Canadian bonds, US treasuries, gold, oil, the S&P 500 │ Where are they headed next?

 “As a technical analyst, I tend to avoid making longer-term predictions about markets, sectors or commodity prices. I find that forecasting market movements or events out beyond a few months becomes increasingly difficult.

“Technical analysts can make reasonably accurate projections for time periods of less than six months, but not much further than that.

“We rely on crowd behaviour studies, momentum and money flow to predict price behaviour. The further out we try to forecast, the greater the chance for unpredictable events to alter crowd behaviour and change the trend on a security.” So confesses Keith Richards, portfolio manager at Barrie, Ontario-based ValueTrend Wealth Management. Mr. Richards, a regular contributor to The MoneyLetter, writes:

Fundamental analysts and economists are no different in their inability to predict much beyond a few months. Witness the lack of foresight by prognosticators at this time last year for events such as the crash in crude oil prices, the decline of Russia, the Ebola scare, and the bullish return of the long bond.

For this reason, I tend to place little faith in anyone’s predictions for 2015—although I must admit that I am called by Bloomberg and Reuters for a year-forward prediction every year. I’m as guilty of adding to the media bombardment of predictions as anyone!

Having said all that, I will stick my neck out on a few trends that appear likely to occur in at least the first half of 2015—and perhaps longer. I’ll explain my logic behind each prediction or observation, and note how you might position your portfolio to take advantage of such trends, should they occur.

Canadian bond yields will remain flat

The current lack of economic growth in Canada will curtail any rate rises. The Financial Post reported that economists expect gross domestic product, or GDP, growth in the low two-per-cent range for Canada, given oil’s impact on our economy.

This will likely force the Bank of Canada to contain—if not further lower—interest rates, despite the falling loonie.

How we handle continued low Canadian bond yields

We at ValueTrend continue to hold a diverse portfolio that contains an element of laddered bond maturities and other fixed income securities.

Among our favorites are RBC Financial’s target bond exchange-traded funds, or ETFs (where you can mix and match to ladder your own bond portfolio). These range from RBC Target 2015 Corporate Bond ETF (TSX─RQC) and RBC Target 2016 Corporate Bond ETF (TSX─RQD) through RBC Target 2021 Corporate Bond ETF (TSX─RQI).

Another of our favorites is Horizons Active Preferred Share ETF (TSX─HPR) which, as the name suggests, is Horizons’ actively managed preferred share ETF.

Fixed income can also buffer a portfolio’s volatility against stock market corrections—more on this in the fifth of these five predictions.

U.S. Treasury yields will rise less than expected

Despite the strong economic growth in the U.S. recently (five per cent in the third quarter of 2014), economists are predicting solid, but not runaway growth in GDP—in the low three-per-cent range—for 2015.

Troubles in Europe and a slowdown in China may keep the U.S. Federal Reserve from getting too aggressive on monetary policy. Further, inflation remains below the Fed’s target rate of two per cent.

This offers little impetus for the U.S. central bank to raise rates much beyond 25 basis points to 50 basis points in the coming months. (A basis point is one one-hundredth of one per cent.)

What we’re doing in the face of stable treasury rates

To take advantage of this stable environment, we hold some U.S. preferred-share ETF exposure, including the iShares S&P/TSX North American Preferred Stock ETF (TSX─XPF), which is 50 per cent weighted in U.S.-listed preferred shares.

Gold remains range-bound, or bearish

Gold bulls tend to invest thematically. They believe that declining confidence in central banking and future inflation (what inflation?) will bring back the gold standard.

Technical analysts do not invest thematically. We follow crowd behaviour and trends.

And right now, the greater trend and cycle for gold is bearish.

Sure, the current consolidation of gold prices at around US$1,200 to $1,300 an ounce may break out into a new bull market at some point.

However, that potential should not be acted upon until and unless an emergence through the last high of around US$1,350 occurs.

Until that time, gold is a short-termed trading vehicle only, and should just be considered by speculators and traders.

Oil bottoms and consolidates

Despite concerns about supply and demand, oil will likely find technical support around the old 2008 bottom. Analysts everywhere are looking at the roughly US$40-a-barrel price point as a target.

What they are not looking at is how to trade off of that bottom—no matter where it lands.

Take a look at these past bottoms for crude oil prices: 2008, 1999 and 1986. These represent three significant energy bear-market bottoms. With these bear-market bottoms, oil found a hole, bounced out, and meandered up and down around that low price point for months on end.

I’m convinced that 2015 will see a bottom in oil prices—perhaps as soon as late winter or early spring.

However, long-termed investors will need to be patient before reaping the rewards of buying back in at that low point—just as they had to be after the three corrections mentioned above.

We don’t hold any oil or energy stocks right now, beyond some exposure to the pipelines. The technical signals are not there yet and, fundamentally, we might expect a certain level of debt default and bankruptcy within the U.S. oil-and-gas industry.

We do, however, expect to be buying into the sector when and as we see the market consolidate off of a bottom. I’ll be writing more on this subject in future columns.

S&P 500 correction of 20% or more in 2nd half of 2015

The S&P500 will experience a 20 per cent or higher correction in the second half of 2015.

Sentiment indicators are suggesting that the market has reached overly optimistic levels, which has historically lead to strong corrections.

The basic premise of sentiment indicators is that when most investors are bullish, you should start selling, and if the majority is bearish, back up the truck and buy.

Pay attention to ‘smart money’ vs. ‘dumb money’

You can improve on sentiment indicators by monitoring two distinct groups. You can monitor the movements of groups of investors who are usually correct in their decisions (“the smart money”) and those groups who are usually incorrect decision makers (the so-called “dumb money”).

So if commercial hedgers and pension fund managers are usually right, you want to follow those investors and do what they do.

Conversely, you want to fade, or trade against, the decisions made by typically inaccurate retail mutual fund investors, small speculators and small options traders.

Usually, you get extreme optimism in one group coinciding with pessimism in the other group.

This makes sense. Optimistic “dumb money” buys high and needs pessimistic “smart money” to sell those shares to them and visa-versa.

However, right now we have a high reading of optimism in both groups. Smart and dumb folk alike are bullish.

Some research by www.sentimentrader.com shows the current statistics of “smart” and “dumb” money optimism: 60 per cent of the “smart money” surveyed is bullish and 65 per cent of the “dumb money” surveyed is bullish.

This shows a broad level of optimism that has typically preceded corrections.

Technical factors bullishly trumping caution … for now

Still, the most important technical factors (trend and money flow) are bullishly trumping the caution notes by the sentiment readings … at least for now.

Seasonality should keep the market moving over the coming months—markets do tend to experience their most upside from November through May. So too should the presidential cycle (the third year of an election term is typically bullish).

The signs are there for a larger selloff later this year. For now, markets remain bullish, but be prepared to exit upon a break in the market’s trend.

 

The MoneyLetter, MPL Communications Inc.
133 Richmond St. W., Toronto, On, M5H 3M8, 1-800-804-8846