August, 2015: This is Getting Interesting
**Please note that the allocations mentioned in the following have been in place for a week, so the conservative/inverse stance was already on before the last few days of sell off. ***
Hopefully, many of you are reading this from the beach or the lake with an adult beverage or at least an iced tea close at hand. Before we begin, I want to provide a quick reminder that we have enhanced our website at https://www.pcminvestment.com. One of the main enhancements is that we now include performance for both our indexes and our composites, as applicable. Also new; you will be asked to enter your email address to get into the website. There will be no password required, so you won’t have to worry about forgetting it. This is partly due to helping us stay in compliance with requirements in our industry that we know who has reviewed our website content.
Now let's move on to the August quant analysis!
Greece has faded from the spotlight, as earnings in the U.S., speculation on the timing of the first Fed hike of interest rates in nine years and the devaluing of the Yuan in China are the focus. Puerto Rico officially defaulting on their debt in early August is the first time a U.S. Commonwealth has defaulted on its debt in history; not the type of recognition that any government entity wants. The situation in China continues to be volatile, as the Chinese central bank continues to take unprecedented actions to stabilize their markets including buying equities, backing brokerage firms’ margin lending with additional capital, and requiring that mutual funds and pensions only buy stocks (yes that is correct; no selling) for the remainder of the year. The regulators are demanding trading records from both Chinese and foreign firms to identify short sellers in particular, with the threat including arrest of individuals trying to profit from falling markets. The latest in their efforts to stabilize their markets and economy now include devaluing their currency, which is something that they have not done for many years. This has contributed to the increase in volatility in the last couple of weeks. Commodities worldwide also continue to sell off, breaking records on a daily basis for the biggest sell offs in decades. This supports the fear that China is slowing down and will impact economies worldwide. Credit spreads continue to widen and adds to the ominous overtones, as bonds generally recognize problems in the economy well before equities. Earnings season in the U.S. is winding down with slightly better than expected overall results, as reported by Factset:
- Of the 436 companies that have reported earnings to date for Q2 2015, 73% have reported earnings above the mean estimate and 51% have reported sales above the mean estimate.
- For Q2 2015, the blended earnings decline is 1.0%. The last time the index reported a yearoveryear decrease in earnings was Q3 2012 (1.0%).
- For Q3 2015, 56 companies have issued negative EPS guidance and 22 companies have issued positive EPS guidance.
- The current 12month forward P/E ratio is 15.7 today, down from 16.5 last week. This latter P/E ratio is based on an S&P closing price (2099.84) and forward 12month EPS estimate ($127.40). The 15.7 is based on S&P at 2000 with the estimate the same.
- Due to companies beating earnings estimates in aggregate, the blended (combines actual results for companies that have reported and estimated results for companies yet to report) earnings decline for Q2 2015 is now 1.0%. This is a SMaller decline than the estimate of 4.6% at the end of the 2nd quarter (6/30).
- This 1.0% year over year decline is the first since Q3 2012, which was also a 1.0% decline.
- Consumer discretionary, healthcare and consumer staples are three of the top sectors reporting upside surprises for the quarter.
Despite earnings coming in at a negative year over year, earnings so far are beating estimates. Our August quant analysis picked up on this mixed message with the allocation very conservative to outright inverse in emerging markets and the Dow Jones Industrials. Healthcare and consumer staples are the only sectors that came up as common theme in the U.S. equity markets picking up on the upside earnings surprises. Nothing came up in the analysis as worthy of commitment in the emerging markets space except for India, which was balanced by an allocation to inverse emerging markets. PCM US Bond Total Return Index SM is allocated to inverse high yield corporates and along with PCM Absolute Bond Index SM both are allocated to long 20 year U.S. Treasuries and cash equivalents.
PCM Absolute U.S. Sector Index SM is in U.S. equities, with exposure to consumer discretionary, with the remaining allocation in cash equivalents. PCM U.S. Industries Total Return IndexSM is in cash equivalents, as well as U.S. software companies, insurance and consumer staples. The PCM Absolute Equity Income IndexSM remained in a heavy cash equivalent position with the remainder in U.S. preferred equities.
The August reallocation of the PCM Emerging Market Total Return Equity IndexSM is inverse emerging markets, long India and the remainder in cash equivalent. That index is up slightly month to date with emerging markets down over 13% as of this writing.
Long U.S. Treasuries and inverse U.S. and Asian equities are also represented in the PCM Total Return Portfolio IndexSM and PCM Stable Growth Plus+ Portfolio IndexSM. Both Indexes also hold the British pound. (Please note that performance numbers on the website for indexes do not include dividends and are appropriately calculated sequentially.)
The PCM Global Tactical IndexSM is in cash equivalents with some exposure to long equities in the way of consumer staples. The remaining allocation is in U.S. preferred stocks, inverse the Dow Jones and inverse Europe and Asia. The Global Macro IndexSM also has a heavy cash equivalent exposure. It too has what could be considered a dollar spread trade by being short emerging market equities and long U.S. equities and the U.S. dollar.
The PCM Alpha 1 IndexSM is invested in cash equivalents. The PCM Absolute Metals IndexSM has exposure to silver and to cash equivalent, while the PCM Absolute Commodities IndexSM remained in livestock and added cotton, which happens to be one of the only commodities going up as of this writing.
PCM Index Strategy composites have been recognized for performance by Informa Investment Solutions; most recently for the PCM Absolute Bond CompositeSM for the three year performance ending the 4th quarter of 2014, as well as previous awards for 1-year trailing performance and 3-year trailing performance. As of 2nd quarter 2014, the PCM Absolute Bond CompositeSM and the PCM Absolute Commodities CompositeSM both won a “Top Gun” award for performance in their respective category for the 1-year trailing performance period, with the PCM Absolute Bond CompositeSM also winning the “Top Gun” award for 3-year trailing performance. The PCM Alpha 1 CompositeSM was awarded the “Top Gun” performance award for the 1st quarter of 2014. We are very pleased to see these particular multi directional strategies being recognized, as the PCM Absolute Bond StrategySM and PCM Alpha 1 StrategySM are particularly timely for where we are in the current market cycle.
To view Morningstar Fact sheets of all of our index models, please visit our website at www.pcminvestment.com under the “PCM Multi DirectionalStrategies” tab.
By: Melissa Wieder, CFP®, Director Institutional Services
Collaborative insight provided by CIO Michael Chapman
The views and strategies described herein are for illustrative purposes only and may not be suitable for all investors. The information is not based on any particularized financial situation, or need, and is not intended to be, and should not be construed as investment advice or a recommendation for any specific PCM or other strategy, product or service. Investors should consult their financial advisor prior to making an investment decision. There is no guarantee that these investment strategies will work under all market conditions and each investor should evaluate their ability to invest long-term, especially during periods of downturn in the market. This material contains the current opinions of the author(s) but not necessarily those of PCM and such opinions are subject to change without notice. This material is distributed for informational purposes only. Forecasts, estimates, and certain information contained herein are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed. No part of this article may be reproduced in any form, or referred to in any other publication, without express written permission. Provident Capital Management, Inc, PCM and Absolute Return Index are trademarks or registered trademarks of Provident Capital Management, Inc., in the United States.©2013, PCM.
About "PCM Quant Coalescence"
Welcome to Provident's bi monthly "Quant Coalescence" communication. We suspect that many of you are no different than us. That is to say that when our quantitative models rebalance every 2 weeks for some indexes or once a month for other indexes, you sometimes find yourselves asking "What is behind a rotation into that ETF?" This communication is our opportunity to "unite for a common end" with our clients and partners; keeping you updated on our thoughts and perspectives. As you know, our indexes are based on an absolute approach: we strive to make money in up markets or down markets, while trying to greatly minimize loss in any market environment.
Our indexes are also quantitative, reflective of our systematic, unbiased and technical approach. Since our indexes are unbiased, the quantitative models would obviously at times rotate into positions that cause us to scratch our heads. Nevertheless, being so close to the analysis as it unfolds, allows us to quickly begin to validate the fundamental reasons behind the quantitative "following of the money." At other times, the trades are not validated right away; the story unfolds as the days pass. We have been very excited about many of these "validations" and "ah ha" moments. We had another "ah ha" moment when we decided that these insights would also be interesting to those who have entrusted us with their financial peace of mind. Our goal is to be short and to the point, specific to what is happening in our indexes rather than a lengthy macroeconomic perspective.
Of the 436 companies that have reported earnings to date for Q2 2015, 73% have reported earnings above the mean estimate and 51% have reported sales above the mean estimate.
For Q2 2015, the blended earnings decline is 1.0%. The last time the index reported a year-over-year decrease in earnings was Q3 2012 (-1.0%).
For Q3 2015, 56 companies have issued negative EPS guidance and 22 companies have issued positive EPS guidance.
The current 12-month forward P/E ratio is 16.5. This P/E ratio is based on last Wednesday’s closing price (2099.84) and forward 12-month EPS estimate ($127.40).
Due to companies beating earnings estimates in aggregate, the blended (combines actual results for companies that have reported and estimated results for companies yet to report) earnings decline for Q2 2015 is now -1.0%. This is a SMaller decline than the estimate of- 4.6% at the end of the second quarter (June 30).
This -1.0% year over year decline is the first since Q3 2012, which was also a -1.0% decline.
Consumer discretionary, healthcare and consumer staples are three of the top sectors reporting upside surprises for the quarter.