We’re in between earnings seasons, so analysts and investors are focusing much more on the macroeconomic environment, and with enough concern to cause a big of a dip on Thursday, which was bought Friday morning. Next week, there are a few macroeconomic and geopolitical issues that investors will continue to focus on, and which will undoubtedly influence investor behavior:
1. Ukraine and Russia. This has been a headline risk factor, with the growing tension in eastern Europe hitting Russian stocks. The Direxion Inverse Russia ETF (RUSS) has more than doubled YTD on the tensions, which remain unresolved. Ukraine has been a headline excuse for some sell-offs in the last two weeks, but the concerns are more short lived, coming and going in waves that have increased volatility while ensuring horizontal price action. Which brings us to the second major macro theme . . .
2. Volatility. The VIX notoriously reverts to the mean, but its mean has not continued to fall in 2014 as it did in 2013, when shorting the VIX was an easy path to great wealth. At the beginning of 2013, the 30-day SMA for the VIX was in the mid 16s, but fell to the mid 14s by the end of the year. While timing this kind of trade is extremely difficult, shorting the VIX on nearly any spike with a one month or longer time horizon was a winner. In 2014, however, the 30-day SMA has been very slowly rising, and is currently at 14.3 while the VIX itself has exceeded 16. It has closed below 14 only twice since the end of January.
3. Treasury yields. The wisdom of 2013 was that bond yields would rise as the taper began, so investors anticipated a rising yield curve by making the curve yield through a broad bond sell-off, much to the consternation of Bill Gross and Pimco. However, bond rates have fallen since the beginning of 2014 and the beginning of the taper. After flirting with 3%, 10-year Treasuries have fallen to 2.65%. Investors are now worried about deflation or disinflation more than they worry about hyperinflation, which is making bonds more attractive and has caused bond funds to outperform the market. TLT is up 6% so far for 2014, after investors confidently proclaimed the bond bull run over just six months ago.
4. Emerging markets. As with Russia, concerns about political unrest and inflation in the BRICs has been a cause for concern, which has caused emerging market stocks to fall. EEM is down over 8% YTD and investors remain worried that emerging markets will see a flight of capital as yields improve in the developed world. Yet those improving yields are not happening, at least not in U.S. Treasuries, which is leaving many investors struggling to figure out where the capital is flowing.
5. Dividends, defensive stocks, and small-caps. So far, dividend stocks have not done well and the Dow Jones itself (DIA) is underperforming both the S&P 500 and small caps by a very large margin. If volatility is set to increase, bond yields fall on greater fears of economic troubles, and emerging markets are seen as untenable for yield, these dividend and defensive stocks should see some capital flow their way as a way to get a better risk-adjusted return. Yet we are not seeing that. Dividend stocks (SDY) are flat for the year, again falling behind small caps (IWM) and growth stocks more generally (VUG, SCHG, IJT).
These themes will continue to face more scrutiny in the coming weeks, since 2014 has yet to develop much of a theme beyond horizontal price action and mini-corrections. That is a frustrating situation for bulls and bears, and even options sellers cannot benefit, as volatility rises. If nothing else, 2014 is proving to be the year that proves making easy money in the market has become a thing of the past, and professional money management is more important than ever.