Things That Lead
On this week’s episode of Stock Talk, join Oak Harvest for an “indicator rundown,” as we discuss our view of where we think the market is going into the end of 2021.
Chris Perras: Hey, I’m Chris Perras, Chief Investment Officer at Oak Harvest Financial Group. We’re an investment management, a retirement planning advisor located in Houston, Texas. Welcome to our October 15th Stock Talk Podcast: Keeping You Connected to Your Money. Well, longtime listeners will know that I try to use this podcast to foreshadow what we think will be happening in the markets, in the economy, in the upcoming months, and in the quarters ahead.
In April of 2020, in the midst of the initial wave of COVID, the investment team here at Oak Harvest did our research, looked at the relevant data to talk about pent-up demand in the second half of 2020 and car buying and home buying. We even referred to it as the Roaring ’20s because investing in equities is all about the future. It’s about future growth. It’s about future earnings. It’s about future dividends and future cash flows.
You need to have an informed opinion to make decisions on the path for an uncertain future, which brings me to this week’s podcast title, Things That Lead. Short of trading on inside information or knowing where everyone’s option positions are sitting, as a market maker, the rest of us, investors, have to make educated decisions based on imperfect information. That’s hard. Right now, we’re exiting the normally wobbly third-quarter period that I call the dead zone.
Very little company-specific information is out there. Few stock buybacks are happening. The news networks are almost littered daily with alarmist headlines. The last couple of weeks, debt ceilings, inflation, stagflation, port congestion, Chinese real estate issue, energy price spikes, I keep up with all the fears and issues that are on TV. They come so fast. As much as we’ve discussed this period called the dead zone last year, again this year, new investors seem to be surprised by the stock market action during this time.
It wobbles in the third quarter, almost every year. Over the past couple of weeks, we’ve discussed why a number of times. We’ve given you a list of positive indicators, which have historically led rallies against all negative news stories on TV. The first of these positive indicators, the first sign that we see is in the currency markets. This is a real fun one because everyone I know, including those I don’t like Tom Brady’s wife, Gisele, thinks they’re a currency expert, or they have an opinion on the subject.
They talk about dollar strength, dollar weakness, euro this or that, the Japanese yen. Sorry, newsletter services and professors teaching economics, there has been zero correlation over longer time periods between the US dollar and our stock markets. However, and this will surprise most of my listeners, there is a currency pair that few people on TV will ever talk about that has been a very good leading indicator of major rallies in the S&P 500 for the past 15 years.
What this is is the risk-on currency indicator that’s been working for the last 15 years. Well, listeners, guess what, it doesn’t even include the dollar. Yes, one of the best predictors of future directional moves in the S&P 500 for the last 15 years has been the Euro versus the Japanese yen currency cross. I hear the silence, and I hear the confusion, and I hear, “What in the world do those two currencies have to do with the S&P 500?”
Listeners, I can give you a myriad of esoteric reasons why this is the best currency to look at, but I’m not going to do that. Why? Because I really don’t care why it works. What I care about is it continues to lead, and it continues to work. Guess what it did two weeks ago in late September, just around September 22nd when the market was panicking and selling off on some Chinese real estate play, it bottomed and started a new uptrend for the first time since early July of this year.
Guess where it sits now, almost exactly the same level it did in early July. Looking here at the screens, if you look at the big moves in the S&P 500 in 2012 through 2014, here, it coincides with the move up in the Euro/Yen. If you look at the sideways move for almost two years in the S&P 500, Euro/Yen went nowhere, it went flat to down. Looking over to more recent times, again, the S&P 500’s move the last 12 months coincided with the big up move.
The currency pair has led our big up moves for the last 15 years, and it’s looking favorable now. The next historically relevant leading indicator for the fourth quarter rally has been Bitcoin. Yes, I’m sorry to tell you. You heard that right. This cycle, Bitcoin started some huge up moves in the third quarter while equities were going down only to foretell big fourth-quarter rallies in both assets.
Why? I don’t know. Maybe it’s just foreshadowing continued excess liquidity by the Federal Reserve. All I hear is concerns of a federal reserve mistake. I won’t repeat the Federal Reserve balance sheet chart here for this video. We’ve done that a number of times over the past four weeks, but needless to say, we’re still on Chairman Powell’s side. He’s made one mistake in four years. The last mistake, the fourth quarter of 2018.
I don’t expect him to make another mistake this year. I’m sorry, Elizabeth Warren, but you and your push for socialism are more dangerous to our financial system than Chairman Powell. The third leading indicator, that would be forward volatility in markets out weeks, months, and quarters. Yes, I’ve discussed this many times. I know it sounds harsh when I say it, but here it goes again.
Spot volatility as measured by the VIX and as quoted by almost everyone on TV is useless garbage. It’s not predictive. Anyone who opens their mouth talking about it on TV, you should turn off the channel. It has zero predictive value. It’s like walking outside into the rain and pulling up the weather channel on your phone and seeing it’s raining at your location. It’s a no-help at predicting the markets, none.
However, forward volatility, markets are tradable, and they do have price discovery, and that is helpful to an investor. Guess what they’ve been saying the last 10 trading days, the S&P kept trading down below 4,300 for a few days, kept dipping below 4,350 as all these stories came out. It’s been consistently saying that every intraday dip the last week, volatility traders were selling future volatility.
What that means in layman’s terms is they are happy selling insurance to others every time the market drops the last two weeks on some news story or random piece of economic data. Are they always right? Of course not but this is what they do. This is their business. They price and sell insurance to others against future market declines and against future market volatility, and they’re saying there’s way too much fear in the markets for the next four to five months.
They can be wrong, but this group of business operators have proven over time to understand when it’s time to take more risk in the stock markets and when it’s not. They tend to move in the opposite direction of the retail herd and retail investors, trading options and speculating. They wax on when others are wax off. The last leading indicator we watch. Well, this one is a contrary leading indicator.
It’s investor sentiment, which I first spoke about two weeks ago. We look at the data, at what retail investors are doing. Two weeks ago, I talked about the decline in individual investor retail sentiment declining to the levels it was pre-election in 2020, and this is a bullish thing. Earlier this week, we looked at some data showing retail trading volume in inverse products, which are bearish bets that the market will decline, has reached all-time highs as a percentage of all ETF trading volume.
This is another positive leading, not lagging, indicator. Retail sentiment and trading positions tend to be great contrary indicators, which brings me forward to our forward outlook for the rest of the year, and here it is once again. Shockingly, to some continued skeptics, the team at Oak Harvest continues to see a substantial positive fourth-quarter rally, no different than we did when we penned our second half outlook in June nor our 2021 outlook, which we penned back in December of last year.
The reasons, even with a swirling concern over the Federal Reserve tapering schedule coming in November, we still don’t think it’s time to fight the Federal Reserve. History has shown even when the Federal Reserve begins tapering, that stocks continue their gains albeit at a slower pace, not as fast up as last year but still gain. It’s not time to fight the Fed yet. An Oak Harvest or a comprehensive financial planning advisor located in Houston, Texas, give us a call to speak to one of our advisors and let us help you craft a financial plan that meets your personal retirement goals.
Our phone number here is (281) 822-1350. We’re here to help you on your financial journey into and through your retirement years. I’m Chris Perras, many blessings, stay safe, and have a great weekend.
Speaker 2: All content contained within Oak Harvest Podcast expresses the views of the speaker and is for informational purposes only. It is based on information believed to be reliable when created, but any cited data, indicators, statistics, or other sources are not guaranteed. The views and opinions expressed herein may change without notice. Strategies and ideas discuss may not be right for you, and nothing in this podcast should be considered as personalized investment, tax or legal advice, or an offer, or solicitation to buy or sell securities.
Indexes such as the S&P 500 are not available for direct investment. Your investment results may differ when compared to an index. Specific portfolio actions or strategies discussed will not apply to all client portfolios. Investing involves the risk of loss, and past performance is not indicative of future results.
CFA®, CLU®, ChFC®
Chief Investment Officer, Financial Advisor
Chris is a seasoned investment professional with over 25 years of experience working with some of the most successful money management firms in the world. Chris has made it a point in his career to adapt as the market landscape changes, seeking to utilize the appropriate investment strategy for a given market environment. His transition from managing billions of dollars at the institutional level to helping individuals and families retire is guided by a desire to see first-hand the impact he is making in the lives of clients at Oak Harvest.