While the current market environment remains a mixed bag from a macro perspective, investors are slowly regaining some optimism. The Fed paused interest rate hikes in its June meeting, but we can anticipate two additional rate hikes per the Fed’s guidance.
The S&P 500, which closed at a 13-month high on Wednesday, has officially surpassed the most common metric for determining a bull market (20% improvement from its 2022 low) and is up 14% YTD. These positive indicators are all observed despite historically low market breadth, tightening lending standards, poor equity risk premiums, and high equity valuations as per the CAPE Shiller PE ratio. Meanwhile, international ETFs are also amongst this year’s big winners as European and Asian markets continue to add liquidity. Ultimately, we acknowledge a few green shoots but wouldn’t buy equities hands over fist just yet. We have chosen to increase our portfolio risk by trimming Treasuries, buying high-quality corporate credit, and tilting more toward international developed equities. We think most of this rally is position-related and anticipate a rougher period for risk assets in Q4.
Hedge fund managers and others with large portfolio allocations remain bearish on S&P 500 futures, but there has been some easing from the recent lows we saw amidst the banking crisis. Bloomberg observes that non-commercial futures have a -13.7% rate of open interest, signaling the beginning of a sharp reversal from the concerning 17% figure we saw earlier this year. E-Mini’s S&P 500 Futures (ES00) is also up 11% from its trough in March. This is good news, as the levels we observed during Q1 and early Q2 were the lowest since the GFC, and concerns about a legitimate financial crisis have been lightened.
Indicators of manufacturing data, economic growth, and a few other macro indicators point to a gradual economic improvement. For instance, the Philadelphia and Kansas City Fed’s Manufacturing Indices both recently bottomed out in March and April and are now improving on the margin, which is what we care about as investors. The Chicago Fed National Activity Index has also recently inflected upwards, suggesting we could be entering a period of increased economic activity, and, therefore, growth. The housing market displays more mixed signals of success, with tangible improvement in the NAHB Housing Market Index but ever-declining building permit numbers. Finally, Atlanta’s GDP NOW figure (which estimates real-time GDP growth using data from a given quarter) is up to 2.2% from a negative figure as recently as July 2022.
Of course, we are still far from out of the woods. There will be repercussions of the Fed continuing to increase rates, and some are signaling a decline in the commercial real estate market. As long as market breadth remains at historically low levels and the prevailing macro headwinds prevail, it will be tough to place too much faith into the US index market, priced for perfection with historically rich valuation levels. For now, we suggest overall risk-averse portfolio positioning, with high-quality large-caps, high-quality corporate credit, and international developed markets remaining some of our tactical tilts as they are less susceptible to the volatility we foresee. Of course, we will always have a healthy allocation towards alternatives and be diversified across factors, as this is, after all, Astoria’s True North.
For the first time in our 7-year history, we are unveiling our Cycle Indicator, Risk Metric, and Portfolio Positioning report. It is in the password protected "Tools" section of our website linked below.
Contact Frank Tedesco (firstname.lastname@example.org) if you are interested in gaining access.
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