Mark Boucher's Top 10 Themes For 2004
Friday January 9, 3:58 pm ET
By Mark Boucher
TradingMarkets.com
Looking on a top-down macro basis, the major theme of 1982-1999 was disinflation and the revaluation of global equities. The main theme of 2002-2002 was adeflation scare and a, popping of the bubble in equities created by this secular move and too loose monetary policy. In 2003, the main theme was REFLATION and the successful turnaround of global economies from the brink of global deflation.
F or 2004 and 2005, a transition from REFLATION to INFLATION appears likely. The bulk of monetary and fiscal policy stimulus has had its impact on financial markets in 2003, with the desired effect. Global growth is turning around. We expect this trend to continue, absent major shocks like a la,rge terrorist event, a major earthquake, an oil shock, or global war. But earnings and corporate profitability, along with employment growth, will have to ta ke over the burden of producing gains in global stock markets in 2004.
While we still expect the global economy to surprise on the upside, earnings growth has probably already peaked. We look toward US earnings growth of around 12%. With valuations still at the high end of normal, this means a lon,g-only stock approach is not likely to prove nearly as pro fitable in 2004 as it was in 2003. Gains of 8%-15% may be possible, but it is likely to be a much rockier road, and the distinct possibility exists of tops being made in 2004 or 2005 once inflationary pressures become more obvious.
We suspect strongly that investors will have to be much more flexible and opportunistic in their investing approach in, 2004 than in 2003, to produce decent gains. Sector rotation will be key, as will be risk reduction.
Major themes that we believe investors should emphasize UNTIL POLICY MUST CLEARLY TIGHTEN, appear as follows:
1. RE FLATION - a debt collapse is not likely, absent a s,hock, at least until it is clear that policy must tighten. At that point, watch closely for potential derivative disasters surfacing and for how sensitive markets are to tightening. It is not yet clear whether some benign tightening can develop or whether markets will move sharply lower immediately upon sensing that tightening is inevitable. Our bias is that this cycle will be slow to catch and that markets will be able to absorb tightening, initially.
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2. Housing remains strong. Until and unless markets strongly react to initial tightening, we suspect that housing will hold up much better than most investors are anticipating. There is very little indication of a housing bubble despite popular media representations of such. Housing has not had the runup in price to historically stretched valuations that is a common characteristic of every bubble in history.
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3.Investors should watch "canaries in the coal mine" to determine that the reflation theme is being unwound. Risks include: continued falling money growth, widening credit spreads, bank failures, plummeting bank shares, evidence of capital flight, a bond market collapse, a dollar collapse, and sharply lower global stock prices.
4. Our favorite developed countries are: Japan (,particularly small cap), Spain, and Germany. The EU is surviving a higher currency much more benignly than many have thought possible because global demand growth is out-powering the negative impact on the Euro. EU countries will not exper ience market share growth, but will still experience rising export demand.
5. Our favorite Emerging Market countries are: China, Latin America, Russia, India, Asian commodity exporters.
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6. Emerging markets still have better value and better growth prospects than the developed markets and look likely to outperf orm for as long as the upcycle continues. Beware though, because they will underperform on the downside as well.
7. Early 2004 is likely to see late cyclical outperformance. Favored themes are base metals, materials, indus,trials, resources, energy, natural gas, gold.
8.Small-cap value is still our favorite segment of the markets globally - but use funds or iShares so you can get out of this thin segment quickly. While small cap outperformance should slow as all of the valuation gap has been closed, outperformance should continue in the growing growth environment ahead.
9. T,he dollar should continue soft in 2004, though it could experi ence a sharp rally at any time.
10.The commodity currencies should lead, just as they did in 2003, but the euro will have to correct for the Asian currencies' lack of adjustment. The lagging commodity currencies should shine in 2004, like the CLP, ARS, RUB, and IDR. China and Asia will not effectively revalue substantially until inflation becomes a problem for China - and, this is not likely until mid 2004 to 2005 at the earliest, and perhaps much later. Watch Chinese inflation gauges like a hawk.
We will update investors as our list of top themes changes, but investors need to stay closely aligned to rapid shifts in 2004 much m ore than in 2003. We wish all investors a ve,ry prosperous year in 2004.
Our US long/short model is doing reasonable well considering the low level of allocation it has had. We have long encouraged investors to supplement this strategy with or favorite foreign and global asset plays. Investors should continue to cautiously add stock exposure as trade signals are gen erated that meet our strict criteria, as well as allocate to our favorite segments. Our model p,ortfolio followed in TradingMarkets.com with specific entry/exit/ops levels from 1999 through May of 2003 was up 41% in 1999, 82% in 2000, 16.5% in 2001, 7.58% in 2002, and we stopped specific recommendations up around 5% in May 2003 (strict following of our US only methodologies should have had portfolios up 17% for the year 2003) - all on worst drawdown o f under 7%. This did not include our foreign stock recommendations that had spectacular performance this year.
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This week in our Top RS/EPS New Highs list published on TradingMarkets.com, we had readings of 51, 91, 82, and 62, accompanied by 29 breakouts of 4+ week ranges, with no valid trades and close calls in PTNR and GALN. Internal strength has come back SOME, but still remains slightly suspicious. Position in valid 4 week trading range breakouts on, stocks meeting our criteria or in close calls that are in clearly leading industries, in a diversified fashion. This week, our bottom RS/EPS New Lows remained non-existent with readings of 0, 2, 1, and 0, with no breakdowns of 4+ w eek ranges, no valid trades and no close calls.
For those not familiar with our long/short strategies, we suggest you review my book, "The Hedge Fund Edge," my course "The, Science of Trading," my video seminar, where I discuss many new techniques, and my latest educational product, the interactive training module. Basically, we have rigorous crite ria for potential long stocks that we call "up-fuel," as well as rigorous criteria for potential short stocks that we call "down-fuel." Each day we review the list of new highs on our "Top RS and EPS New High List" published on TradingMarkets.com for breakouts of four-week or longer flags, or of valid cup-and-handles of more than four weeks,. Buy trades are taken only on valid breakouts of stocks that also meet our up-fuel criteria.
Shorts are similarly taken only in stocks meeting our down-fuel criteria that have valid breakdowns of four-plus-week flags or cup and handles on the downside. In the U.S. market, continue to only buy or short stocks in leading or lagging industries according to our group and sub-group new high and low lists. We continue to buy new long signals and sell shor,t new short signals until our portfolio is 100% l ong and 100% short (less aggressive investors stop at 50% long and 50% short). In early March of 2000, we took half-profits on nearly all positions and lightened up considerably as a sea change in the new-economy/old-economy theme appeared to be upon us. We've been effectively defensive ever since.
On the long side, we like the close calls from this week, (NasdaqN,M:PTNR - News) and (NasdaqNM:GALN - News), the two valid trades from past weeks, (NasdaqNM:PETD - News) and (NasdaqNM:RADN - News), and recent close calls from past weeks, (NYSE:JCC - News), (NasdaqNM:NIHD - News), (NasdaqNM:FDRY - News), and (NYSE:FCX - News), as well as in our favorite global sectors. On the short side, we like the close call from several weeks ago, (NasdaqNM:TRMS - News). We also like broad metal stocks, like FCX, small-cap Emerging Markets in general, metals and resources, India, ,broad Latin America, Russia, and broad Asia. But use tight stops in all of these plays as the upside party is well established and a bit overdone.
Mark Boucher
P.S. You can find more analysis from me at www.tradingmarkets.com.
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