Day Hagan/Ned Davis Research Smart Sector® International Strategy Update November 2023
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Day Hagan/Ned Davis Research Smart Sector® International Strategy Update November 2023 (pdf)
Catastrophic Stop Update
The NDR Catastrophic Stop Sell model combines time-tested, objective indicators designed to identify high risk periods for the equity market. The model (chart right) deteriorated from last month and entered November raising cash.
Figure 1: Smart Sector Catastrophic Stop Sell Model image.
Figure 2: Widening High Yield Option-Adjusted Spreads: Bearish for Equity Exposure
The deterioration in the model was driven by widening high-yield option-adjusted spreads, which moved bearish for equity exposure (chart left). This was confirmed by technicals—five of seven price-based measures are now bearish. For now, the weight of the evidence recommends a reduced allocation to equities according to the model.
Global Market Update
The ACWI ex. U.S. Total Return Index declined by over 410 basis points (bps) in October. The index dropped more than 300 bps for three consecutive months for the first time since the Global Financial Crisis. Among the strongest performing markets were Poland, Egypt, Hungary, Greece, Czech Republic, Portugal, and Denmark, while the largest underperformers included Turkey, Israel, UAE, Chile, Indonesia, and South Korea.
The global economy saw its momentum slow again in September, according to the S&P Global Purchasing Managers’ Index (PMI) data. The global composite (services and manufacturing) PMI fell for a fourth-straight month to its weakest reading since January. The delayed impact of tighter global monetary policy and continued price stickiness pose risks to the global outlook. Historically, slowing global economic momentum has been associated with less upside in global equities (chart bottom).
Manufacturing continues to shrink modestly, but it is showing some signs of stabilization. Both output and new orders shrank at a slower pace, while future output expectations picked up. Supplier delivery times also contracted at a slower pace, suggesting further normalization in global supply chains. But the global bullwhip slipped deeper into negative territory, as the inventories index rose faster than new orders. Despite some stabilization at the aggregate level, breadth weakened to concerning levels. The share of economies with expanding manufacturing sectors ticked down to 24% in September.
Services growth has slowed significantly compared to the first half of the year, as the post-pandemic spending rebound dissipates. New orders shrank for the first time this year, while the future output index also ticked down to its lowest level this year.
In response to the Catastrophic Stop’s sell signal, each of the sector allocations were reduced by approximately 50%, with the proceeds placed into the SPDR Bloomberg 1-3 Month T-Bill ETF (which currently has a 30-day SEC yield of 5.25%). Entering November, the non-U.S. equity Core model overweighted Australia, Japan, and France, while underweighting the U.K., Canada, and China. The Explore model favored Brazil, India, Israel, Turkey, and Taiwan.
Figure 3: Global Composite PMI (Three-Month Change) vs. MSCI ACWI
Core Allocations
Australia remains overweight this month. On a local currency basis, the MSCI Australia Index is 10% from its all-time high, as its Services PMI improved into expansionary territory (chart right). After falling short of consensus since the end of July, the Citigroup Economic Surprise Index for Australia recently moved to above expectations. Despite the economic improvement, the market continues to be undervalued. Australia’s cyclically adjusted P/E ratio remains below its long-term tendency, giving a favorable reward-to-risk ratio.
Figure 4: Australia’s Markit Services PMI Moved Into Expansionary Territory
Figure 5: DSI Japan Sentiment Starting to Reverse from Pessimistic Condition
Japan maintained its overweight allocation for November. The market has fallen toward its rising 200-day moving average, but it has not broken that support. Recent market weakness has helped to create pessimistic sentiment (chart left). Japan’s government recently announced a greater-than-$100B stimulus package, which includes temporary tax cuts and subsidies to reduce the impact of higher energy prices. Japan’s cyclically adjusted P/E ratio is almost one standard deviation below its historical norm, putting Japan in its cheapest valuation category relative to its history.
China’s allocation dropped below benchmark weighting this month. The Caixin composite PMI fell to 50.9 in September, indicating the weakest expansion in eight months, as growth in both the services and manufacturing sectors slowed. Although a stream of targeted stimulus may alleviate fears of an economic hard landing, there is little evidence of a sizable rebound. Consumer and business sentiment remains depressed, the property market is in distress, and high debt, especially at the local government level, points to little appetite for any significant fiscal and monetary stimulus. Widening high yield credit spreads reflect the increasing risks (chart right).
Figure 6: High Yield Credit Spreads Widening, Reflecting Increased Risks
Figure 7: Canadian Dollar (CAD) Currency Basket Continues to Weaken
Canada plummeted to the largest underweight allocation for November. All the price-based indicators are bearish on the market. Trend, price momentum, and breadth measures reflect a challenging operating environment. The weaker Canadian Dollar (chart left) confirms the difficulties for the region. Canada has likely slipped into recession as higher interest rates curbed retail spending and slowed the housing market.
Explore Opportunities
Among the top ranked Explore markets are Brazil, India, Israel, Turkey, and Taiwan:
India, Turkey, and Taiwan have favorable price trends as their 50-day moving averages trade above their 200-day counterparts.
India, Israel, Turkey, and Taiwan (chart bottom) are more than one standard deviation oversold, which may provide a near-term bounce opportunity.
Brazil, India, Israel, and Turkey have low market capitalization-to-GDP ratios, which typically indicates a favorable valuation.
Brazil, Israel, Turkey, and Taiwan all trade below their average cyclically adjusted price-to-earnings ratios, giving an attractive risk/return profile.
India’s composite PMI resides in the expansionary zone.
Brazil is one of the few economies with a Composite Leading Indicator in expansionary territory.
India, Turkey, and Taiwan have double-digit one-year forward earnings growth estimates.
Israel, India, and Turkey have over 80% of stocks with positive earnings revisions from analysts.
Figure 8: MSCI Taiwan Index vs. MSCI ACWI Index
Summary
The Catastrophic Stop model declined from last month and it now recommends raising cash.
Entering November, the non-U.S. equity Core model overweighted Australia, Japan, and France, while underweighting the U.K., China, and Canada. The Explore model favored Brazil, India, Israel, Turkey, and Taiwan.
The models combine macro, fundamental, technical, and sentiment indicators to determine opportunities and identify risks in an objective, weight-of-the-evidence approach.
NDR Strategists contributing to this publication: Brian Sanborn, CFA, Ed Clissold, CFA, Rob Anderson, CFA, Thanh Nguyen, CFA, Tim Hayes, CMT, Joe Kalish
For more information, please contact:
Day Hagan Asset Management
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Office Phone: (941) 330-1702
Day Hagan/Ned Davis Research
Smart Sector® International ETF
Symbol: SSXU
Strategy Description
The Smart Sector® International strategy combines three Ned Davis Research quantitative investment strategies: The Core International, Explore International, and the NDR Catastrophic Stop
The Process Is Based On The Weight Of The Evidence
Core Allocation
The fund begins by overweighting and underweighting the largest non-U.S. equity markets based on Ned Davis Research’s proprietary models.
Each of the models utilizes market-specific, weight-of-the-evidence composites of fundamental, economic, technical, and behavioral indicators to determine each area’s probability of outperforming the ACWI ex. U.S. Markets are weighted accordingly relative to benchmark weightings.
Explore Allocation
To select smaller markets, the fund uses a multi-factor technical ranking system to choose the top markets. The markets with the highest rankings split the non-Core model allocation equally.
When Market Risks Become Extraordinarily High — Reduce Your Portfolio Risk
The model remains fully invested unless the Ned Davis Research Catastrophic Sell Stop (CSS) model is triggered, whereupon the equity-invested position is trimmed to 50%.
The NDR Catastrophic Sell Stop model combines time-tested, objective indicators designed to identify periods of high risk for the global equity market. The model uses price-based, breadth, deviation from trend, fundamental, economic, interest rate, behavioral, and volatility-based indicator composites.
When Market Risks Return To Normal — Put Your Money Back To Work
When the NDR CSS model moves back to bullish levels, indicating lower risk, the strategy immediately moves back to fully invested.
Ned Davis Research Disclaimers
The data and analysis contained within are provided "as is" and without warranty of any kind, either express or implied. The information is based on data believed to be reliable, but it is not guaranteed. NDR DISCLAIMS ANY AND ALL EXPRESS OR IMPLIED WARRANTIES, INCLUDING, BUT NOT LIMITED TO, ANY WARRANTIES OF MERCHANTABILITY, SUITABILITY OR FITNESS FOR A PARTICULAR PURPOSE OR USE. All performance measures do not reflect tax consequences, execution, commissions, and other trading costs, and as such investors should consult their tax advisors before making investment decisions, as well as realize that the past performance and results of the model are not a guarantee of future results. The Smart Sector® Strategy is not intended to be the primary basis for investment decisions and the usage of the model does not address the suitability of any particular in investment for any particular investor.
Using any graph, chart, formula, model, or other device to assist in deciding which securities to trade or when to trade them presents many difficulties and their effectiveness has significant limitations, including that prior patterns may not repeat themselves continuously or on any particular occasion. In addition, market participants using such devices can impact the market in a way that changes the effectiveness of such devices. NDR believes no individual graph, chart, formula, model, or other device should be used as the sole basis for any investment decision and suggests that all market participants consider differing viewpoints and use a weight of the evidence approach that fits their investment needs.
Disclosures
Past performance does not guarantee future results. No current or prospective client should assume future performance of any specific investment or strategy will be profitable or equal to past performance levels. All investment strategies have the potential for profit or loss. Changes in investment strategies, contributions or withdrawals and economic conditions may materially alter the performance of your portfolio. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment or strategy will be suitable or profitable for a client’s portfolio. Historical performance results for investment indexes and/or categories generally do not reflect the deduction of transaction and/or custodial charges or the deduction of an investment management fee, the incurrence of which would have the effect of decreasing historical performance results. There can be no assurances that a portfolio will match or outperform any particular benchmark.
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References to “NDR” throughout refer to Ned Davis Research, Inc. Clients engaging in this strategy will be advised by Day Hagan and will not have a contractual relationship with NDR. Day Hagan purchases signals from NDR, and Day Hagan is responsible for executing transactions on behalf of its clients and has discretion in how to implement the strategy.
NDR is a registered as an investment adviser with the Securities and Exchange Commission (SEC). NDR serves as the Signal Provider in connection with this strategy. The information provided here has not been approved or verified by the SEC or by any state or other authority. Additional information about NDR also is available on the SEC's website at https://www.adviserinfo.sec.gov/. This material is provided for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security or other financial instrument or to participate in any trading strategy. NDR’s strategies, including the model discussed in this publication, are intended to be used only by sophisticated investment professionals.
There may be a potential tax implication with a rebalancing strategy. Re-balancing involves selling some positions and buying others, and this activity results in realized gains and losses for the positions that are sold. The performance calculations do not reflect the impact that paying taxes would have, and for taxable accounts, any taxable gains would reduce the performance on an after-tax basis. This reduction could be material to the overall performance of an actual trading account. NDR does not provide legal, tax or accounting advice. Please consult your tax advisor in connection with this material, before implementing such a strategy, and prior to any withdrawals that you make from your portfolio.
There is no guarantee that any investment strategy will achieve its objectives, generate dividends or avoid losses.
© 2023 Ned Davis Research, Inc. | © 2023 Day Hagan Asset Management, LLC
© Copyright Ned Davis Research, Inc. All Rights Reserved | These materials are historical and intended to be used only as examples, and do not necessarily reflect current views or advice of NDR or its representatives.
