The stock market works like a Biblical story, but in reverse: First it loses its strength, THEN it takes a haircut.
We’ve seen sign of (relative) strength dissipation for several months. And If you have been reading our commentary on a monthly basis, you would know that we have been wary of this market for some time. Accordingly, in our Global Macro Fund, we are only 14% in equities, 24% in investment grade bonds, and 60% cash.
It’s not that we have a crystal ball and can foresee the events that conspire to bring the market down. It’s just that as markets become frothier they tend to become more sensitive to the type of news that would be shrugged off when the market are in a clear uptrend. Thus, for well over a year the markets have taken in stride the ever increasing likelihood of a hike in short term rates, and higher rates to not bode well for either stocks or short term fixed income instruments.
As of midday Monday, the Dow Jones industrial Average has lost about 6% in the last four trading sessions, but that number was closer to 12% earlier in the day, a dip that brought us into the official definition of a correction. While we can’t speak to any degree of confidence where stock prices go from here, we note that a 1,000 point swing in each direction in one trading day is indicative of a market that itself can’t decide where it wants to be, and that uncertainty does nothing to ameliorate the risk that we’ve been perceiving all along.
Needless to say, our high cash position will have helped the risk-adjusted return of the Redwood Global Macro Class fund as well as the other accounts we manage, but more importantly it allows us to buy good stocks that have fallen too far too fast, should we decide the time to be propitious. We know that September has historically been the worse time to be in equities, but whether or not that is expected to hold true this year would depend largely on what transpires during the last week of August.