What stocks need to melt up

Published: Nov 21, 2014 1:53 p.m. ET

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Despite headline after headline seemingly every other day pronouncing that stocks have hit new highs, the reality on the ground is that the majority of stocks have had a mediocre year in 2014. The average small-cap stock is only marginally up given small-caps lack of participation in the broader large-cap move higher. From a sector standpoint, defensive, non-cyclical plays have been where money has positioned, making this a very defensive year, consistent with the behavior of Treasurys and yield-curve flattening.

Of course, due to home bias and the availability heuristic, the average individual believes this has been a particularly powerful bull market in stocks this year, despite the aforementioned facts.

Furthermore, the "market" is much more than the S&P 500 Index. European markets? Vastly underperforming, again at odds with the story large-caps are giving about future global growth. Our equity-sector ATAC Beta Rotation Fund US:BROTX,  which builds upon the summary version of the 2014 Dow award-winning paper (www.betarotation.com), has spent the majority of the fourth quarter so far being exposed only to the utilities, health-care and consumer-staples sectors because of inter-market movements which have been far less optimistic than pundits.

We just ended quantitative easing, folks, and we will only know with hindsight if conditions are changing, but I do believe historical cause and effect will likely return. What does this mean for future equity direction? It probably means stocks and inflation expectations finally resync and trend in the same direction. How would this happen? With a sustained oversold bounce and move higher in commodities, which could be the source of a cyclical sector meltup should it take hold soon.

Take a look below at the price ratio of the DB Commodities Tracking Index ETF DBC, +0.13%  relative to the SSPDR DJ Industrial Average ETF Trust DIA, -0.56%. As a reminder, a rising price ratio means the numerator/DBC is outperforming (up more/down less) the denominator/DIA. A falling ratio means underperformance

Needless to say, commodities have been horrendous performers for the better part of the last few years, particularly relative to large-cap U.S. stocks. Oil and gold, in particular, have taken meaningful hits this year on oversupply combined with slowing global growth.

Of course, one could simply say that commodities have nowhere to go but down, and if deflationary concerns do not abate, that would be valid. However, if you believe that things really are turning up globally, or rather that mean reversion will assert itself, then commodities likely need to rally for stocks to be led higher by cyclical sectors, setting the stage for a broad based melt up.

Of course, for that to happen, Treasury yields likely need to rise. We all know how those macro calls on rising rates have done.




All investing involves risks.


The fund as of 11/21/2014 does not invest in any of the following investments: DBC, and DIA. Fund holdings are subject to change and are not recommendations to buy or sell any security. Current and future holdings are subject to risk.


MA(4) = 4 week moving average'




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Quote References

  • DBC
    +0.02 +0.13%
  • DIA
    -1.52 -0.56%

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