by Scott Martindale
  President & CEO, Sabrient Systems LLC

Monthly commentary on the economy, inflation, Fed policy, stock valuations, global events, Sabrient’s SectorCast rankings, sector rotation model positioning, and top-ranked ETF ideas.

Summary:

1. I remain skeptical of the official, government reports on jobs, GDP, and inflation, which are not passing my “smell test” and what I consider to be the illusion of a robust economy and jobs market, as GDP and jobs growth have been overly reliant on government deficit spending and hiring, which is both unhealthy and unsustainable.
    
2. Rising asset prices have been largely driven by a strong dollar, rising global liquidity, and capital flight into the US (most of which does not show up in M2 money supply), which comes at the expense of the rest of the world’s growth. It also creates a “wealth effect” here that lifts US consumer price inflation even though global supply chain pressures are low.
    
3. Somewhat elevated inflation in the 2-3% range can be desirable to help address our enormous federal debt as part of a 3-pronged attack:  inflate away the debt, cut government waste and spending, and grow our way out of debt by stimulating organic private-sector-led productivity and economic growth with business-friendly Trump 2.0 fiscal policy and deregulation.
    
4. Overall, Trump 2.0 policies combined with a dovish Fed should be good for stocks, but bond prices will be more stagnant, in my view, with yields staying around current levels. I continue to suggest investors buy stocks in high-quality businesses at reasonable prices, hold inflation and dollar hedges like gold and bitcoin, and be prepared to exploit any market correction for further gains through 2025 and beyond, fueled by massive capex in blockchain and AI applications, infrastructure, and energy.
    
5. Sabrient’s latest fundamental-based SectorCast quantitative rankings of the ten U.S. business sectors is topped by Technology, Financials, and Consumer Discretionary. I also discuss the current positioning of our sector rotation model and several top-ranked ETF ideas.
    
6. Sabrient is best known for our “Baker’s Dozen” portfolio franchise and our process-driven, growth-at-a-reasonable-price methodology, which Sabrient founder David Brown describes in his latest book, How to Build High Performance Stock Portfolios, along with his value, dividend, and small cap portfolio strategies.

   Each Baker’s Dozen is designed to be held for 15 months as a unit investment trust. Notably, although the mega-cap-dominated S&P 500 has been so tough to beat, the next Baker’s Dozens to terminate will be the Q4 2023 portfolio on 1/21, which is up about +49% (vs. +47% for SPY), and the Q1 2024 portfolio on 4/21, which is up about +95% (vs. +27% for SPY), as of 12/6.

   To learn more about both the book and the companion subscription product we offer (which does most of the stock evaluation work for you), please visit: https://DavidBrownInvestingBook.com

Click HERE to continue reading my full commentary online or to sign up for email delivery of this monthly market letter. Also, here is a link to this post in printable PDF format. I invite you to share it as appropriate (to the extent your compliance allows).

  by Scott Martindale
  President & CEO, Sabrient Systems LLC

It would be an understatement to say that last week was particularly eventful, what with the elections and FOMC policy decision, plus some impressive earnings announcements. Election Day is finally behind us, and the results sent investors into a fit of stock market FOMO—in one of the greatest post-election rallies ever—while dumping their bonds. Much like the day after President Trump’s win in 2016, the leading sectors were cyclicals: Industrials, Energy, Financials. And then on Fed Day, markets got their locked-in 25-bp rate cut, and the rally kept going across all risk assets, including strengthening the US dollar on the expectation of accelerating capital flight into the US as Trump’s policies, particularly with support from a Republican-led congress, should be quite business-friendly, with lower tax rates and red tape and much less focus on anti-trust lawfare.

So, there was a lot for investors to absorb last week, and this week brings the October CPI and PPI reports. Indeed, the whole world has been pining for clarity from the US—and they got it. And I’m sure no one misses the barrage of political ads and bitter electioneering. Hopefully, it marks the peak in election divisiveness our society will ever see again. Notably, inflation hedges gold and bitcoin have suddenly diverged, with gold pulling back from its all-time high while bitcoin—which can be considered both a dollar hedge and a risk asset for its utility—has continued its surge to new highs (now over $85k as I write!) on the added optimism around Trump’s crypto-friendly stance.

Besides expectations of a highly aggressive 15% earnings growth in the S&P 500 over the next couple of years, venture capital could be entering a boom following four years of difficulty in raising capital. In an interview with Yahoo Finance, Silicon Valley VC Shervin Pishevar opined, “I think there’s going to be a renaissance of innovation in America…It’s going to be exciting to see… AI is going to accelerate so fast we’re going to reach AGI [Artificial General Intelligence, or human-like thinking] within the next 2-3 years. I think there will be ‘Manhattan Projects’ for AI, quantum computing, biotech.”

It all sounds quite appealing, but there’s always a Wall of Worry for investors, and the worry now is whether Trump’s pro-growth policies like reducing tax rates, deregulation, rooting out government waste and inefficiency (i.e., “drain the swamp”) combined with his more controversial intentions like tariffs, mass deportations of cheap migrant labor, and threats to Big Pharma, the food industry, and key trading partners (including Mexico)—in concert with a dovish Fed—will create a resurgence in inflation and unemployment and push the federal debt and budget deficit to new heights before the economy is ready to stand on its own—i.e., without the massive federal deficit spending and hiring we saw under Biden—thus creating a period of stagflation and perhaps a credit crisis. Rising interest rates and a stronger dollar are creating tighter financial conditions and what Michael Howell of CrossBorder Capital calls “a fast-approaching debt maturity wall” that adds to his concerns that 2025 might prove tougher for investors if the Global Liquidity cycle peaks and starts to decline.

But in my view, the end goals of shrinking the size and scope of our federal government and restoring a free, private-sector-driven economy are worthy, and we can weather any short-term pain along the way and perhaps fend off that looming “debt maturity wall.” Nevertheless, given the current speculative fervor (“animal spirits”) and multiple expansion in the face of surging bond yields (i.e., the risk-free discount rate on earnings streams), it might be time to exercise some caution and perhaps put on some downside hedges. Remember the old adage, “Stocks take the stairs up and the elevator down” (be sure to read my recent post with 55 timeless investing proverbs to live by).

In any case, at the moment, I believe the stock market has gotten a bit ahead of itself with frothy valuations and extremely overbought technical conditions (with the major indexes at more than two standard deviations above their 50-day moving averages). But I think any significant pullback or technical consolidation to allow the moving averages to catch up would be a buying opportunity into year-end and through 2025, and perhaps well into 2026—assuming the new administration’s policies go according to plan. As DataTrek Research pointed out, there is plenty of dry powder to buy stocks as cash balances are high (an average of 19.2% of institutional portfolios vs.10-15% during the bull market of the 2010’s).

This presumes that the proverbial “Fed Put” is indeed back in play. Also, I continue to believe that rate normalization means the FOMC ultimately taking the fed funds rate down to a terminal rate of about 3.0-3.5%—although I’m now leaning toward the higher side of that range as new fiscal policy from the “red wave” recharges private-sector growth (so that GDP and jobs are no longer reliant on government deficit spending and hiring) and potentially reignites some inflationary pressures.

This is not necessarily a bad thing. Although inflation combined with stagnant growth creates the dreaded “stagflation,” moderate inflation with robust growth (again, driven by the private sector rather than the government) can be healthy for the economy, business, and workers while also helping to “inflate away” our massive debt. Already, although supply chain pressures remain low, inflation has perked up a bit recently, likely due to rising global liquidity and government spending, as I discuss in detail in today’s post.

So, my suggestions remain: Buy high-quality businesses at reasonable prices, hold inflation hedges like gold and bitcoin, and be prepared to exploit any market correction—both as stocks sell off (such as by buying out-of-the-money put options, while VIX is low) and as they begin to rebound (by buying stocks and options when share prices are down). A high-quality company is one that is fundamentally strong (across any market cap) in that it displays consistent, reliable, and accelerating sales and earnings growth, positive revisions to Wall Street analysts’ consensus estimates, rising profit margins and free cash flow, solid earnings quality, and low debt burden. These are the factors Sabrient employs in selecting the growth-oriented Baker’s Dozen (our “Top 13” stocks), the value-oriented Forward Looking Value, the growth & income-oriented Dividend portfolio, and Small Cap Growth. We also use many of those factors in our SectorCast ETF ranking model. And notably, our Earnings Quality Rank (EQR) is a key factor in each of these models, and it is also licensed to the actively managed, absolute-return-oriented First Trust Long-Short ETF (FTLS).

Each of our key alpha factors and their usage within Sabrient’s Growth, Value, Dividend, and Small Cap investing strategies (which underly those aforementioned portfolios) is discussed in detail in Sabrient founder David Brown’s new book, How to Build High Performance Stock Portfolios, which is now available to buy in both paperback and eBook formats on Amazon.com.

And in conjunction with David’s new book, we are also offering a subscription to our next-generation Sabrient Scorecard for Stocks, which is a downloadable spreadsheet displaying our Top 30 highest-ranked stock picks for each of those 4 investing strategies. And as a bonus, we also provide our Scorecard for ETFs that scores and ranks roughly 1,400 US-listed equity ETFs. Both Scorecards are posted weekly in Excel format and allow you to see how your stocks and ETFs rank in our system…or for identifying the top-ranked stocks and ETFs (or for weighted combinations of our alpha factors). You can learn more about both the book and the next-gen Scorecards (and download a free sample scorecard) at http://DavidBrownInvestingBook.com.

In today’s post, I dissect in greater detail GDP, jobs, federal debt, inflation, corporate earnings, stock valuations, technological trends, and what might lie ahead for the stock market with the incoming administration. I also discuss Sabrient’s latest fundamental-based SectorCast quantitative rankings of the ten U.S. business sectors, current positioning of our sector rotation model, and several top-ranked ETF ideas. And be sure to check out my Final Thoughts section in which I offer my post-mortem on the election.

Click HERE to continue reading my full commentary or to sign up for email delivery of this monthly market letter. Also, here is a link to this post in printable PDF format. I invite you to share it as appropriate (to the extent your compliance allows).

  by Scott Martindale
  President & CEO, Sabrient Systems LLC

Stocks continued their impressive 2023 rally through July, buoyed by rapidly falling inflation, steady GDP and earnings growth, improving consumer and investor sentiment, and a fear of missing out (FOMO). Of course, the big story this year has been the frenzy around the promise of artificial intelligence (AI) and leadership from the “Magnificent Seven” Tech-oriented mega caps—Apple (AAPL), Amazon (AMZN), Alphabet (GOOGL), NVIDIA (NVDA), Meta (META), Tesla (TSLA), and Microsoft (MSFT), which have led the powerhouse Nasdaq 100 (QQQ) to a +44.5% YTD return (as of 7/31) and within 5% of its all-time closing high of $404 from 11/19/2021. Such as been the outperformance of these 7 stocks that Nasdaq chose to perform a special re-balancing to bring down their combined weighting in the Nasdaq 100 index from 55% to 43%!

Because the Tech-heavy Nasdaq badly underperformed during 2022, mostly due to the long-duration nature of aggressive growth stocks in the face of a rising interest rate environment, it was natural that it would lead the rally, particularly given: 1) falling inflation and an expected Fed pause/pivot on rate hikes, 2) resilience in the US economy, corporate profit margins (largely due to cost discipline), and the earnings outlook; 3) the exciting promise of disruptive/transformational technologies like regenerative artificial intelligence (AI), blockchain and distributed ledger technologies (DLTs), and quantum computing.

But narrow leadership isn’t healthy—in fact, it reflects defensive sentiment, as investors prefer to stick with the juggernauts rather than the vast sea of economically sensitive companies. However, since June 1, there have been clear signs of improving market breadth, with the iShares Russell 2000 small caps (IWM), S&P 400 mid-caps (MDY), and S&P 500 Equal Weight (RSP) all outperforming the QQQ and S&P 500 (SPY). Industrial commodities oil, silver, and copper prices rose in July. This all bodes well for market health through the second half of the year (and perhaps beyond), as I discuss in today’s post below.

But for the moment, an overbought stock market is taking a breather to consolidate gains, take some profits, and pull back. The Fitch downgrade of US debt is helping fuel the selloff. I view it as a welcome buying opportunity.

Although rates remain elevated, they haven’t reached crippling levels (yet), and although M2 money supply has topped out and fallen a bit, the decline has been offset by a surge in the velocity of money supply, as I discuss in today’s post. So, assuming the Fed is done raising rates—and I for one believe the fed funds rate is already beyond the neutral rate (and thus contractionary)—and as long as the 2-year Treasury yield remains below 5% (it’s around 4.9% today), I think the economy and stocks will be fine, and the extreme yield inversion will begin to reverse.

The Fed’s dilemma is to facilitate the continued process of disinflation without inducing deflation, which is recessionary. Looking ahead, Nick Colas at DataTrek recently highlighted the disconnect between fed funds futures (which are pricing in 1.0-1.5% in rate cuts early next year) and US Treasuries (which do not suggest imminent rate cuts). He believes, “Treasuries have it right, and that’s actually bullish for stocks” (bullish because rate cuts only become necessary when the economy falters).

So, today we see inflation has fallen precipitously as supply chains improve (manufacturing, transport, logistics, energy, labor), profit margins are beating expectations (largely driven by cost discipline), corporate earnings have been resilient, earnings forecasts are seeing upward revisions, capex and particularly construction spending on manufacturing facilities has been surging, hiring remains robust (almost 2 job openings for every willing worker), the yield curve inversion is trying to flatten, gold and high yield spreads have been falling since May 1 (due to recession risk receding, the dollar firming, and real yields rising), risk appetite (“animal spirits”) is rising, and stock market leadership is broadening. It all sounds promising to me.

Regardless, the passive broad-market mega-cap-dominated indexes that were so hard for active managers to beat in the past may well face tough constraints on performance, particularly in the face of elevated valuations (i.e., already “priced for perfection”), slow real GDP growth, and an ultra-low equity risk premium. Thus, investors may be better served by strategic-beta and active strategies that can exploit the performance dispersion among individual stocks, which should be favorable for Sabrient’s portfolios including Baker’s Dozen, Forward Looking Value, Small Cap Growth, and Dividend.

As a reminder, Sabrient’s enhanced Growth at a Reasonable Price (GARP) “quantamental” selection process strives to create all-weather growth portfolios, with diversified exposure to value, quality, and growth factors, while providing exposure to both longer-term secular growth trends and shorter-term cyclical growth and value-based opportunities—with the potential for significant outperformance versus market benchmarks. Indeed, the Q2 2022 Baker’s Dozen that recently terminated on 7/20 handily beat the benchmark S&P 500, +28.3% versus +3.8% gross total returns. In addition, each of our other next-to-terminate portfolios are also outperforming their relevant market benchmarks (as of 7/31), including Small Cap Growth 34 (16.9% vs. 9.9% for IWM), Dividend 37 (24.0% vs. 8.5% for SPYD), Forward Looking Value 10 (38.9% vs. 20.8% for SPY), and Q3 2022 Baker’s Dozen (28.4% vs. 17.9% for SPY).

Also, please check out Sabrient’s simple new stock and ETF screening/scoring tools called SmartSheets, which are available for free download for a limited time. SmartSheets comprise two simple downloadable spreadsheets—one displays 9 of our proprietary quant scores for stocks, and the other displays 3 of our proprietary scores for ETFs. Each is posted weekly with the latest scores. For example, Lantheus Holdings (LNTH) was ranked our #1 GARP stock at the beginning of February. Accenture (ACN) was at the top for March, Kinsdale Capital (KNSL) in April, Crowdstrike (CRWD) in May, and at the start of both June and July, it was discount retailer TJX Companies (TJX). Each of these stocks surged higher (and outperformed the S&P 500)—over the ensuing weeks after being ranked on top. We invite you to download the latest weekly sheets for stocks and ETFs using the link above—it’s free of charge for now. And please send me your feedback!

Here is a link to my full post in printable format. In this periodic update, I provide a comprehensive market commentary, including discussion of inflation, money supply, and why the Fed should be done raising rates; as well as stock valuations and opportunities going forward. I also review Sabrient’s latest fundamentals based SectorCast quant rankings of the ten U.S. business sectors and serve up some actionable ETF trading ideas. Read on…

  by Scott Martindale
  President & CEO, Sabrient Systems LLC

After five straight weeks of gains—goosed by a sudden surge in excitement around the rapid advances, huge capex expectations, and promise of Artificial Intelligence (AI), and supported by the CBOE Volatility Index (VIX) falling to its lowest levels since early 2020 (pre-pandemic)—it was inevitable that stocks would eventually take a breather. Besides the AI frenzy, market strength also has been driven by a combination of “climbing a Wall of Worry,” falling inflation, optimism about a continued Fed pause or dovish pivot, and the proverbial fear of missing out (aka FOMO).

Once a debt ceiling deal was struck at the end of May, a sudden jump in sentiment among consumers, investors, and momentum-oriented “quants” sent the mega-cap-dominated, broad-market indexes to new 52-week highs. Moreover, the June rally broadened beyond the AI-oriented Tech giants, which is a healthy sign. AAIA sentiment moved quickly from fearful to solidly bullish (45%, the highest since 11/11/2021), and investment managers are increasing equity exposure, even before the FOMC skipped a rate hike at its June meeting. Other positive signs include $7 trillion in money market funds that could provide a sea of liquidity into stocks (despite M2 money supply falling), the US economy still forecasted to be in growth mode (albeit slowly), corporate profit margins beating expectations (largely driven by cost discipline), and improvements in economic data, supply chains, and the corporate earnings outlook.

Although the small and mid-cap benchmarks joined the surge in early June, partly boosted by the Russell Index realignment, they are still lagging quite significantly year-to-date while reflecting much more attractive valuations, which suggests they may provide leadership—and more upside potential—in a broad-based rally. Regardless, the S&P 500 has risen +20% from its lows, which market technicians say virtually always indicates a new bull market has begun. Of course, the Tech-heavy Nasdaq badly underperformed during 2022, mostly due to the long-duration nature of growth stocks in the face of a rising interest rate environment, so it is no surprise that it has greatly outperformed on expectations of a Fed pause/pivot.

With improving market breadth, Sabrient’s portfolios—which employ a value-biased Growth at a Reasonable Price (GARP) style and hold a balance between cyclical sectors and secular-growth Tech and across market caps—this month have displayed some of their best-ever outperformance days versus the benchmark S&P 500.

Of course, much still rides on Fed policy decisions. Inflation continues its gradual retreat due to a combination of the Fed allowing money supply to fall nearly 5% from its pandemic-response high along with a huge recovery in supply chains. Nevertheless, the Fed has continued to exhibit a persistently hawkish tone intended to suppress an exuberant stock market “melt-up” and consumer spending surge (on optimism about inflation and a soft landing and the psychological “wealth effect”) that could hinder the inflation battle.

Falling M2 money supply has been gradually draining liquidity from the financial system (although the latest reading for May showed a slight uptick). And although fed funds futures show a 77% probably of a 25-bp hike at the July meeting, I’m not so sure that’s going to happen, as I discuss in today’s post. In fact, I believe the Fed should be done with rate hikes…and may soon reverse the downtrend in money supply, albeit at a measured pace. (In fact, the May reading for M2SL came in as I was writing this, and it indeed shows a slight uptick in money supply.) The second half of the year should continue to see improving market breadth, in my view, as capital flows into the stock market in general and high-quality names in particular, from across the cap spectrum, including the neglected cyclical sectors (like regional banks).

Regardless, the passive broad-market mega-cap-dominated indexes that were so hard for active managers to beat in the past may well face high-valuation constraints on performance, particularly in the face of slow real GDP growth (below inflation rate), sluggish corporate earnings growth, elevated valuations, and a low equity risk premium. Thus, investors may be better served by strategic-beta and active strategies that can exploit the performance dispersion among individual stocks, which should be favorable for Sabrient’s portfolios—including Q2 2023 Baker’s Dozen, Small Cap Growth 38, and Dividend 44—all of which combine value, quality, and growth factors while providing exposure to both longer-term secular growth trends and shorter-term cyclical growth and value-based opportunities. (Note that Dividend 44 offers both capital appreciation potential and a current yield of 5.1%.)

Quick reminder about Sabrient’s stock and ETF screening/scoring tool called SmartSheets, which is available for free download for a limited time. SmartSheets comprise two simple downloadable spreadsheets—one displays 9 of our proprietary quant scores for stocks, and the other displays 3 of our proprietary scores for ETFs. Each is posted weekly with the latest scores. For example, Lantheus Holdings (LNTH) was ranked our #1 GARP stock at the beginning of February before it knocked its earnings report out of the park on 2/23 and shot up over +20% in one day (and kept climbing). At the start of March, it was Accenture (ACN). At the beginning of April, it was Kinsdale Capital (KNSL). At the beginning of May, it was Crowdstrike (CRWD). At the start of June, it was again KNSL (after a technical pullback). All of these stocks surged higher—while significantly outperforming the S&P 500—over the ensuing weeks. Most recently, our top-ranked GARP stock has been discount retailer TJX Companies (TJX), which was up nicely last week while the market fell. Feel free to download the latest weekly sheets using the link above—free of charge for now—and please send us your feedback!

Here is a link to my full post in printable format. In this periodic update, I provide a comprehensive market commentary, including discussion of inflation and why the Fed should be done raising rates, stock valuations, and the Bull versus Bear cases. I also review Sabrient’s latest fundamentals based SectorCast quant rankings of the ten U.S. business sectors and serve up some actionable ETF trading ideas. Read on…

  by Scott Martindale
  President & CEO, Sabrient Systems LLC

April CPI and PPI both reflect continued moderation—albeit as much as the precipitous fall in the Global Supply Chain Pressure Index would suggest (given that supply chains comprise nearly 40% of inflation, according to the New York Fed). The fed funds rate is now officially above both CPI and PCE. Nevertheless, despite hinting in their May FOMC statement that a pause in rate hikes may be imminent, the Fed insists there are no rate cuts in the foreseeable future because inflation remains stubbornly high. But this singular focus on inflation is ignoring all the fallout their hawkishness is causing—which is why investors are not buying it, and instead are pricing in a 99% chance of at least one 25-bp rate cut by year-end and a 17% chance of four cuts (according to CME Group fed funds futures, as of 5/12) while scooping up Treasuries. Regardless, I expect inflation readings to fall substantially over the coming months.

On the good-news front, both investment grade and high yield bond spreads remain tame and in fact are roughly the same level as they were one year ago. Typically, a rise in credit spreads corresponds to a drop in the S&P 500, and indeed the SPY is roughly unchanged over the past year as well. So, apparently there is little fear of a “hard landing” or mass defaults on corporate debt. And given the historical 90% correlation between economic growth and corporate profits, the better-than-expected Q1 earnings season is promising. Certainly juggernaut/bellwether Apple (AAPL) and most of its mega-cap Tech (or near-Tech) cohorts (aka FAANGM) have done their part.

So, this all supports the bull case, right? If inflation remains in a downward trend while earnings are holding up, and investors are so confident in imminent rate cuts, then why are most stocks (other than the aforementioned mega caps) struggling for traction?

Well, it seems there’s always something else to worry about. There is the regional banking crisis (and associated credit crunch) that refuses to go away quietly, thanks to nervous depositors who don’t want to be the last ones left holding the bag. And then there is that pesky debt ceiling standoff, which is easily fixable but also highly politically charged. Amazingly, US credit default swaps are currently priced higher than in emerging markets (including debt graveyards like Mexico, Greece, and Brazil), with potential payouts upwards of 2,500% if the crap hits the fan, according to Bloomberg! Why then are Treasuries simultaneously getting bought up? I think it’s because there’s no doubt about “if” interest will be paid but rather “when,” so they serve as both a value play and a safe haven.

In my view, overly dovish fiscal and monetary policies during the pandemic lockdowns (helicopter money and surging money supply) followed by hawkish policies (rapid increase in interest rates and shrinking of money supply) have been overly disruptive to the both the US and global economies, including a severely inverted yield curve (consistently 50-60 bps on the 10-2 year Treasuries), a banking crisis, and a strong dollar (as a safe haven, despite the recent pullback), which has exported inflation to emerging markets, exacerbating geopolitical turmoil and mass migration (including our border crisis)—not to mention paralysis in the US housing market as homeowners are reluctant to sell and give up their low interest rate mortgages. So, I continue to believe the FOMC has gone too far, too fast in raising rates in its single-minded focus on inflation—which was already destined to fall as supply chains (including manufacturing, transportation, logistics, labor, and energy) gradually recovered.

Moreover, the apparent strength and resilience of the mega-cap-dominated S&P 500 and Nasdaq 100 is a bit of an illusion. While the FAANGM stocks provided strong earnings reports and have performed quite well this year, beneath the surface the story is less inspiring, as illustrated by the relative performance of the equal-weight and small-cap indexes, as I discuss below. From a positive standpoint, fearful investor sentiment is often a contrarian signal, and elevated valuations of the broad market indexes—24.6x forward P/E for the Nasdaq 100 (QQQ) and 18.1x for the S&P 500 (SPY)—suggest that investors expect lower interest rates ahead. However, the high valuations and relatively low equity risk premium (ERP) on those mega-cap-dominated indexes may lead institutional investors to target small and mid-cap stocks as inflation falls and rate cuts arrive, such that market breadth improves.

I believe this enhances the opportunity for skilled active selection and strategic beta indexes that can exploit elevated dispersion among individual stocks. It was money supply (and the resultant asset inflation) that pushed up stock prices. So, if money supply continues to recede, while it will help suppress inflationary pressures, it will be difficult for the mega-cap-driven market indexes to advance—although well-chosen, high-quality individual stocks can still do well.

On that note, the Q2 2023 Baker’s Dozen launched on 4/20. The portfolio has a diverse mix across market caps, equally split between value and growth and between cyclical and secular growers. Some of the constituents are familiar names, like large-cap Delta Airlines (DAL), but many are relatively “under the radar” stocks, like mid-cap cloud security firm Zscaler (ZS), small-cap oil & gas services firm NextTier Oilfield Solutions (NEX), and small-cap mortgage servicer Mr. Cooper Group (COOP). By the way, Sabrient’s newest investor tool is called SmartSheets, providing fast and easy scoring, screening, and monitoring of over 4,200 stocks and 1,200 equity ETFs, and they are available for free download for a limited time. SmartSheets comprise two simple downloadable spreadsheets with 9 of our proprietary quant scores for stocks and 3 scores for ETFs. Please check them out and send me your feedback!

Here is a link to my full post in printable format. In this periodic update, I provide a comprehensive market commentary, review Sabrient’s latest fundamentals based SectorCast quant rankings of the ten U.S. business sectors, and serve up some actionable ETF trading ideas. Read on…

  by Scott Martindale
  President & CEO, Sabrient Systems LLC

Quick assessment:  We have an historic pandemic wreaking havoc upon the global economy, with many US states reversing their reopenings. We just got the worst ever quarterly GDP growth number, and jobless claims are resurging. The Federal Reserve is frantically printing money at breakneck pace to keep our government solvent, with M3 money supply growth having gone parabolic. We have a highly contentious presidential election that many consider to be the most consequential of our lifetimes. There is unyielding and unappeasable social unrest, with nightly rioting in the streets in many of our major cities. Tensions with China are again on the rise, with a new Cold War seemingly at hand. Hurricanes are threatening severe damage in states that are already reeling from a surge in COVID hospitalizations. And yet the Nasdaq 100 (QQQ) has burst out to new highs while the S&P 500 (SPY) is within 3% of its all-time high (although, quite notably, both of these cap-weighted indexes are dominated by a handful of mega-cap, disruptive juggernauts).

Of course, stocks have been bolstered by unprecedented congressional fiscal programs and Fed monetary support, including zero interest rate policy (ZIRP), open-ended quantitative easing (QE), de facto yield curve control (YCC), and the buying of corporate bonds (including junk bonds and fixed-income ETFs – and perhaps will include equity ETFs at some point). This de facto “Fed put” has induced a speculative fervor, FOMO (“fear of missing out”), and a TINA (“There is No Alternative!”) mindset for risk assets – particularly given infinitesimal bond yields and a falling dollar. Furthermore, while COVID cases have risen with the economy’s attempt at reopening, the death rate is down 75% since its peak in April, as the people being infected this time around are generally younger and less vulnerable and hospitals are better prepared.

However, we have witnessed extreme bifurcation in this market, with certain secular growth segments performing extremely well and hitting new all-time highs, while other segments are quite literally in a depression. And although the pandemic has exacerbated this situation, it has been developing for a while. As I have often discussed, when the trade war with China escalated in mid-2018, the market became highly bifurcated to seek the perceived safety of the dominant mega caps over smaller caps, growth over value, and secular growth Technology over the neglected cyclical growth sectors like Financials, Industrials, Materials, and Energy. It rotated defensive and risk-off even given the positive economic outlook. This is also when the price of gold began to ascend. Yes, gold has become much more than just a hedge; it now has its own secular growth story (as discussed below), which is why Sabrient’s new Baker’s Dozen for Q3 2020 includes a gold miner.

So, while Sabrient’s flagship Baker’s Dozen portfolios over the past two years have been dominated by smaller caps, the value factor, and cyclical sectors – to their detriment in this highly bifurcated market – you can see that our newer portfolios since the enhancements were implemented have been much more balanced among large, mid, and small caps, with a slight growth bias over value, and a balance between secular growth and cyclical growth companies.

In this periodic update, I provide a market commentary, offer my technical analysis of the S&P 500, and review Sabrient’s latest fundamentals-based SectorCast rankings of the ten US business sectors, and serve up some actionable ETF trading ideas. In summary, while our sector rankings look neutral (as you might expect given the poor visibility for earnings), the technical picture is bullish, and our sector rotation model remains bullish.

As a reminder, Sabrient has introduced process enhancements to our forward-looking and valuation-oriented stock selection strategy to improve all-weather performance and reduce relative volatility versus the benchmark S&P 500, as well as to put secular-growth companies (which often display higher valuations) on more equal footing with cyclical-growth companies (which tend to display lower valuations). You can find my latest Baker’s Dozen slide deck and commentary on terminating portfolios at http://bakersdozen.sabrient.com/bakers-dozen-marketing-materials. To read on, click here....

  by Scott Martindale
  President & CEO, Sabrient Systems LLC

What a week. From its intraday all-time high on 2/19/20 to the intraday low on Friday 2/28/20, the S&P 500 fell -15.8%. It was a rare and proverbial “waterfall decline,” typically associated with a Black Swan event – this time apparently driven primarily by fears that the COVID-19 virus would bring the global economy to its knees. Once cases started popping up across the globe and businesses shuttered their doors, it was clear that no amount of central bank liquidity could help.

But in my view, it wasn’t just the scare of a deadly global pandemic that caused last week’s selloff. Also at play were the increasing dominance of algorithmic trading to exaggerate market moves, as well as the surprising surge in popularity of dustbin Bolshevik Bernie Sanders. I think both lent a hand in sending investors into a tizzy last week.

Even before fears of a pandemic began to proliferate, market internals were showing signs of worry. After a sustained and long-overdue risk-on rotation into the value factor, small-mid caps, and cyclical sectors starting on 8/27/19, which boosted the relative performance of Sabrient’s portfolios, investor sentiment again turned cautious in the New Year, even as the market continued to hit new highs before last week’s historic selloff. It was much the same as the defensive sentiment that dominated for most of the March 2018 — August 2019 timeframe, driven mostly by the escalating China trade war. (It seems like all market swoons these days are related to China!)

Alas, I think we may have seen on Friday a selling climax (or “capitulation”) that should now allow the market to recover going forward. In fact, the market gained back a good chunk of ground in the last 15 minutes of trading on Friday – plus a lot more in the afterhours session – as the extremely oversold technical conditions from panic selling triggered a major reversal, led by institutional and algorithmic traders. That doesn’t mean there won’t be more volatility before prices move higher, but I think we have seen the lows for this episode.

The selloff wasn’t pretty, to be sure, but for those who were too timid to buy back in October, you have been given a second chance at those similar prices, as the forward P/E on the S&P 500 fell from nearly 19.0x to 16.3x in just 7 trading days. Perhaps this time the broad-based rally will persist much longer and favor the risk-on market segments and valuation-oriented strategies like Sabrient’s Baker’s Dozen – particularly given our newly-enhanced approach designed to improve all-weather performance and reduce relative volatility versus the benchmark S&P 500.

In this periodic update, I provide a detailed market commentary (including other factors at play in the market selloff), discuss Sabrient’s new process enhancements, offer my technical analysis of the S&P 500, and review Sabrient’s latest fundamentals-based SectorCast rankings of the ten US business sectors, and serve up some actionable ETF trading ideas. In summary, our sector rankings look neutral, and our sector rotation model moved to a defensive posture when the S&P 500 lost support from its 200-day moving average. The technical picture has moved dramatically from grossly overbought to grossly oversold in a matter of a few days, such that the S&P 500 has developed an extreme gap below its 20-day moving average and the VIX is at an extreme high. Thus, I believe a significant bounce is likely.

As a reminder, you can find my latest Baker’s Dozen presentation slide deck and commentary at http://bakersdozen.sabrient.com/bakers-dozen-marketing-materials. Click to Read on....

  by Scott Martindale
  President, Sabrient Systems LLC

The early weeks of September were looking so promising as a brief but impressive surge gave hope of a revival in the long-neglected market segments. This sustained risk-on rotation seemed to be marking a bullish change of market character from the risk-off defensive sentiment that I have been writing about extensively for the past 18 months (ever since the China trade war escalated in June of last year), specifically the massive divergence favoring the low-volatility, growth, and momentum factors, defensive sectors, and large caps over the value and high-beta factors, cyclical sectors, and small-mid caps. But then, for the next few weeks, those risk-on market segments were once again lagging, as fickle investors keep returning to stocks displaying stronger balance sheets, high dividend yields, and/or secular growth stories – in spite of high valuations – rather than the more speculative cyclical growth stocks selling at attractive valuations that typically lead an upside breakout. It appeared that the fledging bullish rotation was caput – or perhaps not. Suddenly, there have been positive developments in the trade negotiations and in the Brexit saga, and the past several days have brought back renewed signs of a pent-up desire to take stocks higher. Signs of a better than expected Q3 earnings season may be the final catalyst.

Of course, although YTD returns in US stocks are impressive, if you look back over the past year to when the major indexes peaked in 3Q2018, stocks really have made very little headway. As of the close on Tuesday, the S&P 500 is +21.3% YTD but only +1.7% since its 2018 high on 9/20/18, while the more speculative Russell 2000 small cap index is still more than -12% below its all-time high from over a year ago – way back on 8/31/18. The biggest difference this year versus the 9/20/18 high for the S&P 500 is that Treasury yields have fallen (from 3.1% to about 1.8% on the 10-year), which has allowed for P/E multiple expansion (from 16.8x last year to 17.2x today) despite the earnings recession of the past three quarters.

I suppose one can hardly blame investors for their trepidation at this moment in time, given the overabundance of extremely negative news, which only expanded during Q3. We have an intractable trade war with the world’s second largest economy, intensifying protectionist rhetoric, North Korean missiles, rising tensions with Iran, a brewing war in northern Syria, drone attacks in Saudi Arabia, riots in Hong Kong, China’s feud with the NBA (and the animated TV show South Park!), a slowing global economy, a US corporate earnings recession, flattish yield curve, surging US dollar, low-yield/high-volatility Treasury bonds, falling consumer sentiment, Business Roundtable’s CEO Economic Outlook Index down six consecutive quarters (as hiring is strong but capital investment and sales expectations lag), the steepest contraction in the manufacturing sector since June 2009, UAW strike against General Motors (GM), looming Hard Brexit, top-polling Democratic candidates espousing MMT and business-unfriendly socialist policies, and yet another desperate attempt to impeach the President before the next election. Need I go on?

But somehow the US economy has maintained positive traction while stocks have held their ground given a persistent economic expansion, supported by dovish central banks around the world and a rock-solid US consumer. Indeed, the very fact that stocks have held up amid such a negative macro environment suggests to me that investors are just itching for a reason to rotate cash and pricey bonds into stocks – perhaps in a big way. And from a technical standpoint, such a long sideways consolidation over the past several months suggests that an upside breakout may be imminent – and likely led by those risk-on market segments. Notably, every such bullish rotation has helped Sabrient’s various growth-at-a-reasonable-price (GARP) portfolios gain ground against the SPY benchmark, so a sustained rotation would be quite welcome!

And some good news this week is offering some hope, with strong Q3 earnings reports from JPMorgan Chase (JPM) and UnitedHealth (UNH), a resumption in trade talks, progress in the GM strike, and a possible breakthrough in the Brexit negotiations. Moreover, the highly cyclical semiconductor and homebuilding industries are on fire, with iShares PHLX Semiconductor ETF (SOXX) setting a new high, and Treasury yields are creeping up.

By the way, our Sabrient Select SMA portfolio (separately managed account wrapper) is available to financial advisors as an alternative investment opportunity. The portfolio actively manages 25-35 stocks based on our “quantamental” GARP strategy. Let me know if you’d like more information.

In this periodic update, I provide a detailed market commentary, offer my technical analysis of the S&P 500, review Sabrient’s latest fundamentals-based SectorCast rankings of the ten US business sectors, and serve up some actionable ETF trading ideas. In summary, our sector rankings now look neutral to me, while the technical picture remains bullish, and our sector rotation model retains a solidly bullish posture. Read on…

  by Scott Martindale
  President, Sabrient Systems LLC

July was yet another solid month for stocks, as the major market indexes eclipsed and held above psychological barriers, like the S&P 500 at 3,000, and the technical consolidation at these levels continued with hardly any give back at all. But of course, the last day of July brought a hint of volatility to come, and indeed August has followed through on that with a vengeance. As the old adage goes, “Stocks take the stairs up but ride the elevator down,” and we just saw a perfect example of it. The technical conditions were severely overbought, with price stretched way above its 20-day simple moving average, and now suddenly the broad indexes (S&P 500, Dow, Nasdaq) are challenging support at the 200-day moving average, while the small cap Russell 2000 index has plummeted well below its 200-day and is now testing its May low.

For the past 18 months (essentially starting with the February 2018 correction), investor caution has been driven by escalating trade wars and tariffs, rising global protectionism, a “race to the bottom” in currency wars, and our highly dysfunctional political climate. However, this cautious sentiment has been coupled with an apparent fear of missing out (aka FOMO) on a major market melt-up that together have kept global capital in US stocks but pushed up valuations in low-volatility and defensive market segments to historically high valuations relative to GARP (growth at a reasonable price), value, and cyclical market segments. Until the past few days, rather than selling their stocks, investor have preferred to simply rotate into defensive names when the news was distressing (which has been most of the time) and then going a little more risk-on when the news was more encouraging (which has been less of the time). I share some new insights on this phenomenon in today’s article.

The market’s gains this year have not been based on excesses (aka “irrational exuberance”) but instead stocks have climbed a proverbial Wall of Worry – largely on the backs of defensive sectors and mega-caps and fueled by persistently low interest rates, and mostly through multiple expansion rather than earnings growth. In addition, the recent BAML Global Fund Manager Survey indicated the largest jump in cash balances since the debt ceiling crisis in 2011 and the lowest allocation ratio of equities to bonds since May 2009, which tells me that deployment of this idle cash and some rotation out of bonds could really juice this market. It just needs that elusive catalyst to ignite a resurgence in business capital spending and manufacturing activity, raised guidance, and upward revisions to estimates from the analyst community, leading to a sustained risk-on rotation.

As a reminder, I am always happy to take time for conversations with financial advisors about market conditions, outlook, and Sabrient’s portfolios.

In this periodic update, I provide a detailed market commentary, offer my technical analysis of the S&P 500, review Sabrient’s latest fundamentals based SectorCast rankings of the ten US business sectors, and serve up some actionable ETF trading ideas. In summary, our sector rankings look neutral to me (i.e., neither bullish nor defensive), while the sector rotation model retains a bullish posture. Read on…

  by Scott Martindale
  President, Sabrient Systems LLC

The major cap-weighted market indexes continue to achieve new highs on a combination of expectations of interest rate cuts and optimism about an imminent trade deal with China. Bulls have been reluctant to take profits off the table in an apparent fear of missing out (aka FOMO) on a sudden market melt-up (perhaps due to coordinated global central bank intervention, including the US Federal Reserve). But investors can be forgiven for feeling some déjà vu given that leadership during most of the past 13 months did not come from the risk-on sectors that typically lead bull markets, but rather from defensive sectors like Utilities, Staples, and REITs, which was very much like last summer’s rally – and we all know how that ended (hint: with a harsh Q4 selloff). In fact, while the formerly high-flying “FAANG” group of Tech stocks has underperformed the S&P 500 since June 2018, Barron’s recently observed that a conservative group of Consumer sector stalwarts has been on fire (“WPPCK”) – Walmart (WMT), Procter & Gamble (PG), PepsiCo (PEP), Costco (COST), and Coca-Cola (KO).

This is not what I would call long-term sustainable leadership for a continuation of the bull market. Rather, it is what you might expect in a recessionary environment. When I observed similar behavior last summer, with a risk-off rotation even as the market hit new highs, I cautioned that defensive stocks would not be able to continue to carry the market to new highs (with their low earnings growth and sky-high P/E ratios), but rather a risk-on rotation into cyclical sectors and small-mid caps would be necessary to sustain the uptrend. Instead, the mega-cap Tech names faltered and the market went into a downward spiral. Many analysts and pundits have been forecasting the same for this year.

But when I hear such widespread pessimism, the contrarian voice in my head speaks up. And indeed, the FAANG names – along with powerhouse Microsoft (MSFT) and cyclicals like Semiconductors, Homebuilders, and Industrials – have been showing leadership again so far this year, especially after that historic market upswing in June. Rather than an impending recession, it seems to me that the US economy is on solid footing and “de-coupling” from other developed markets, as First Trust’s Brian Wesbury has opined.

The US economic expansion just became the longest in history, the latest jobs report was outstanding, unemployment remains historically low, business and consumer confidence are strong, institutional accumulation is solid, and the Federal Reserve is a lock to lower interest rates at least once, and more if necessary (the proverbial “Fed Put”). Indeed, the old adages “Don’t fight the Fed!” (as lower rates support both economic growth and higher equity valuations) and “The trend is your friend!” (as the market hits new highs) are stoking optimism and a critical risk-on rotation, leading the S&P 500 this week to touch the magic 3,000 mark and the Dow to eclipse 27,000. If this risk-on rotation continues, it bodes well for Sabrient’s cyclicals-oriented portfolios.

In this periodic update, I provide a detailed market commentary, offer my technical analysis of the S&P 500, review Sabrient’s latest fundamentals based SectorCast rankings of the ten US business sectors, and serve up some actionable ETF trading ideas. In summary, our sector rankings look neutral to me (i.e., neither bullish nor defensive), while the sector rotation model retains a bullish posture. Read on…