Market rallied out of the gate this morning to push up to last years major resistance level. Why? Was there some earth shattering economic news? No. Did the world find peace? Doubtful considering we are on the brink of an escalation with Iran. Maybe the Euro crisis was solved over the Christmas break? Nope. Possibly the Democrats and Republicans came together to stop the debt spiral? Sorry.
The reality is that it was a much less exciting, and most likely very short lived until the next headline hits the wire, reason. Most hedge fund and mutual fund managers were selling heavily going into the end of last year to lock in losses for tax reporting purposes and to meet redemption calls as investors withdrew huge amounts of funds from equity funds in 2011. This left many managers holding a lot of cash on their books and felt compelled to deploy it to maintain their performance relative to the perspective benchmarks (benchmark indexes hold no cash).
While Institutional buying is a good thing, as mutual/pension/hedge funds drive the markets much more than retail investors, it is questionable whether the cash getting put to work today is based on longer term expectations of positive performance. The rush to get invested for the beginning of the year to be on “equal footing” with the indexes may very well lead to a more ephemeral allocation that could vanish just as quickly as it came.
While our portfolios are currently cautiously weighted in equities our real concern is about the potential damage of the next down leg in the market. We remain mired in a long term secular bull market and market declines could arise based on weakening economics, declining profitability or the next crisis in Europe. There are plenty of inherent risks to choose from.
The bottom line here is that the market is now very overbought on a daily and weekly basis and the sustainability of the rally remains in question until the markets began to consistently act in a more positive manner. The volatility of the past year has driven money steadily into fixed income and out of equities which, in the longer term, does set the markets up for a substantial rally – think of it has pent up demand. However, the “fear syndrome” which currently grips the market along with the continuation of headline driven volatility can last far longer than most realize.
This is a traders market at the moment and long term investors should maintain heavier weightings to assets that provide income and safety. High quality corporate bonds, companies with consistent dividend histories that have a strong return on equity and free cash flow, income producing hard assets and oil related income producing assets will perform well in the this environment. Notice that it is about safety and income over growth.
Lastly, the strong surge in Gold and Oil today lends to our suspicion of the rally. With oil now firmly over $100 per barrel and gold rising above $1600 per ounce gives credence to the “perceived” risks in the economic environment. If things were truly getting better we should see the dollar rising strongly as the economy shows true strength and money coming out of the fear trade of Gold. Oil is spiking due to escalating tensions with Iran which is a powder keg that we do not want to see lit. It all seems oddly familiar.
In that regard welcome to 2012 – the year ahead looks a lot like the year behind.
Images: Flickr (licence attribution)
About The Author
Lance Roberts – Host of Streettalk Live
After having been in the investing world for more than 25 years from private banking and investment management to private and venture capital; Lance has pretty much “been there and done that” at one point or another. His common sense approach has appealed to audiences for over a decade and continues to grow each and every week.
Lance is also the Chief Editor of the X-Report, a weekly subscriber based-newsletter that is distributed nationwide. The newsletter covers economic, political and market topics as they relate to the management portfolios. A daily financial blog, audio and video’s also keep members informed of the day’s events and how it impacts your money.
Lance’s investment strategies and knowledge have been featured on Fox 26, CNBC, Fox Business News and Fox News. He has been quoted by a litany of publications from the Wall Street Journal, Reuters, The Washington Post all the way to TheStreet.com as well as on several of the nation’s biggest financial blogs such as the Pragmatic Capitalist, Zero Hedge and Seeking Alpha.