The RiskSIGNAL Report: Three Keys To A Stock Market Bottom - Issue #9
“It would be silly to expect every bear market to turn into the Great Depression. It would be equally wrong to expect that a fall from overvalued, to more fairly valued, couldn't badly overshoot on the downside.”
Seth Klarman, CEO of Baupost Group Hedge Fund
The Ivory Hill RiskSIGNAL is still firmly in the red and we are sitting on 70% cash.
For those of you not up to speed, our proprietary indicator, the Ivory Hill RiskSIGNAL went negative in January and we moved to 60-70% cash at that time. The trend is clearly down, and fighting the trend is a great way to lose money.
The inflation report last week was hotter than expected at 9.1%. Is inflation priced into the markets? My answer is yes. BUT, what is not factored in yet is a recession. If we go into a recession, markets will sell off harder and longer, and I don't think that is priced into stocks yet. Every day that goes by, the historical narrative is pointing to a recession. We have heard Powell say the word soft landing a lot, but if we go into a recession, I don’t see any way that we have a soft landing, it looks mathematically impossible.
What investors need to watch is not the data, not an economist (who are always usually wrong), but the market trend. The trend tells us everything we need to know about how to trade/invest in any market environment. The Ivory Hill RiskSIGNAL is red, meaning the trend is down. We don't fight the trend as it’s a great way to lose money. We are sitting on a mountain of cash, from a cash/AUM percentage, probably more than just about any investment firm on Wall Street, and when the trend turns back up, we will start buying stocks at a fast pace. Until then, controlling emotions and being patient is the key to success.
Before we dive in, I wanted to address some questions I have been getting from clients. In my experience, if one person is asking this, then there are more wondering the same thing.
"We are sitting on a lot of cash right now. Aren't we losing money with inflation at 40 year highs?"
Answer: You have to pick you poison here because cash is about the best investment out there right now. It's dropping at a lower pace than both the stock and bond market. Being neutral right now is a better place than intentionally losing money by fighting the trend.
At this point in time, I am more concerned about deflation rather than inflation. The pace of rising commodity prices are increasing the odds of a deflationary bust. The Fed is not raising rates fast enough so more inflation is actually deflationary. Put more simply, as inflation increases the more likely people are going to stop buying things and businesses will be forced to lower prices. Deflation can lead to an economic situation known as a liquidity trap. During times of deflation, goods and assets decrease in value, meaning that cash and other liquid assets become more valuable. Because of this, deflation exerts a disincentive towards investment and spending. In fact, during serious deflation, one of the best investments is a safe filled with cash or a bank account. So the very nature of deflation discourages investment in the stock market, and decreased demand for stocks can have a negative effect on the value of stocks.
"Where is the bottom and when will you start layering back into the market?"
Answer: We don't know where the bottom is. Nobody does. We are going to wait for the Ivory Hill RiskSIGNAL to turn positive because that will mean the intermediate to long-term trend has turned positive. When our indicator flips green, we have a 72% chance that the market is going higher. To be crystal clear, I guarantee you that we will not catch the bottom because our strategy is hype-focused on getting back in the market when the trend turns positive.
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Kurt S. Altrichter, CRPS®
Fiduciary Advisor | President