Is the Past Month Just a Counter-Trend Rally or a Start of a New Trend?
by Eric Bush, Gavekal Capital
Regular readers know that we like to use a factor scoring model to help us understand which factors have been the most important to equity returns (in this case we are talking about developed market equities). Over the past year out of 30 different factors ranging from valuations to macro correlations, only two have a R-squared value over 0.90. Those two factors are beta (0.94) and correlation to TIPS yields (0.90). Put another way, the lower the beta a stock has the better it has performed over the past year. Additionally, the lower the correlation to TIPS yields the better the stock has performed. What is striking is that the two factors with the highest R-squared value over the past month are also beta (0.87) and correlation to TIPS yields (0.91). However, what is outperforming has completely flipped. Over the past month, high beta stocks have outperformed low beta stocks and stocks with high correlations to TIPS yields have outperformed those with lower correlations. In other words, the worst performing stocks over the past year are now the best performing stocks over the past month. So is this the start of a new trend where high beta and inflation sensitive stocks lead the market? Or is this just a counter-trend rally and we should expect the relationships that have been in place over the past year to resume soon? For now, the probability that this is just a counter-trend rally seems greater than the probability that this is the start of a new trend in our opinion.
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