What a ride the last month has been. Following the surprise presidential victory for Donald Trump, the market reacted by sending Dow futures plunging downward by nearly 800 points. After the initial panic subsided, the market rallied quickly. Institutional investors knew that Trump’s equity friendly policies, including corporate tax cuts, deregulation and fiscal stimulus could be good long-term for stocks. Luckily for us, this put the attention back on value stocks.
The sharp rally has been fueled by historically high levels of cash held by Mutual Fund managers. They needed a place to put their money. Once the election results were known, money managers knew which sectors they wanted to invest in. The result was a shift out of high dividend stocks and consumer staples into energy, defense and financials. Almost half of the S&P gains since election day are due to financials alone.
While this rally may continue, we are not out of the woods yet. Futures are predicting almost a 95% chance of a rate hike increase in December. In anticipation of the rate increase, 10-year Treasury yields have been driven up to 2.35%, almost a full percent higher since July. This has resulted in a surge of the dollar. The dollar is attempting to break through the $100 price barrier for the third time. If it does manage to break-out above the $100 level, it will have a negative impact by putting pressure on S&P earnings.
This rate increase, along with a rising dollar is in essence, a tightening of financial conditions. This should lead to a short-term sell-off similar to what we’ve seen at the end of the last two years. The sell-off could be further exuberated by end of year tax selling.
Based on the above, along with stretched valuations in the market, I’m glad to still have cash on hand to take advantage of the next opportunity that arises. In the interim, I’ll continue to follow more of a short-term strategy by limiting losses and protecting gains. The strategy has allowed us to protect strong gains over the last 7 years, while staying within striking distance of market averages this year with less risk, waiting for better opportunities.