Leuthold: stay defensive

David_Snowball

The folks at the Leuthold Group have an almost-daily subscriber newsletter that discusses their most recent research and, occasionally, how they're positioning their fund portfolios.

Today's note might have been titled, "we've seen this picture before."

Today’s backdrop from an economic, liquidity, and technical perspective is very reminiscent of all three of those prior tops (1990, 2000, 2007) in ways that are too numerous to cover here. But one that’s especially worrisome is the blowout in spreads on low- grade corporate bonds. The yield gap between Moody’s BAA corporates and the 10-year Treasury yield is up about 50 basis points since the January stock market high, poking above the 2% level that preceded several U.S. recessions. Note the market tops of 2000 and 2007 featured similar patterns of credit deterioration just as the stock market was issuing the “all-clear” signal by breaking above its pre-correction highs. Credit patterns did not show similar deterioration leading into the 1990 bull market top; even the “bond guys” sometimes get it wrong. But we are not inclined to bet against their message here.Stay defensive.

They reported earlier this week that their flagship Leuthold Core Fund (LCORX) had moved to its portfolio to the most defensive positioning permitted by prospectus. I suspect their ongoing concern about the market's health is reflected in the fund's changing beta values. Over the past three years, beta has been about .60 but over the past 10 and 15 year periods they've allowed it to live above 1.00.

David

VintageFreak

they better stay defensive. i never told Cook and Bynum to get fully invested. At least some of my portfolio managers have to behave.

I have been "artisaning" out into funds such as LCORX over the past few weeks.

AndyJ

Leuthold's zeroing in on the zone several other observers have pointed to as a likely candidate for the trigger for the next big blowup -- corporates at the lower end of investment grade. (Moody's Baa is equivalent to S&P and Fitch's BBB, which is the lowest IG tier.)

The Baa/BBB share of the IG corp universe has exploded, with generally IG corporations piling on debt for buybacks and buyouts, which has been getting rated one notch above junk. A dangerous flash point would be any general deterioration that led to downgrading a lot of that debt to junk, which could lead to a ton of selling by institutions and others who have that downgraded debt in a mandated IG sleeve, for example.

I imagine the Leuthold guys are keeping an eye on things like biz loan delinquency, banks tightening lending standards, the financial stress index, etc., stuff that FRED (the econ research arm of the St. Louis Fed) provides handy charts for tracking, for example here.

Appears none of that stuff is screaming "Run away!" yet, but things may be heading that way, and Leuthold's got their antennae aimed in the right direction, IMHO.

VintageFreak

@AndyJ you meant "blowup" right? nor "blowout" which means market will go nuts upwards.

AndyJ

@VF, thanks, corrected. Was typing faster than the brain was working, and the typing doesn't have to be all that fast for that to happen ...

catch22

Hi @AndyJ
Thank you for the reference (St. Louis Fed.), and @David_Snowball for the Leuthold "info" and posting same.
The "liquidity" .................an area I attempt to ascertain and distinguish from other items within the financial world.
We investors live within a financial world; were aside from a boatload of money sloshing about in places known and unknown to us; must also have a full faith in the system that the quality of money between/among parties does not fall apart and become a problem of liquidity. My "investors" reference is not just related to the folks here; but must also include most of the big kids, too. They are subject to having their investment pants pulled down, too.
The full faith in the system is very critical, IMHO; and as we have witnessed in the past, can develop flaws and cracks from real reasons which then may begin a massive lost of faith that monetary functions can be maintained in some form of civil fashion and not cause great stress to the system.
Indebtedness is global; but relative to this country, as you noted; the debt piles are so large from a corporate measure, and the debt pile continues down into the public sector.
One example, the auto companies, in their advertising; do everything possible to pull in the "sub-prime" customer. Hey, folks; we can help you afford that $55k truck you're wanting. Okay, this will end well, eh? Too many in our society have no mental discipline for a budget and the spending involved with same. A recent report indicates the following for the regular folks:
---average American credit card debt = $6,375, average household = $17,000 and average annual credit card interest = $1,300.
None of this bodes well at some point down the road.
I continue to watch the bond side of money for cracks in the system, as I feel this could be the problem area that places cracks into the equity side.
Sadly, I/we are running out of time at this household; as we've been at this investment party for 40 years. We got "lucky" leaving the party early in 2008 while there were still chairs available before the music stopped. I'm not so sure we can be "lucky" twice in such a short time frame.
The rough part will be leaving a passion and breaking a habit; as well as deciding where to park the money in a hands off mode.
Lastly, @AndyJ ; have you anything else in particular that you watch for cracks and stress in the world of bonds and debt? Any reference links would be most appreciated. Thank you.
Take care,
Catch

davfor

@AndyJ Thanks for your observation. It has been my suspicion that the near zero rate easy money era could eventually produce a nasty outcome by putting important parts of the market's creative destruction process into hibernation. It makes sense that -- as interest rates rise -- deterioration of a bloated "barely investment grade" segment of the bond market would contribute to that outcome.

Ted

@Catch22: You said, " deciding where to park the money in a hands off mode ? I would suggest laddered CD's.
REgards,
Ted