Seasons, Sentiment, and Election Cycles

12/04/2013 10:00 am EST

Focus: STRATEGIES

Market timing expert Sy Harding looks at seasonal patterns and the role of the four-year election cycle on the market. Here's the latest market assessment from the editor of Street Smart Report.

Steve Halpern: We're here today with market timing expert, Sy Harding, Editor of Street Smart Report. How are you doing, Sy?

Sy Harding: Well, I'm doing just fine, Steve. How are you?

Steve Halpern: Very good. Thank you for joining us. Despite the market being at all-time highs, you have some shorter-term worries that you talked with your readers about. Part of that concern is based on sentiment. Can you explain?

Sy Harding: Yeah. According to the Investment Company Institute and others, after being mauled by the 2008/2009 bear market, investors pulled money out of the market in each of the first three years of the bull market that began in 2009.

But last year, seeing how much they had missed out on, they began pouring money back in and have been doing so at a near record pace this year, with their optimism and confidence now at levels usually seen at market tops.

For instance, Vanguard reported last week that investors now have 57% allocation to stocks—a level that was only surpassed twice in the last 20 years—in the bubble-pop near 2000, and again in 2007. We can also see the level of optimism in the high margin debt now currently at near record levels.

Steve Halpern: You've also expressed concerns over the eventual Fed tapering, as well as some concern for guarding the potential for deflation. What do you expect on that front?

Sy Harding: Well, I expect the Fed is going to be forced to postpone tapering back at stimulus until next spring. I think that the continuing mix of disappointing economic reports are going to weigh on that decision, and concerns about how Congress will handle its next chance to reach budget agreements before the next deadlines in January and February, and by the latest concerns about the lack of inflation.

The Fed would like to see some inflation to help support the recovery, and expected the easy money policies to achieve that; but instead, inflation is declining so quickly this year, that concerns about a possible deflationary environment are coming into the picture.

Both the CPI and PPI are down quite sharply this year and only running at something less than 1%. The Fed's target is 2%. So, the Fed is probably concerned about tapering back stimulus because it would likely exacerbate that deflationary environment also. I think for those reasons, they will postpone until next March.

Steve Halpern: Now, as an expert in market cycles, you pointed to the history of the second year of a presidential cycle and that's the second year out of the four-year cycle. What are the implications that you draw from that historic pattern?

Sy Harding: Well, I think the market has a very long history of usually experiencing a significant correction in the first two years of each presidential term. It doesn't happen all the time, but it happens so consistently that there are even very successful market timing strategies based on it.

The market didn't have a correction this year and that raises the odds that it will have a significant correction next year. There are reasons to believe that will happen. Historically, this bull market has lasted longer than most, and there is the high level of investor enthusiasm usually seen at market tops.

I think another telling indication is that, as the top becomes nearer, corporations become concerned that a serious market top may be approaching and they try to get as much additional money as possible from investors, while investors are still confidently buying.

There's usually a sizeable increase in the number of initial public offerings, or IPOs, of stock in previously private companies and start-ups, as well as secondary offerings of additional stock by established public companies.

So far this year, there has been $51 billion of new IPOs, the most since $63 billion in the same period at the market top in 2000, when that market bubble was beginning to burst, and there has been $155 billion in secondary offerings, so far, this year—more than near, either the 2000, or 2007 tops.

So, it looks to me like the four-year presidential cycle is going to play out and have a significant correction this time in the second year.

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Steve Halpern: Now, in your newsletter you maintain two distinct portfolios—one is based on seasonal timing and that portfolio is fully invested, while the other portfolio is based on market timing and in that portfolio, you've taken a more cautious approach.

Could you briefly explain the difference between these two portfolios?

Sy Harding: Well, a seasonal portfolio gets its risk management by only being in the market four to seven months each year and being in the market during its favorable season in the winter months. It is a little more aggressive when it is on a buy signal, which it is now, and is 100% invested.

The non-seasonal market timing portfolio gets its risk management through technical timing and with technical indicators and so forth. Right now, it's on a buy signal intermediate term and we expect the market will remain strong until next spring.

However, we do have expectation for a short-term market top and a pullback of 5% to 8%. We're being very cautious at the moment with our investments and it's only 40% invested.

Steve Halpern: Would you be kind enough to highlight some of the investment positions that you are holding in that portfolio for investors who are looking for where to place their money?

Sy Harding: Well, we are very bullish on the Dow for the winter season. We are invested in the SPDR DJIA index ETF, symbol (DIA).

And we're invested in another position in the Vanguard Emerging Market ETF. We like emerging markets right now simply because, when buying into the American market, we're buying near what we think is, at least, a short-term high, whereas emerging markets have already had a bit of a pullback. Anyway, the Vanguard Emerging Market ETF and that's the symbol (VWO).

Steve Halpern: Well, thank you for sharing your thoughts today. We appreciate your joining us.

Sy Harding: Well, it's been a pleasure. Thank you very much, Steve.

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