Developed Countries

With the broad market poking above the top end of its long-term trading range, investors may be on the lookout for sectors and groups that will benefit from improving market sentiment. While the financial sector has been pounded in the last few months and is due for an oversold rebound, we would prefer making more targeted purchases rather than lifting exposure to the whole sector. The consumer finance group warrants bottom fishing. Credit card interest rate spreads have widened in recent weeks, diverging massively from the overall yield curve and signaling that historically cheap relative valuations are not sustainable. Importantly, consumer income expectations have perked up on the back of labor market tightness, suggesting that revolving consumer credit will continue to grow. We reiterate our overweight stance on this group. The ticker symbols for the stocks in this index are: BLBG: S5CFIN - AXP, COF, SYF, DFS, NAVI.

In early-April we boosted our S&P cable & satellite exposure to above benchmark, as cord-cutting has been less destructive than feared and the industry continues to successfully lift subscription rates in a world plagued by deflation. Similarly, in mid-June we lifted the S&P movies & entertainment index to overweight, because value was simply too attractive to ignore amidst signs of fundamental improvement. For instance, the latest ISM services release was comfortably above the boom/bust line, signaling that services-industry demand remains upbeat. That is consistent with solid media pricing power (second panel). Entertainment admissions, cable network and cable TV pricing power are all showing solid gains. The better-than-expected June employment report should soothe any lingering concerns about the sustainability of discretionary outlays on media services, and provide confidence in the durability of pricing power gains. Consequently, good value should ultimately be realized. Bottom Line: We reiterate our recent upgrade to overweight. The ticker symbols for the stocks in this index are: BLBG: S5MOVI - DIS, TWX, FOXA, VIAB, FOX.

The breakout in the S&P 500 could boost flows to EM, and momentum could overwhelm fundamentals for several weeks. Nevertheless, U.S. interest rate expectations will rise and it, along with weak EM profits, will cap upside in EM risk assets. Take profits on our short EM stocks/long 30-year U.S. Treasurys position. Reduce short exposure to EM currencies by closing the currency trades where the long side is partially against the yen.

Special Report

Long-time subscriber Mr. X recently visited our office to discuss three issues: Brexit, the outlook for China and the seeming contraction between the performance of equity and bond markets. This <i>Special Report</i> is a transcript of our conversation and, not surprisingly, the broad conclusions supported a cautious investment strategy.

In yesterday's Cyclical Indicator Update, incorrect text was placed with the telecom services sector chart. Below is the proper analysis. The telecom CMI has made meaningful positive strides. The sector has exited deflation just as the rest of the corporate sector has been engulfed by it. Both consolidation and increased consumer and business spending have eased competitive pressures sufficiently to reduce the odds of destructive pricing strategies. As such, modest, but positive, growth in average revenue per user is a reasonable forecast. Importantly, wage inflation has rolled over, a critical step to support margins in this slow-growth sector. The sector is overbought, which suggests some tactical vulnerability, but undervaluation, low profit growth expectations, record low global bond yields and success in lifting selling prices for the first time in ages argue for holding through any near-term volatility. At the end of prolonged trends, a swing to extremely oversold or overbought conditions can often signal a major trend change has occurred. Our bias is that technical readings should not be viewed contrarily, especially within the context of the overall corporate earnings recession. Bottom Line: Stay overweight the S&P telecom services sector. The ticker symbols for the stocks in this index is: BLBG: S5TELS.

A spike in economic uncertainty explains the recent move lower in Treasury yields. Given the resilience of global growth, we expect yields to rise as uncertainty ebbs in the coming months.

Our <i>Cyclical Indicator Update</i> reveals that a defensive portfolio strategy remains the best bet to navigate the crosscurrents of stagnant profit/economic growth yet abundant global liquidity.

The blowout June nonfarm payrolls report reflects a tightening labor market, consistent with stronger ISM manufacturing and non-manufacturing readings. This will take time to impact Fed policy.

Please see attached our <i>Third Quarter Strategy Outlook<i/> which discusses the major investment themes and views we see playing out for the rest of the year.

Consumer staples stocks have been on a tear recently, climbing to all-time highs. While valuations are in overshoot territory, the conditions to sustain this overshoot exist. A flurry of intra-sector M&A activity, anemic global growth and the plunge in global bond yields all argue for a premium valuation in long duration sectors. In fact, the rising stock-to-bond ratio (top panel) coupled with the firming dollar (second panel) and resurgent volatility across asset classes (bottom panel) are a boon for non-cyclical consumer equity relative performance. Earnings expectations are not demanding, particularly relative to the overall corporate sector, underscoring that defensive staples stocks are not only well insulated from overall market turbulence, but also well positioned to thrive in a deflationary/disinflationary global backdrop. Bottom Line: Stick with a defensive portfolio tilt and continue to overweight the S&P consumer staples sector.