According to updated GDP reports, the U.S. economy grew at its fastest back-to-back quarterly rate since 2003. Yet few would attribute the U.S. dollar’s surge against competing currencies to the upbeat news. Rather, the dollar’s ascent is mostly a function of declining economies in Europe and Asia. Even the most ardent optimists realize that the dollar’s strength began in July in a summertime flight to perceived safety.
Still, many can still argue that the greenback’s dominance is not entirely related to protection. Indeed, it may be part of the global carry trade – the world’s investors borrowing or shorting the euro and the yen to invest in the dollar and/or more promising assets. It follows that the dollar’s victory may be partially attributable to the protection of capital and partially attributable to other factors.
In contrast, if the U.S. economy is so strong – if there is a manufacturing or service sector renaissance occurring in America – why have the safest of the safe harbor investments, long-maturity U.S. treasuries, defied economists throughout 2014? One should be able to recall that virtually every major economist from every significant financial institution had predicted rising interest rates in the year. How is it that so many folks could be so wrong about the direction of bond yields, the flattening of the yield curve and the monstrous gains in long bonds? My year-long contrarian recommendation, Vanguard Extended Duration (EDV), is up an astonishing 34% year-to-date.
Even gold, which has been in a near death spiral since mid-July, has been a little less ugly in November. With deflationary pressures bearing down on the Eurozone, China and Japan, how might we account for the recent intrigue in the precious commodity?
It is true that the Russian central bank has been loading up on gold, physical demand in China has been on the upswing, India has been considering import curbs and Switzerland is in the process of considering a key referendum. Those may all be impacting the yellow metal favorably. At the same time, gold is an asset more typically associated with inflation, not deflation. And that may mean fears of currency debasement based on the unconventional monetary policies occurring in Europe and Japan – the kind of policies that led to gold’s 2009-2011 record push towards $2000 per ounce – are also at play.
With three key safe havens doing well – the dollar, gold and long-dated U.S treasuries – is it possible that investors have been questioning the lofty valuations of record-breaking U.S. stocks? Perhaps the risks to the aging bull have risen substantially and perhaps investors prefer hedging stock volatility differently than in the past. After all, buying volatility has been an exercise in futility for all but the high frequency trader, while shorting stocks has been equally unkind. Note: See ProShares Short S&P 500 (SH) in the chart below.
With U.S. stocks holding onto impressive long-term technical uptrends, I remain committed to owning the large-cap proxies that have served me well for quite some time. They include iShares USA Minimum Volatility (USMV), iShares S&P 100 (OEF), Vanguard High Dividend Yield (VYM) as well as SPDR Select Sector Health Care (XLV).
At the same time, I have benefited handsomely in 2014 by implementing a multi-asset approach to stock hedging. I employed many of the components of the FTSE Multi-Asset Stock Hedge Index – a benchmark that my colleague and I created for Pacific Park Financial, Inc. – to effectively incorporate non-stock assets with a history of non-correlation. Foreign sovereign bonds as well as foreign currencies can be added to gold, U.S sovereign debt, U.S. muni debt, and the greenback in the pursuit of principal preservation as well as modest total return. Indeed, the FTSE Multi-Asset Stock Hedge Index is up 4.9% in 2014.
If you are not investing directly in the index, it is sensible to equal-weight several of the key components. Consider CurrencyShares Yen Trust (FXY) for the potential that the yen carry trade could unwind. Ease into intermediate-to-long treasury bonds via iShares 10-20 Year Treasury (TLH). And don’t be afraid to acquire inflation-protected securities at a time of global deflation, as iShares TIPs Bond Fund (TIP) boasts a technical uptrend as well as non-correlation to U.S. equities.