the small cap space, earning are far less positive with in excess of 35 % of the segment posting operating losses year-on-year.
82 companies in the S&P 500 will post results next week; led by Cisco Systems on Tuesday, followed by General Motors and Coca-Cola the day after.
On Friday, the January employment data was in-line with expectations signalling a return to net job creation in the U.S. However, over 9 million jobs have been wiped out since the COVID-19 pandemic began making job creation one of the main priorities of the Biden administration.
On the pandemic front, vaccines seem to be starting to have an effect with death and hospitalisation rates falling in some countries despite doubts about the effectiveness of the vaccines on the South African mutant version.
As a result, investors are rightly betting on a strong economic recovery in the second half of the year, sending bond yields to the highest since 2019. Rising long-term rates are a clear danger signal for stratospheric equity valuations and for mortgages.
However, despite this positive environment, there are many signs showing cracks under the surface and sending warning signals.
For one, the S&P 500 moved to a record high, but fewer than 5% of its member stocks also hit a high on Thursday. And fewer than 70% of them have even made it above their 50-day moving averages indicating weak participation.
There has been very few weeks as positive as the one we have had last week. Every day in the S&P 500 showed a gain, there were at least 3 days with 1% gains, and it closed at an all-time high. The following chart shows the few times it happened in the past.
Short Interest is at a 17 year low. Contrary to all the hype about hedge funds shorting the market, in fact short interest has never been that low indication that investors are extremely bullish.
Despite the positive surprises, the percentage of corporations losing money is at a decade high and it is still difficult to see a turn around. But contrary to previous situations, equity markets have not reflected this.
As companies emerge from the chaos of last spring, many of them are still losing money. More than 7% of firms within the S&P 500 are showing negative operating earnings over the past 12 months, the highest percentage in over a decade. Among companies in the Russell 2000, nearly 35% of them have not turned a profit, even as the index itself skyrocketed to one of its best rallies since its inception.
Finally, speculation is at extremes. The volume off call contracts traded is again at extremes that have flashed warning signals in the past.
Putting everything in perspective, it is still our preferred scenario that equity markets may be pushing to marginally new highs in the weeks to come.
HOWEVER, we have too many warning signs that cannot be ignored and the environment is such that any piece of unexpected bad news could send equities into a drastic washout.
As a consequence, we are at the stage where we will be reducing exposure going forward and increasing our short positions.
MODEL PORTFOLIO 7 Feb 2021
In a week that was decisively strong, our Model Portfolio was almost flat, losing less than 1 % due to our short positioning in technology stocks. Most of them have actually risen 3 to 5 % last week taking their toll of our global performance.
On a Year to date basis and on a cumulative basis, we still outperform most equity indexes playing hide and seek with the Nasdaq for the first place.
In an eventful week, we traded Silver actively, taking profits and then re-instating our position way lower down, we lifted our hedges and short positions in Europe, the US and in some of our tech positions, took our 50 % profits on Mitsubishi Motors and then shorted Google again after the publication of its bumper numbers.
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