The June 19-20 meetings records of the Federal Open Market Committee disappointed the markets, as many thought that there was not enough emphasis on quantitative easing. No surprise there as hope of QE has been the only thing propping up the S&P 500 over the past couple of years.
There is a general perception that further asset purchases are “required” by the Fed to kick-start the jobs markets. Jason Pride, director of investment strategy at Glenmede Investments at Philadelphia thinks even though the economy is in a growth scare, it’s not scary enough for the Federal Reserve to launch another round of assets purchase program.
Agreeing that 10-year yields on US Treasury notes, currently hovering around 1.50 percent, suggest that investors are scared about the economy and have turned defensive to protect capital, he said things are going to be difficult for some time due to slowdown in growth. However, it doesn’t mean growth has turned negative. It’s the negative growth or deflation that the Federal Reserve needs to react to, Jason added.
When countered that inflation is varying between 2 and 5 percent, effectively turning returns on bonds negative, Jason said the typical investment approach of allocating assets in two broad asset classes, the equities and fixed income, is flawed as there are a full spectrum of investment options available. The best possible investment option now to maximize risk-adjusted returns is to squeeze assets in the middle of the risk spectrum, and not in the two extremes, i.e. equities and fixed income.
In order to achieve that, investors need to buy high quality stocks that pay growth dividends, thus reducing risks on their equity portfolio, and add high-yield (junk) bonds with BB or B rating, or two-year maturity bonds from emerging markets that offer between five and eight percent yields, which looks attractive even after adjusting for currency depreciation. This strategy is more suited to investors who wish to keep their portfolios uncomplicated.
For sophisticated investors, Glenmede is offering Secured-Option portfolio alternative where it sells call options against equities in the portfolio, which is akin to selling insurance while collecting a small premium that creates an interesting payoff profile since its add to the returns. Such a strategy is more tuned to the current scenario where returns are low, interest rates are below normal and growth is slow.
My view is somewhat different in that there is a time to be in the market and a time to be out of the market. Our international sell signal effective 5/15/12 has proven that point rather nicely. The question now is will the domestic market follow? I believe it will, considering the global economic slowdown, but the timing of it is still unknown. However, our Domestic Trend Tracking Index (TTI) will be our guide and let us know once bear market territory has been reached.
You can watch the video here.