Offense or Defense? Positioning for a Possible Recovery

Today we're kicking off a multi-week analysis of the early stages of market rebounds. One area of focus is the examination of sectors investors might want to focus on, depending on whether they're seeking to get offensive or stay defensive in the market. Thus, today we will be starting our analysis through the lens of sector performance during previous market rebounds. We'll also share a quick rundown of factor trends over the past week.

‍US Market

‍Positive news on the earnings and guidance front continued to drive the market up over the past week, although it remained relatively flat on Friday (not pictured) despite an encouraging January jobs report.

Factor Update

Here's an update on how some key factors have changed in our normalized return indicator over the past week:

• Market Sensitivity continued to see strength, flying into the rarefied heights of +3.22 standard deviations above its historical mean.
• After hovering above +2.7 SD above the mean for a few days, Volatility is slowly drifting back towards the earth.
• Profitability has finally emerged from negative normalized return territory, and now sits about flat compared to historical trend.
• Meanwhile, Momentum saw a sizable drop, and at -0.94 SD below the mean is now closing in on “Oversold” territory.

Offense or Defense? A Sector-Driven Playbook

‍In October, we discussed How to Get Defensive With Your Portfolio and specified ETFs that would help managers assume a defensive posture (namely - going underweight Beta & Volatility and holding Quality). Now we'll be starting a multi-week analysis of the early stages of market rebounds to better understand what types of factors (styles and sectors) an investor with a bullish view would consider holding.

The recent synthesis of market strength and a solid earnings picture has been supportive of a market rebound. Meanwhile, a mixed global economic picture is leaving investors in a quandary as to whether they should be confident to invest in equities across the board.

For those who think we've reached a market floor and are headed in the right direction, below are the sectors that gained and lost the most from a Momentum perspective over the early rebound rallies of 2009, 2011, and 2016.

Methodology: We leverage the information inherent in the Medium-Term momentum factor exposure which provides us with a normalized measure of each sector's performance relative to the market. A sector with a high momentum exposure is outperforming other sectors in the market and conversely a sector with a low momentum exposure is underperforming other sectors in the market. Measuring the change in the momentum exposure for each sector during the first few months of a market rebound is a type of flow of money metric.

Below we highlight the top/bottom 3 sectors on our net change in momentum exposure during the rebounds of 2009, 2011, and 2016.

Post-Global Financial Crisis: 3/1/09 - 7/1/09

Post-Sovereign Debt Crisis: 10/1/11 - 11/1/11

Post-Factormageddon 2016: 2/11/16 - 5/1/16

While the picture is not terribly clear yet, we do see one clue — the typically defensive healthcare sub-sector (Pharma) is showing strong relative underperformance in both the 2009 and 2016 rebounds. In the coming weeks, we'll be digging into other factors the drove these net momentum observations. Once we've established a set of characteristics associated with early market rebounds, we'll be highlighting the baskets/ETFs that can help us attain these sector and factor characteristics.

Regards,
Omer