Aug 24, 2016

Keith Richards' Top Picks: August 24, 2016

BNN Bloomberg

Keith Richards , BNN

Keith Richards, portfolio manager, ValueTrend Wealth Management of Worldsource Securities

FOCUS: Technical Analysis

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MARKET OUTLOOK:

I use two market timing systems when assessing markets. One of them is a short termed system that I cover only on the blog valuetrend.ca for reasons of its immediacy. It’s been pretty good at picking very near-termed peaks and troughs. But it’s geared more for traders, not investors. The other, called the “Bear-o-meter,” is a proprietary analytical system I designed about 10 years ago. It provides a probability ranking of market direction with an intermediate termed outlook – anywhere within the coming 1-to-6 months. It consists of various factors, including breadth indicators, trend indicators, seasonality, sentiment indicators and even a fundamental factor. These indicators are assigned different weightings. The grand total is tallied according to the values each indicator reads on a given day. From there, a zone of buy, neutral or sell is indicated.

Let’s look at what the intermediate termed Bear-o-meter has to say right now.

Currently, we have a “SELL” reading on my Bear-o-meter. I re-tally periodically, and will report the results on my blog if we move out of this sell zone. But for now, we are in “sell mode.” Levels of the Smart/Dumb Money indicator, courtesy of sentimentrader.com and the extremely low readings on the VIX (CBOE volatility indicator that is comprised of options premiums), along with bearish seasonality for August/September tell us why the indicator is at the bearish end of its scale. I’m also seeing a bearish reading from the Dow confirmation factor (Industrials are rising while Transports have weakened recently). However, the Moving Averages and broad market Advance /Decline line are bullish on all counts. Netting it out, we have more bearish than bullish factors in the Bear-o-meter.

So what to do?

There are three ways to reduce an equity portfolio’s risk if your system detects an unfavorable risk/reward tradeoff.

You can reduce exposure to equities by selling some stocks and raising cash.
You can also hedge with an inverse ETF (single inverse is preferred over the leveraged types) – this effectively creates the effect of increasing cash without selling more equites. The inverse ETF will rise and fall opposite to the market. Thus, stocks with a high correlation to the market (i.e. beta 1.0) will be offset by the amount held in a single inverse ETF.
Finally, you can elect to hold a greater component of low beta stocks for those equities you elect to keep. Lower beta stocks will move less than the market in a correction.

By combining actual cash with a small inverse position, we effectively moved approximately 40 per cent of our ValueTrend Equity Platform into cash from the prior 20 per cent weighting in mid-August. My battle plan is to use that cash to offset potential downside as/if and when markets decline – and to act as opportunity capital to be redeployed when markets offer favored stocks and sectors at lower prices.

Top Picks:

Horizons BetaPro S&P 500 Single Inverse ETF (HIU.TO)

We are quite cautious of late, given the bearish signal noted on our Bear-o-Meter. When concerned about markets, the ideal strategy is to reduce equity exposure. As noted in my opening comments, a single inverse ETF such as this one can effectively create a greater cash position without selling stocks you wish to hold.

PowerShares Low Volatility CAD-Hedged Index ETF (ULV.TO)

This ETF has a beta of about 0.7, and is hedged against dollar movements. The ETF holds the 100 lowest volatility stocks on the s&P500, and thus makes it an excellent addition to the individual stocks that we hold.

Cash

Effectively, we hold about 40 per cent cash weighting in the ValueTrend Equity Platform at this moment. We will deploy this cash periodically as trading opportunities present themselves and our indicators become more positive.