US markets have sold off aggressively over the last two weeks and it’s important to dig into why this has happened and what we are doing about it.
The US market is experiencing a growth scare due to President Trump’s policies and actions in trying to reduce the deficit. When he started to be specific on how that deficit reduction would be achieved, investors realised that this would mean lower GDP and higher unemployment. He is proposing less government spending and a reduction in the federal workforce to achieve these goals and that has worried the market. Additionally, his much vaunted tariffs are also coming into effect which is another destabilising factor.
As a reminder, we use a top-down quantitative model* which measures the rate of change of growth and inflation, and this helps us ascertain where we are in the business cycle. The model is forward looking and has picked up that economic growth is likely to decelerate in Q1 and also Q2. This set up, which chimes with the real-world effects of Trump’s policies, is bearish for risk assets and we have been taking profits in our higher beta stocks and reducing the overall beta of the portfolio. Our technical work also suggests that there is real concern that the cycle has changed for growth stocks in the US and that caution is warranted. What’s interesting about this approach is that the fundamentals for most stocks are unchanged, at least for now. However, using a quantitative and technical overlay helps us see when there might be peaks in share prices, before the fundamentals deteriorate. The market is a discounting mechanism and so we focus on price as a leading indicator, and the sharp and rapid pullback signals that there may be a change in leadership happening.
It is exactly after big corrections like this one that new leaders emerge. Our macro model currently shows that the economic data should start to re-accelerate in Q3 and continue into Q4. So this pullback could be short term in nature but our current view is that it is not one to buy the dip in the old favourites. This correction is likely to be the harbinger of a new cycle, led by new stocks.
Until the new leadership emerges, we believe it’s right to be somewhat cautious in our positioning. We have sold many of our recent winners, stocks like Palantir, RobinHood and Coinbase. We still like these companies longer term but do not want to own them while the market is going through this risk-off phase. When growth scares happen, the multiples that investors are willing to pay come down hard and we want to avoid the higher beta corners of the market for that reason.
We have added some defensive stocks to the portfolio, AT&T and T Mobile are two examples and they are performing well since purchase. These defensive type stocks will help us navigate this trickier market but are tactical in nature and are likely to be in the portfolio only until conditions improve.