The Hot Summer Markets… and Prismatic Prudence

StormGuard Remains Cautiously Optimistic

In the four charts below, the first is StormGuard’s composite indicator. After peaking in March, it is now beginning to weaken and waiver in a somewhat concerning manner. If any one of its three components is negative and declining at month-end StormGuard will trigger. While the Market Trend and Institutional Momentum components remain strong, the Value Sentiment component is now seriously weakening as it senses the growing divergence between large- and small-cap stocks and between growth and value stocks. These indicators are designed to respond slowly enough to avoid whipsaw losses commonly generated during short-term corrections, such as the one in April. Last week’s market spurt will likely ensure that the Value Sentiment Indicator will remain positive throughout July.

Divergence: The Elephant in the Room

In an ordinary balanced market, value, growth, and size all move together. However, in the past six months, the markets have served up a severe case of divergence between large-cap tech and everything else. The early winners in this AI gold rush are a handful of the world’s largest semiconductor and software corporations. FOMO (fear of missing out) is in high gear and often results in selling elsewhere to fund getting on board. Divergent markets can be periods when the trend is most truly your friend – but only if you employ our Dual Defense methods to exit as close to the top of the bull market as possible.

A Tech Bubble Like 2000?

The charts below compare the markets leading up to the 2000 Tech Bubble to the markets of today. They are illustrated with the same vertical and horizontal scales. In the four years before the Tech Bubble, the S&P500 and Nasdaq had more than doubled, but in the final six months, the Nasdaq quickly added an additional 75% return relative to the slowing S&P500. Notably, in 2000 the divergence was all about small-cap tech companies leading the way to the internet revolution in both software and infrastructure. These differences are why many analysts believe we are not yet in serious bubble territory reminiscent of 2000. Given the size of the prize that may be available from an AI-enhanced economy, it is likely markets will continue to push higher for a while.

What About the Anticipated Recession?

The chart below illustrates both the Federal Funds Rate and the ten-year minus two-year inverted yield curve. Interestingly, the inverted yield curve has now been negative for the better part of two years and seems to be stuck. Historically, it appears that when the inverted yield curve rises the Fed cuts rates and a recession occurs. But one might ask which of these is more of the cause versus a symptom.

Although I am not an economist, as a signal-processing engineer, I have long noted that economists say there is about a year of lag between the Fed’s actions and any measurable economic effects. Thus by the time the Fed sees that it can turn off its fire hose by reducing rates, the fire (the economy) is already slipping into recession and the Fed must then sharply drop rates in an attempt to limit the depth of the recession it created. Of course, layering an impending AI tech bubble on top will only delay and aggravate efforts to prevent an eventual recession.

Prismatic Prudence

One might ask, “If I wanted to create an investment strategy to simply and prudently apply SumGrowth’s momentum investing tools and concepts to optimally improve both risk and return, what might that look like?” The Prismatic Prudence Strategy (below) is one worthy answer to that question. The name is humorously intended to mean “no matter which direction you look at it, it’s prudent.” 

• Prudently, its primary candidate funds include SPY (large-cap), MDY (mid-cap), and QQQ (tech).
• Prudently, it employs StormGuard and BMS-X to maximize its bear market defensive performance.
• Prudently, it employs two Backstop Funds to help  ensure bull market minimum performance.

Its performance, by all measures, is impressive because of its Prismatic Prudence. It may be imported into your own account by clicking the blue S icon of a Strategy and searching for “Prudence.”