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Tactical Update

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The recent weak economic trends have, to date, not equated to stock market weakness. The rise in interest rates is being, reportedly, caused by talks of tapering. Perhaps, but the negative feedback loop that can follow is the concern. As interest rates rise, the cost of funding rises. Short duration debt to fund purchase of longer duration assets becomes problematic in this environment. The value of your asset can go down as your cost to hold that asset rises. In this scenario market participants experience a duration mismatch and become sellers of assets to both fund and ease these (permanently?) higher short term costs.

In the current environment this would seem to be affecting a wide array of large players: countries, banks, hedge funds. Perhaps not yet, one would think this would eventually affect retail investors, especially those who buy securities on margin. And, as markets are leading indicators, the overall weakness would proceed to hit corporate income statements and balance sheets. What do these market participants sell?

Perhaps their gold:

gold

Perhaps their longer term treasuries:

tlt

The result is higher interest rates, a higher required return across the spectrum of assets, and potentially higher volatility. This equates to lower asset prices. The added concern is that the change in the cost of capital will eventually affect the price of stocks, investor sentiment and the financials of corporations.

Non-financial companies went into the crisis with  the strongest balance sheet of any sector. The low cost of capital has allowed companies to benefit their equity owners. With the prospects of higher, future costs of capital, net margins could go lower. Sales growth is only compensating slightly as revenue growth in Q2 is up an estimated 2.9% on a rolling trailing 12 month quarterly basis, down from 6.6% a year ago.

This weeks market action prompted us to act further on what we see happening in the macro environment. There was a decisive break from the 4 week trend line toward the 10 week trend line on Thursday. This was followed by a break through this 10 week or 50 day moving average on Friday.

spx

Negative price action in stocks is a concern.  We feel de-levaraging and tapering move us toward more of a market determined cost of capital; and, that this is a good thing long term. But the unwinding of intervention does present some unknowns.  As these large macro themes play themselves out, we remain concerned about potential negative market price action, volatility and systemic risk.

Strategy Moves:
Global Opportunities:
  • Sell ABBV
  • Sell GOOG
  • Sell ABT
  • Add VXX
World Allocation:
  • Reduce US Large Cap Growth
  • Add VXX

As always, please feel free to contact me with any questions or concerns.

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For information on Alhambra Investment Partners’ money management services and global portfolio approach, Douglas R. Terry, CFA is reachable at: dterry@alhambrapartners.com

Disclaimer: The information, data, analyses and opinions contained herein (1) include the confidential and proprietary information of Alhambra Investment Partners LLC, do not constitute investment advice offered by Alhambra,  are provided solely for informational purposes and therefore are not an offer to buy or sell a security, and are not warranted to be correct, complete or accurate. Except as otherwise required by law, Alhambra shall not be responsible for any trading decisions, damages or other losses resulting from, or related to, this information, data, analyses or opinions or their use.


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