New Year Consensus Trades

While the new year begins for most of financial market players this week, Wall Street has been looking forward to 2017 trades since late November, when many investors starting penning their year ahead outlook reports. Indeed, financial markets are always forward looking, so really there is nothing new here, one could argue.

Nevertheless, the start of a new year does encompass some very real behaviors, some of which are listed below

• Tax loss selling finished at the end of the year. Investors need to wait 30 days to buy back “substantially identical” securities (which is easily surmountable with ETF’s these days) to ensure “wash sales” tax treatments are not enforced. Along with this are notable seasonality trends in January, especially for small caps. 
• Pension Funds and large allocators usually do substantial re balancing around month and quarter end.
• Financial market employees who are compensated not only with a salary but also a bonus, often see their performance period reset to the calendar year. So a new year brings a clean slate.
• I am sure there are others I have missed and encourage readers to post in the comments section.

The point about the new year is that your author (part of Team MM 2.0, more below) has learned the hard way that consensus new year trades are tricky beasts. Anyone who has been around financial markets long enough realizes there is a delicate balanced needed between following consensus ideas and having your own contrarian notions. Wall Street loves to sell consensus, and the “wisdom of the crowd” is a powerful concept, which the entire notion of market prices and the invisible hand of Adam Smith are based on.  However recent advances in behavioral finance, along with many clearly defined examples, point to evidence that markets are not 100% efficient.

Since the New Year presents a fertile ground for “consensus” trades I thought it would be interesting exercise to examine what is implied/appears to be the consensus trades for 2017. Not all consensus trades end up being wrong but they do seem to provide fertile ground for good contrarian trades, especially when they start to reverse.

US Equities

After a year which started with Energy and Financials as the two

worst performing sectors, 2016, ended with the two outperforming by over 10% vs the index, a massive out performance. Indeed the trade of the year can be easily summarized with the S&P 500 High Beta and Low Volatility Indexes. See for yourself below (click for larger image, my apologies)

For 2017, it appears that the high beta/cyclicality chase is still on, led by a strong belief in the Donald. Indeed AAII sentiment index is near the highs of the past few years. 

Currencies

As this isn’t your authors expertise, I would simply point to the charts below. Buy the USD and Sell EUR seem to be the consensus trades again.

and not to cherry pick on the Euro/Dollar exchange rate, we can look at the EURO index, which is based on 50% non USD currencies 

Interest Rates

While the 30 year down trend in interest rates looks far from broken, given the number of recent commentators chiming in on the end of the bond bull market, it would appear the consensus is for higher rates in 2017, at least in the US

Oil & Commodities

Given the recent out performance of almost anything commodity related (except Gold) and especially Oil’s >100% rise from the Feb/March low it would be hard to say that expectations are for anything but higher prices. Indeed looking at the CFTC positioning data we come to the same conclusion.

High Yield

While this is your author's favorite subject, gauging consensus is a bit harder. A quick and dirty way your author has used over the past few years, given the increasing use of ETFs, is to look at the shares outstanding and market cap of the two biggest ETFs in the space, HYG & JNK. Below is chart of their combined market cap. Given the chart and my reading from popular commentary I would say the outlook is relatively bullish as well.

So the question is, which one of these consensus trades will be right and which one will be horribly wrong? Your author thinks the headlong rush into beta has the potential to seriously upset many players in the year ahead and expects that as economic surprises start to tail off along with easy earnings comps in Q2, the market may once again pull the plug on the consensus sunbathers. While on the flip side, consensus US Dollar strength may be a good trade. 

Please note this is the first post from Team MM 2.0. While living up to the standards of MM or TMM will be a tough job, we hope to provide thoughtful posts and keep this blog alive and thriving. We are still working out the scheduling and writing assignments so bear with us as we might take a few weeks to get into a routine.