Brooke Thackray

Brooke Thackray: Market Update (January 2017)

by Brooke Thackray, Research Analyst, Horizons ETFs, Alphamountain Investments

Market Update

Trump this: Trump that. It seems that everyone has a Trump witticism. Mea Culpa.

After the U.S. election, I tried to name the rally in the sectors that benefitted from potential Trump policies as a “Trump Jump.” Alas, the media seemed to settle on “Trump Bump.”

The point is that the market dynamics have been dominated by the potential impact of future Trump pro-business policies. This is understandable as the U.S. economy has staggered along for many years with increasing regulations and a dearth of policies that have the potential to create a favorable business environment. After the U.S. election, suddenly, investors were presented with a scenario where the White House could potentially introduce a raft of policies that might stimulate the economy. This is not a political commentary, but merely an analysis of the situation.

Trump’s policies are a huge gamble. Most pundits would agree that his policies should help stimulate the economy in the short-term. Like many others, I doubt that the U.S. will expand by Trump’s target of 5% per year. The problem is that his proposed policies will rack up huge deficits. If the policies do not stimulate the economy by a large margin, there could be bigger problems down the road. This situation is not on the near-term horizon and is a topic of a future missive.

The Trump Effect is not going away anytime soon. The discussion will shift, but it will still be about Trump. Trump’s inauguration is on January 20th. There is a good chance that he will come out of the gates by talking about all of the “great things” he is going to do, but how many of them will get done, or watered down or delayed? Given the polarization of the American people and media, there is also a good chance that the Trump’s efforts will be attacked before the traditional one-hundred day honeymoon period ends. It is very difficult to predict what is going to take place on this front, especially given Trump’s nature.

Many investors are concerned that they have missed the Trump rally in the S&P 500 and sectors that have outperformed in the expectation of Trump’s pro-business policies. Although the Trump rally has been sudden and sharp, in the context of the large structural changes that are being put forward, the rally is not that large. The S&P 500® has rallied 4.6% from U.S. election day to the end of the year. After mediocre returns in the S&P 500® for so quite some time, on a relative basis, the current rally may seem large, but historically compared to other large rallies it is nothing out of the ordinary. In fact, since 1950, the S&P 500 has produced monthly returns of 4.6% or greater, 118 times.

Most sectors of the stock market have benefitted from Trump policies, but some more than others. On a relative basis, sectors of the stock market that benefit from deregulation, policies promoting domestic business operations, fiscal stimulus and a stronger economy have generally outperformed the S&P 500®. The sectors of the stock market that have benefitted from Trump’s proposed policies are colloquially called Trump sectors in this report.

The graph above shows the performance of the major sectors of the stock market relative to the S&P 500®. The strongest performing sector has been the financial sector as it has benefitted from the prospect of deregulation in the industry. The small cap sector has also performed very well relative to the S&P 500® as it benefitted from Trump’s domestic focused agenda. Other sectors, such as industrials and materials have outperformed, but not by a huge amount. The defensive sectors: health care, utilities and consumer staples, all underperformed the S&P 500. In addition, the technology sector also underperformed the S&P 500.

Overall, the stock market has performed very well since the U.S. election, but using the pre-election market valuation as a base for comparison, the S&P 500 has not run up to an unseasonable nose bleed level. If you believe that the stock market was substantially overvalued before the election, this is a different situation because the Trump rally has stretched the stock market valuation even further.

Using seasonal trend analysis to make sense of the current market situation

Stock markets do not correct just because they are overvalued, otherwise they would have corrected a long time ago. Stock markets can remain overvalued for an extended period of time. In the favorable six month period from October 28th to May 5th, stock markets tend not to have as large corrections as the other six months of the year, from May 6th to October 27th (unfavorable six month period). In my most recent book, Thackray’s 2017 Investor’s Guide, I included a special extended report analyzing this phenomenon. The stock market can have a large correction in the favorable period, but historically, large corrections greater than 10% are far fewer and not as large as in the unfavorable period. Given that it is very difficult to determine whether Trump will effectively stimulate the economy and how the stock market will react, it is best to defer to seasonal tendencies, which are positive at this time of the year.

It is probably wise for investors not to “panic” buy the Trump sectors, but they should not necessarily shy away from the sectors either. Although the small cap sector has outperformed the S&P 500 by a fairly large amount, its outperformance is not out of line historically compared with other periods of outperformance. If there were one Trump sector that perhaps has gotten ahead of itself in the short-term, it would be the financial sector, but over the long-term the proposed structural reforms could provide support to the sector. Once again, given the difficulty of trying to predict the possible implementation of Trump’s proposed policies and investor reaction, it is best to defer to seasonal tendencies for the Trump sectors, which are mostly positive at this time of the year.

Read/Download the complete report below:

Thackray Newsletter 2017 01 January by dpbasic on Scribd

 

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