Day Hagan Smart Sector® International Strategy Update December 2024
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Day Hagan Smart Sector® International Strategy Update December 2024 (pdf)
Catastrophic Stop Update
The Catastrophic Stop model combines time-tested, objective indicators designed to identify high-risk periods for the equity market. The model (Figure 1) held steady in November and entered December with a fully invested equity allocation recommendation. If our models shift to bearish levels (below 40% for two consecutive days), we will raise cash.
Figure 1: Catastrophic Stop Model vs. S&P 500 Total Return Index
Figure 2: The Global Purchasing Manager Index is still in expansion territory. The recent moves higher for both manufacturing and services are encouraging. It would be concerning if the Services PMI (light blue) dropped below 50, joining the weak manufacturing PMI reading.
Core: Developed Market Positions (approximately 65% of equity holdings)
Country
Australia
Canada
China
France
Germany
Japan
Switzerland
United Kingdom
Outlook
Neutral
Overweight
Overweight
Underweight
Underweight
Underweight
Neutral
Neutral
Explore: Emerging Market Positions (approximately 35% of equity holdings)
India
Taiwan
Thailand
Hong Kong
Italy
Core: Developed Market Commentary
Approximately 65% of the strategy is allocated across eight of the largest markets in the ACWI ex-U.S. Index. The fund overweights and underweights the largest non-U.S. equity markets based on macro, fundamental, behavioral, and technical indicators. Weightings are determined using the Black-Litterman framework, which seeks to reduce volatility and enhance returns.
Australia: Reserve Bank of Australia Governor Michele Bullock stated that Australia’s core inflation remains “too high” to consider interest rate cuts in the near term. She noted that policy will stay restrictive until there is greater confidence in the inflation outlook. Recent data showed Australia’s monthly CPI indicator rose 2.1% year-on-year in October, matching September’s increase but falling short of the 2.3% forecast by analysts. Investors reacted to Bullock’s hawkish stance, leading to declines in heavyweight banks. The Judo Bank Australia Manufacturing PMI showed a slight improvement, reporting 49.4 in November, up from 47.3 in October, but still indicating contraction for the 10th month. Meanwhile, the Services PMI Business Activity Index fell to 49.6 in November from 51, marking the first contraction in services activity in ten months, primarily due to a slowdown in new business growth. The composite model declined with the December update, with measures evaluating price trends and interest rate differentials turning negative. We remain neutral.
Figure 3: Australia’s Price/Cash Flow multiple is nearing the high end of its 55-year range.
Canada: The Canadian dollar has weakened, approaching its mid-2020 low of 1.41, as investors reacted to GDP data suggesting a potential 25-basis-point rate cut by the Bank of Canada (BoC) in December. The economy grew at an annualized rate of 1% in Q3 2024, down from an upwardly revised 2.2% in Q2, aligning with market expectations but missing the BoC’s 1.5% projection. Compounding concerns, U.S. President-elect Donald Trump reiterated tariff threats, including a 25% increase on Canada and Mexico, alongside a 10% hike on China, further unsettling markets due to Canada’s dependency on U.S. demand for energy and automobiles. However, stronger-than-expected inflation, reflected by the trimmed-mean core inflation rising to 2.6% in October from 2.4% in September, limited the feasibility of deeper monetary easing, even as attention focused on the BoC’s December meeting amidst these conflicting economic signals. Quantitative measures calling leading economic indicator trends, relative earnings yields, relative currency strength, and yield curve trends are positive. Price trends and momentum measures are also positive. Canada’s composite model is bullish and we remain overweight.
Figure 4: Canada’s Composite of Leading Economic Indicators continues to evidence positive relative strength vs. the rest of the world.
China: In China, industrial profits fell 4.3% year-on-year in October, a sharper decline than September’s 3.5% drop. This trend highlights ongoing challenges such as subdued demand, deflationary pressures, and persistent weaknesses in the property sector. However, Chinese equities have recently shown some resilience, fueled by expectations of additional stimulus measures from Beijing during upcoming policy meetings in December. Meanwhile, the threat of tariffs from the U.S. continues to loom large. President-elect Donald Trump has announced plans to impose a 10% tariff on all Chinese imports starting in January, accompanied by a 25% tariff on goods from Mexico and Canada. These announcements have heightened concerns about potential global trade disruptions. The composite model declined over the course of the month, with measures of momentum and relative currency trends turning negative. We are reducing exposure in response but remain overweight.
Figure 5: The one-year forward earnings growth estimate for China is +10.1%.
France: Revised data indicates that French GDP growth for Q3 fell slightly below initial estimates but showed improvement from the previous quarter. However, economic concerns are rising, exemplified by a 1.6% decline in November, marking the second consecutive month of losses. Prime Minister Michel Barnier has highlighted the need for stability as opposition to his 2025 budget mounts, with Marine Le Pen’s National Rally threatening a no-confidence motion, warning that a government collapse could destabilize markets. The HCOB France Manufacturing PMI dropped to 43.2 in November, down from 44.5 in October and below expectations, marking the 22nd consecutive month of contraction and the steepest decline since January. Manufacturers are notably struggling in the automotive, construction, and cosmetic sectors, with factory orders shrinking both domestically and internationally. Despite weak demand, input prices have sharply risen compared to the previous month, while output prices fell. In the services sector, the HCOB France Services PMI declined to 45.7 in November, from 49.2 in October, falling short of market expectations. This represents the sharpest contraction in the services sector since January, driven by political and economic uncertainty, leading to a significant decline in new orders and outstanding business volumes. The Composite model remains mixed, with measures of trend, breadth, valuation, and asset flows negative. Given the neutral Composite model and France’s struggle to stimulate its economy, we remain slightly underweight.
Figure 6: Investors continue to sell.
Germany: In November, the Eurozone’s annual inflation rate reached 2.3%, aligning with expectations; however, core inflation remained steady at 2.7%, falling short of forecasts. Services inflation eased slightly to 4.9%. This data did little to alter predictions for another ECB rate cut next month, though the potential size of the cut remains uncertain. Economic indicators for Germany showed a mixed but generally weak outlook: retail sales unexpectedly contracted by 1.5%, while import prices rose above forecasts, and unemployment increased less than anticipated. The HCOB Flash Germany Manufacturing PMI rose to 43.2 in November 2024, above October’s figure and market expectations of 43. Despite this modest improvement, the PMI still reflects a significant contraction in the sector, as companies face dwindling new orders. Although factory output decline eased for the second month, the pace remains historically notable. Many firms, particularly in the automotive industry, are implementing aggressive cost-cutting measures. Manufacturers reported sharper declines in both factory gate and purchasing prices. Conversely, the HCOB Germany Services PMI plunged to 49.4 in November 2024, down from 51.6 the previous month and below market predictions. This decline indicates a renewed contraction in the service sector for the first time in nine months, driven by weak demand, reduced new work, and subsequent staffing cuts. The composite model remains negative due to the PMI weakness, while measures of trend, valuation, and ETF outflows were also negative. We are underweight.
Figure 7: Since 2022, the percentage of positive earnings revisions for Germany is showing a series of lower highs. Just 69.1% of companies are receiving positive earnings revisions.
Japan: Investors responded to November’s data that inflation in Tokyo surpassed 2%, sparking speculation about a potential interest rate hike by the Bank of Japan next month. The markets are now assigning a 60% probability to a 25-basis point increase in December, a rise from approximately 50% the previous week. This uptick in inflation expectations has increased investors’ expectations for additional monetary tightening. However, accompanying data on industrial production, retail sales, and employment indicates a slowdown in economic activity, which adds a layer of complexity to the Bank of Japan’s decision-making process. While market participants anticipate an adjustment in interest rates, they are equally wary of the weakening indicators that could influence the central bank’s stance. Measures of breadth, trend, and momentum remain subdued. Valuations are relatively high, sentiment is pessimistic but hasn’t yet reversed, and inflation swap rates are increasing, indicating that inflationary pressures are building. The net result is an underweight allocation.
Figure 8: Short-term sentiment for Japan illustrates continuing pessimism. Until the condition reaches an extreme and reverses, it will remain on a sell signal.
Switzerland: Switzerland’s GDP increased by 0.4% in the third quarter of 2024, a slowdown from the 0.6% growth recorded in the previous quarter, which met expectations. The expansion was driven by sectors such as real estate, professional and technical services, trade (up 1.4%), public administration (0.5%), and health and social work (0.5%). However, the manufacturing sector experienced a notable decline of 1.1%. In November 2024, the KOF Economic Barometer improved to 101.8, rising from a revised 99.7 in October and exceeding the anticipated level of 100. This reflects steady economic development in Switzerland, albeit lacking momentum. All production indicators showed positive trends, including those for manufacturing, financial services, hospitality, and construction. Meanwhile, consumer demand indicators remained stable, indicating favorable conditions, though the outlook for foreign demand appeared weaker. The composite model is mixed, with measures of trend, interest rates, and ETF outflows negative. There are some green shoots, with earnings estimates improving and valuations less of a headwind. We are neutral.
Figure 9: The level of positive earnings revisions is declining.
United Kingdom: In November 2024, the Bank of England reduced its Bank Rate by 25 basis points to 4.75%, marking its second cut in four years since beginning its easing cycle in August. This decision aligned with signs of decelerating price growth, as September’s inflation dropped to a three-year low of 1.7%. Services inflation, typically stickier, fell to a two-year low of 4.9%, although it remained elevated. The S&P Global Flash UK Manufacturing PMI declined to 48.6 from October’s 49.9, signaling the first contraction in manufacturing in seven months due to weak customer demand. Companies reported delays in investments and reduced new projects amid deteriorating domestic conditions and geopolitical uncertainties. Meanwhile, the S&P Global UK Services PMI edged down to 50 in November from 52, falling short of expectations. This indicated stable business activity levels after two months of decline. Despite early month lows, the British pound gained ground, nearing $1.26, as investors weighed the ramifications of a potential second Donald Trump presidency, which included threats of increased tariffs on China, Mexico, and Canada. Disappointing UK economic data, including a 0.7% fall in retail sales in October and underwhelming PMIs, raised expectations for further Bank of England rate cuts. The annual inflation rate rose to 2.3% in October, up from 1.7% in September, exceeding the BoE’s target and analyst forecasts. Most analysts anticipate steady borrowing costs in December. The Composite model remains neutral, however measures of valuations, sentiment, and narrowing credit spreads are supportive.
Figure 10: Shorter-term sentiment measures are neutral. A move below the lower bracket followed by a reversal back above would be bullish.
Emerging Market Positions
Approximately 35% of the strategy is allocated across five markets from a pool of more than 20 smaller markets. Selection is based on a multifactor technical ranking system using trend and mean reversion indicators.
Current Holdings:
India
Taiwan
Thailand
Hong Kong
Italy
Explore: Emerging Market Commentary
Each of the five emerging markets are supported by favorable price trends, with 50-day moving averages trading above the 200-day moving averages. All are supported by rising 200-day moving averages. We note that 96.8% of ACWI regions are supported by rising 200-day moving averages.
Expected one-year earnings growth: India (+14.1%), Taiwan (+19.8%), Thailand (+12.2%), Hong Kong (+8.9%), and Italy (+3.7%). (All data based on MSCI constituent holdings.)
Forward P/Es are as follows: India (22.7x), Taiwan (16.4x), Thailand (15.9x), Hong Kong (12.2x), and Italy (9.0x).
All five countries are supported by increasing forward earnings estimates.
Four of the five countries have low market capitalization-to-GDP ratios (below 1.0), typically indicating a favorable valuation. Taiwan is more expensive at 1.85x.
All five countries’ equity markets are significantly oversold on a short-term (21-day) basis. Such oversold conditions may provide a near-term bounce opportunity.
Regarding the additions of Hong Kong and Italy to the portfolio, below are the most recent central bank actions for each country:
Hong Kong: On November 8, the Hong Kong Monetary Authority (HKMA) lowered its base rate by 25 basis points to 5.0%, shortly after the U.S. Federal Reserve made a similar cut following a 50-basis point reduction in September. This move aligns Hong Kong’s monetary policy with that of the U.S., as the local currency is pegged to the U.S. dollar. The recent decrease in borrowing costs marks the lowest level since February 2023, offering some relief to consumers and businesses that have to contend with elevated interest rates for an extended period. This situation has significantly impacted Hong Kong’s housing market and overall economy. In the third quarter of 2024, the city’s GDP recorded a growth of 1.8% year-over-year, which is the slowest growth rate seen in five quarters, primarily due to declining private consumption and a slowdown in exports. The government’s forecast for economic expansion this year was set between 2.5% and 3.5%.
Italy: In November 2024, Italy’s annual inflation rate increased to 1.4%, up from 0.9% the previous month, marking the highest level in a year but in line with market forecasts. This surge stemmed from the normalization of base effects linked to the 2022 energy crisis, though it remained below the Eurozone average. Meanwhile, UniCredit’s €10 billion unsolicited offer for Banco BPM sparked volatility in the banking sector, as Banco BPM rejected the bid over valuation and strategic concerns. The Italian government, which supports a merger between Banco BPM and Monte dei Paschi di Siena to bolster the banking system, considered countermeasures against UniCredit but ultimately ruled out an emergency decree. On November 29, a general strike involving thousands of Italian workers, including educators and healthcare staff, highlighted growing dissatisfaction with low wages, diminishing purchasing power, and perceived threats to public services. This is viewed as a short-term event.
This strategy utilizes measures of price, valuation, economic trends, monetary liquidity, and market sentiment to make objective, unemotional, rational decisions about how much capital to place at risk and where to place that capital.
For more information, please contact us at:
Day Hagan Asset Management
1000 S. Tamiami Trl
Sarasota, FL 34236
Toll Free: (800) 594-7930
Office Phone: (941) 330-1702
Website: https://dayhagan.com or https://dhfunds.com
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Smart Sector® International ETF
Symbol: SSXU
Strategy Description
The Smart Sector® International strategy combines three quantitative investment strategies: Core International, Explore International, and 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 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, for example. 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 Catastrophic model is triggered, whereupon the equity-invested position may be trimmed by up to 50%.
The Catastrophic Stop model combines time-tested, objective indicators designed to identify periods of high risk for the broad U.S. 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 Catastrophic Stop model moves back to bullish levels, indicating lower risk, the strategy will reverse toward being fully invested.
Disclosures
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. Day Hagan 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 Fixed Income vestment 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. Day Hagan 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.
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.
Day Hagan Asset Management is registered as an investment adviser with the United States Securities and Exchange Commission. SEC registration does not constitute an endorsement of the firm by the Commission nor does it indicate that the adviser has attained a particular level of skill or ability.
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. Day Hagan 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.
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