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April 2015
VantagePoint
Rick Golod for Behringer
The 22 percent increase in the
trade-weighted dollar since
last July was the sharpest run-up
in forty years.
The dollar:
Separating perception from reality.
Thesis: Following central bank monetary policy and the direction of the dollar will likely provide investors
with valuable clues on where to invest and which asset classes and sectors to overweight.
A few months ago, I made the case that the country with the most aggressive monetary policy would
likely generate the best equity returns. That is pretty much what has happened in the developed markets
since the end of the financial crisis. After previous QE cycles in the U.S. (QE1, QE2, QE3), Japan, and the
UK, their equity markets traded 20 percent higher the following year.
Rick Golod
Chief Global Strategist
The move in the dollar brings up an interesting question—Is too much a good thing or a negative for U.S.
growth and/or stock market performance? First quarter data would suggest dollar strength has been a
negative to both, economic growth and stock market performance.
This month’s commentary will address why investors should continue to follow the path of the dollar as
key drivers on where to invest, and which asset classes and sectors to overweight.
Global Economy
The U.S.—Neutral
The 22 percent increase
in the trade-weighted
dollar since last July was
the sharpest run-up in
forty years.
The 22 percent increase in the trade-weighted dollar since last July was the sharpest run-up in forty
years. In fact, there has never been a time when the U.S. dollar rose this far, this fast, without seeing
the ISM manufacturing index (52.9) heading below 50 (precursor to recession) in a matter of months.
On the surface, there is reason for concern. Year-to-date, the economy has downshifted to a lower
gear. The Chicago Fed National Activities index—the most comprehensive measure of the state of
the economy—has been in negative territory three consecutive months, which indicates an economy
growing below average.
Dollar strength acts as a hidden form of monetary tightening (equivalent to a 200-basis point run-up
in the Fed funds rate, since mid-2014). However, the negative economic impact from dollar strength is
overstated, in my opinion. Exports only represent 13 percent of GDP, which means the negative economic impact thus far is only 0.03 percent.
Since 1980, the correlation
between the direction of
the dollar and its influence
on GDP growth is a scant
0.15 percent.
Since 1980, the correlation between the direction of the dollar and its influence on GDP growth is a
scant 0.15 percent (with a one-year lag).
The economic decline in 1Q GDP growth likely had more to do with the inclement weather on the
East Coast and the dock strike on the West Coast than from the strength of the dollar.
Page 1
GLOBAL INVESTMENT INSIGHT
Presented by
April 2015
VantagePoint
The belief that small caps
outperform large cap stocks
when the dollar strengthens
is a myth.
Rick Golod for Behringer
Page 2
Investors experienced the same economic weakness last year in the first quarter followed by a powerful
economic surge in the second quarter. I suspect the same economic reversal will occur in the second
quarter of this year as well. Consider the following:
More Jobs
Payroll growth has been
above 200,000 for eleven
consecutive months,
something that hasn’t
happened since
the mid-1990s and only four
times since the 1940s.
More Money
Total wages and salaries are
up 4.5 percent over the past
year. So much for all the talk
about no wage growth.
More Disposable Income
Gas prices have declined
$1.28 from the April 2014 peak
at $3.70, which has the
potential of increasing
disposable income $192
billion or adding an additional
1 percent to GDP growth over
the next twelve months.
Investors forget the long lags between increased disposable income from lower energy prices and
increased consumer spending. Take a look at what happened in 1985–86 once energy prices stabilized,
consumer spending spiked dramatically.
The dollar should continue to strengthen, but at a slower pace considering the differential in U.S. and their
trading partners in: GDP, interest rates, and monetary policy.
News pundits have been quick to blame the lackluster year-to-date stock performance on dollar strength.
However, since 1981, the trade-weighted dollar has experienced nine strengthening and weakening
cycles. The median return for the S&P 500 index was nearly identical in both cycles.
Since 1976, the one-year
daily correlation between
the trade-weighted dollar
and the S&P 500 index
average was zero.
And since 1976, the one-year daily correlation between the trade-weighted dollar and the S&P 500
index average was zero.
Perhaps the reason for the lack of movement in the S&P 500 index is valuations. The median stock
in the S&P 500 index trades at 18.1X forward earnings, which ranks in the 99th percentile since 1976.
Since 1995, the S&P 500 index struggled when the forward PE breached above 17X, except during the
tech boom.
This is one of the key reasons I have reduced my recommended allocation from overweight to neutral
for the S&P 500 index. That said, the good news is PE multiples tend to expand when the dollar rises,
offsetting a potential decline in earnings growth.
The belief that small caps outperform large cap stocks when the dollar strengthens is a myth.
GLOBAL INVESTMENT INSIGHT
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April 2015
VantagePoint
Volatility tends to increase as
the FOMC gets closer to and
after a Fed rate hike.
Rick Golod for Behringer
Page 3
The Trade-Weighted Dollar … Does Not Influence Small Cap
Relative Outperformance Over Large Caps
-15
30
-10
20
-5
10
0
0
5
12M rolling Correlation = -0.52
1 Q% Change of
Trade-Weighted Dollar
1 Q% Change of (Russell
2000/Russell 1000)
(RH Scale)
10
-10
15
20
-20
2000
2002
2004
2006
2008
2010
2012
2014
SOURCE:
Thompson Reuters Datastream
Volatility tends to increase as the FOMC gets closer to and after a Fed rate hike (likely less than one-year
away). In such an environment, investors tend to move into larger companies with quality balance sheets.
48 percent of the Russell 1000 growth index (LCG) is comprised of technology and consumer
discretionary stocks versus 15 percent for the Russell 1000 value index (LCV). Investors should overweight
large cap growth until the 10-year treasury begins to rise, which should then benefit the financial sector
and the large cap value index (30 percent financials versus 5 percent for LCG).
Instead of focusing on the S&P 500 index, consider investing in the NASDAQ 100 (NDX). NDX is trading at
18.8X forward earnings, which is near decade lows relative to the S&P 500 at 1.1X.
Since 2000, NDX outperformed the S&P 500
index 100 percent of the
time when valuations are
at present levels.
Since 2000, NDX outperformed the S&P 500 index 100 percent of the time over the following year when
the relative PE is at or below 1.1X. The average level of out performance has been 956 basis points. NDX
earnings are expected to grow 15 percent over the next 12-months versus 5 percent expected eps growth
for the S&P 500. In the past, when the spread in earnings growth has been 10 percent or greater, NDX
outperformed the S&P 500 index 75 percent of the time.
Europe—Overweight
Europe looks very similar to where the U.S. was three years ago based upon currency tailwinds, valuations,
earnings revisions momentum, and monetary stimulus. This helps explain the MSCI-Europe index recent
outperformance relative to the U.S. equity market and that outperformance is likely to continue.
Don’t be surprised to see the euro/dollar exchange rate at parity by years’ end and 80 euros to the dollar
over the next couple of years. This should continue to provide a powerful tailwind that benefits European
equity performance.
Signs of ‘green shoots’ have begun to emerge as a result of ultra-low interest rates, cheaper energy prices,
and a weaker currency. Exports to non-Eurozone countries expanded at the fastest pace in two years in
4Q14. Retail sales in the region are growing at the fastest pace in nearly ten years. Consumer confidence
GLOBAL INVESTMENT INSIGHT
Presented by
April 2015
VantagePoint
Up to now, investing in the
Japanese equity market was/is
about a weaker currency driving
equity prices higher.
Rick Golod for Behringer
Page 4
has risen to the highest level in seven years. Money supply growth is the best in five years, which tends to
benefit GDP growth.
Negative interest rates are having a profound effect on investor behavior in pushing them into equities.
Unlike U.S. investors, European investors are still underweight equities relative to history.
The European cyclical and growth stocks look most expensive. Investors should consider adding to those
positions on pullbacks but focus on higher dividend paying/growing stocks currently, in my opinion.
It didn’t pay to fight the Fed or the BOJ, so don’t fight the ECB? Investors should be overweight European
equities, hedge the currency risk, and enjoy the ride.
Japan—Overweight
The Nikkei-225 index
has been 82 percent
correlated to the yen/
dollar exchange rate.
The case for investing in Japanese stocks is very simple. The Nikkei-225 index has been 82 percent
correlated to the yen/dollar exchange rate over the past year. There has been one moving part—the
exchange rate. Up to now, investing in the Japanese equity market was/is about a weaker currency driving
equity prices higher.
6
10
Correlation = 0.82
4
1 W % change of Japanese
Yen to US $ (WMR)(RH Scale)
5
2
0
1 W % change of NIKKEI 225
Stock Average
0
-5
-10
-2
2013
2014
-4
SOURCE:
Thompson Reuters Datastream
Now there is another factor to consider: capital inflows. Japanese pension funds have committed
billions of yen into their domestic equity markets, which will likely benefit Japanese stocks over the
next five years.
The move above 18,610 confirmed the Nikkei-225 index is in a secular bull market, in my opinion.
Investors should overweight Japanese equities and long-term investors should hedge the currency.
GLOBAL INVESTMENT INSIGHT
Presented by
April 2015
VantagePoint
Rick Golod for Behringer
Page 5
Chinese equities are too risky
for an investor, but an exciting
opportunity for traders. The
question is “which one are you?”
Emerging Markets—Underweight
From a top-down perspective, investors should underweight emerging markets. This asset class is
highly correlated to commodity prices (bear market), negatively correlated to a stronger dollar, and
negatively impacted by tighter financial conditions that are likely to occur when the Fed begins raising
the fed funds rate.
That doesn’t mean there are not trading opportunities. Case in point, China’s Shanghai stock index is
up over 20 percent in the past month on speculation the PBOC will relax monetary policy to stimulate
a slowing economy. Chinese speculators are gambling in the equity market instead of the real estate
market. Fundamentals continue to deteriorate, but this is a case where ‘bad’ news is ‘good’ news for
the equity market. In a previous commentary I mentioned the possibility of the expectation of lower
interest rates moving stock prices. With any investment it’s all about risk/reward. Chinese equities are
too risky for an investor, but an exciting opportunity for traders. The question is “which one are you?”
The Fed will likely hike the FFR over the next year. Under such a scenario, investors should focus on
countries with higher quality balance sheets within the asset class.
Fixed Income—Low Rates Dominate
80 percent of the world
has 10-year interest rates
at 2 percent or lower.
80 percent of the world has 10-year interest rates at 2 percent or lower; 90 percent of central bankers
have a zero percent rate policy.
Countries with a greater
than 2 percent interest rate.
Singapore
Iceland
Australia
Greece
New Zealand
When the Federal Open Market Committee begins to raise the fed funds rate, I see two potential
problems. First, getting a good execution price when selling fixed income. Think what happened to
fixed income pricing during the ‘taper’ rumor in 2013. Secondly, there is a good chance the proceeds
from bond sales flow into the same asset classes, inflating its values for new investors.
For investors who need income, I’m not sure the ‘go anywhere, do anything’ fixed income funds are
the best solution for income or guarding against higher interest rates. There are too few places to find
income in a 2 percent yielding sovereign debt world without taking untoward risk.
GLOBAL INVESTMENT INSIGHT
Presented by
April 2015
VantagePoint
Rick Golod for Behringer
Page 6
The dollar is likely to continue to
strengthen, but at a slower pace.
There are few income options using traditional investments for fixed income investors. Income oriented
investors might want to consider substituting interest rate risk for credit risk. One investment that provides
a competitive income stream without interest rate risk are senior secured loans, an $800 billion market
that is about 75 percent of the size of the high yield corporate bond market.
Senior secured loans pay a yield based off of LIBOR plus a spread. In most cases, as interest rates rise, the
LIBOR rate rises, providing investors with a competitive income stream throughout the interest rate cycle.
Most senior loan funds pay a distribution rate in the 5-6 percent range.
Even more exciting are those funds that invest in senior secured loans through a collateralized loan obligation (CLO) structure; which provides investors with an equity position (higher yields) while still maintaining a first lien position in the event of a default. CLOs are a sophisticated structure that are embraced
by the institutional pension and endowment community, but frightens most individual investors-fear of
the unknown. The CLO structure is an intelligent way of capturing higher income streams without interest
rate risk.
I believe more fixed income investors will need to migrate into non-traditional or specialty fixed income
investments to satisfy client’s need for income.
Final Thoughts
The move in the dollar has been unprecedented. It didn’t give companies time to hedge the currency
or move manufacturing offshore. As a result, the dollar was partially responsible for the poor economic
growth and stock market performance over the past two quarters, in my opinion. However, the worst is
probably behind us.
The dollar is likely to continue to strengthen, but at a slower pace. We know from history, dollar strength
does not tend to have much influence on the direction of the economy, the S&P 500 index, or small cap
stock outperformance. Investors should focus on the direction of the dollar and central bank monetary
policy for clues on where to invest.
Fixed income investors should begin to diversify away from traditional fixed income assets and strategies.
The risk/reward outcomes look more attractive in non-traditional or specialty investments like: senior
loans in a CLO structure.
GLOBAL INVESTMENT INSIGHT
Presented by
April 2015
VantagePoint
Rick Golod for Behringer
Page 7
Indexes
Equity Markets
U.S. Equity Indexes
1Q14
Year-to-date
1 Year
3 Years
5 Years
S&P 500
1.81
0.95
12.73
16.11
14.47
Russell 1000 Growth
1.12
3.84
16.09
16.34
15.63
Russell 1000 Value
3.02
-0.72
9.33
16.44
13.75
Russell 2000
1.12
4.32
8.21
16.27
14.57
-0.09
2.90
-3.49
3.56
2.00
1.52
2.85
-7.39
6.23
3.27
Non-US Indexes
MSCI Global Ex-US
MSCI Europe
MSCI Asia Ex-Japan
MSCI Japan
MSCI Emerging Markets
1.52
2.85
-7.39
6.23
3.27
-.635
9.47
10.26
7.39
3.84
2.33
-3.10
-9.86
-4.83
0.04
Consider other indexes and sectors as necessary.
Fixed Income
U.S. Fixed Income Indexes
1Q14
Year-to-date
1 Year
BarCap US Aggregate
1.84
1.61
5.72
BarCap US High Yield
2.98
2.52
BarCap US Treasury
1.34
1.64
CSFB Leveraged Loan
1.30
BarCap US Aggregate
BarCap US High Yield
3 Years
5 Years
3.10
4.41
2.00
7.46
8.59
5.36
2.38
4.02
2.07
2.83
5.36
5.36
3.30
-7.80
-15.47
4.30
5.49
2.40
-1.92
-3.66
-0.21
2.31
Non-U.S. Fixed Income Indexes
Consider other indexes and sectors as necessary.
Specialized
Alternative Indexes
1Q14
CS Hedge Fund Index
0.93
Year-to-date
1.87
1 Year
3 Years
5 Years
4.59
6.42
6.09
6.52
Alternative Strategies
CS Global Macro
-0.62
3.12
6.73
4.38
CS Market Neutral Equity
-0.25
-2.26
-3.75
1.59
2.23
CS Multi-strategy
1.96
1.91
5.77
8.66
8.03
CS Long/Short Equity
1.58
2.28
5.01
8.84
6.90
CS Event Driven
2.90
1.22
-0.22
7.94
5.71
Alternative Securities
CS Managed Futures IX
-4.29
4.80
27.25
4.65
5.19
CS Commodity Benchmark
4.62
-7.46
-34.56
-13.29
-5.04
NCREIF Property
2.74
11.81
11.81
11.11
12.13
Consider other indexes and sectors as necessary.
GLOBAL INVESTMENT INSIGHT
Presented by
April 2015
VantagePoint
Rick Golod for Behringer
Page 8
The opinions referenced are those of Rick Golod and are subject to change at any time due to changes
in market or economic conditions and may not necessarily come to pass. These comments are not
necessarily representative of the opinions and views of other Behringer professionals, nor any of its
affiliates and personnel. The comments are not recommendations but illustrations of broad global
market conditions. Forward-looking statements are not guarantees of future results. They involve
risks, uncertainties, assumptions and potential conflicts of interest.. Actual results may differ materially
from those expressed in these forward-looking statements and you should not place undue reliance
on any such statements. A number of important factors could cause actual results to differ materially
from the forward-looking statements contained in this presentation. Forward-looking statements in
this presentation speak only as of the date on which such statements were made, and we undertake
no obligation to update any such statements that may become untrue because of subsequent events.
These statements are not guarantees of future performance and are subject to risks, uncertainties and
other factors, some of which are beyond our control, are difficult to predict and could cause actual
results to differ materially from those expressed or forecasted in the forward-looking statements.
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