In the last article, I covered the 3 indicators to watch out to signal an impeding global recession and a Bear market. In the month of November, one of the indicators, the US treasury yield curve, turned inverted for the first time in the last 10 years. Automated trading systems that are watching out for similar indicators triggered a sell trade on a wholesale basis leading to a 8% crash in the overvalued US stock market within a single week. Some of the analysts lay blame on Trump for shutting down the US government while trying to get the government pass a bill to build the Mexican wall, others blame the US Federal Reserve for rising the interest rate when the stock market is going through a soft patch. The tension between US and China in their arrest of the Hua Wei CFO and various Canadian citizens created doubt if the trade war can ever be resolved in the near term. On the other hand, there was an influx of good news such as a record year end shopping sales revenue, low employment and low inflation rate.
The Bears, having tasted blood, continued their rampage causing the stock market to fall, despite the good news, which on an average year, will probably push up the stock market.
In my opinion, none of the above factors actually matters as the sharp correction was probably due to a vastly overpriced US stock market that has ignored the actual state of the market for far too long and is correcting to match that of Europe and Emerging Market which has a horrid 2018. Comparatively, the Emerging Market markets only fell 2% during the Xmas week while the US equities fell 8%.
The Start of the Bear Market?
Not quite, but the psychology of the stock market has taken a hit as the events of the last few weeks heralded the end of a period of low volatility and mini single digit corrections. This shift in psychology is important as it signals that the current Bull market is near the end and the market participants are starting to reverse the portfolio allocation from a equity heavy one to a more conservative bond centric portfolio. On the bright side, the valuation of various stock market has fallen to a much more reasonable level which many analysts outright calling Emerging Market "cheap" and recommend it to be the probable bright spot in 2019.
The record breaking market rally on 26th December when the US stock market rallied more than 5% probably has broken the momentum of the bear market and the recent price drop will become a severe correction, rather than an outright bear market. The Bull market hasn't given up hope yet as the optimists piled into stocks deem to be cheap by the last few years standard while the big boys quietly re-position themselves readying for the big down turn as economic fundamentals start to slowly deteriorate and the rising interest rates bite into the economy.
The spark to the next major Bear market has been lit and it will be the beginning of the end of the current Bull cycle. It might take another year for the cracks of the economy to start showing in more earnest and for the ship to sink as rising interest rates take its toll. In the meantime, we will probably be safe for a while with the economic duct tapes keeping things together.
Our Portfolio Strategy
The portfolio has weathered the correction well with most of our allocation into Emerging Markets and Bonds at the start of the November, bringing the losses for the recent market crash at 4.9% as compared to the global loss of 8.7%. Due to the fact that interest rates is on the rise in the immediate term, it still doesn't make sense to move the entire portfolio into bonds as the rising rates will only hurt the bond portfolio without any potential for upside. The US federal reserves will probably start to taper off the rate rise next year as the weakening stock market will scare them into any more tightening measures and declare that their job is done. That is when the Bull market will probably reach the end of its line and that is when we will go into a full defensive mode.
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