Morning Note: Vol Is Trying To Tell Us Something...

Asian stocks were mixed overnight; the 16 markets we track split the difference by the close, 8 green/8 red. Japan took the hardest hit on news that the longest-running prime minister in its history is stepping down for health reasons. The yen is our third-best performing core portfolio component this morning. I suspect that's not for defensive reasons (the reason we own it) but out of uncertainty, in that Abe's economic scheme was forever a resoundingly yen-weakening proposition. Europe's messy, with 15 of the 19 bourses we track in the red. The U.S. (save for the Nasdaq) is essentially flat so far this morning: Dow up 24 points (0.08%), S&P 500 flat, +0.05%, Nasdaq up 0.35%, Russell 2000 flat -0.07%.

The VIX (SP500 implied volatility) is once again going against the grain, up 7.07%. VXN (Nasdaq vol) is as well, up 5.07% as I type.

Clearly, the options market (where volatility is priced) has been trying to tell us (warn us of) something the past few days: The VIX and VXN are negatively correlated to their respective indices:

VIX

VXN

Doesn't, by the way, mean that the market's about to roll over, just means that some folks are betting that it will and/or are hedging their portfolio's against it. But why would they do such a thing against a market that's running further into all-time high territory by the day? Well, aside from the (to put it mildly) messy macro we keep harping on herein, seasonality ain't so great right here.

Plus, there's this (click to enlarge):

Yep, by this metric, Buffett's favorite, stocks are more expensive than they've ever been...

Oil futures are down 0.30%, gold's up 1.68%, silver's up 2.23%, copper futures are up 1.03% and the ag complex, in the aggregate, is down 0.21%.

The 10-year treasury is up a bit (yield down) and the dollar is getting creamed this morning, -0.74%.

Our core portfolio is starting the day nicely in the green (particularly on a relative to the stock market basis), up 0.41%: Silver, gold, the yen, emerging markets and base metals are our top 5 winners so far this morning; Verizon, healthcare, ag, financials and utilities are our only components in the red this morning.

Speaking of financials and utilities, we did a little shifting this morning. 

Here's from my notes:

8/28/2020
The Fed made a notable policy change today to allow inflation to run “hotter” going forward. I.e., no longer is it their intent to tighten policy if/when their inflation metric reaches 2%. They’re now committed to “averaging 2% inflation” over longer period of time. I.e., they’re not going to immediately tighten if/when inflation accelerates.

Yields spiked on the above news, and, therefore, financials -- which are hugely underperforming the broad market so far this year -- caught a nice bid.

While I remain very cautious on general conditions going forward, and, thus, am fully aware of loan loss risk in the banking sector, and the chances for yields to ultimately move even lower, I can see some sustainable rotation into what are considered cheap financial stocks right here.

On the other end of the interest rate risk spectrum are utilities. Thus, given my commentary above, we’re cutting our utilities exposure by 25%, taking it to a still-significant 15% of U.S. equities and adding to financials in the process; taking them to a moderate 8.5% of our U.S. equities weighting.

While this move, in a cyclical sense, could add more volatility to the portfolio, it hedges it a bit from an interest-rate-risk perspective. The resulting overall sector allocation still leans notably defensive with 50% of U.S. equity exposure concentrated in staples, utilities and healthcare.

Still looking to add a bit more materials exposure when we deem opportune…

Next up, our weekly macro update.

Have a great day!
Marty