Omega Point Blog

Offense or Defense? Positioning for a Possible Recovery

Omer Cedar

Offense or Defense? Positioning for a Possible Recovery

February 05, 2019

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.

We also recently published a joint case study with Kyle Mowery at GrizzlyRock Capital on the usage of factors in GrizzlyRock's investment workflow. We encourage you to read Kyle's thoughtful view on how to integrate a quantitative process into a fundamental strategy with time horizons of 3-5 years: “Process Improvement via Factor Awareness.




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.
Market 02012019.gif
Factor Update

Here's an update on how some key factors have changed in our normalized return indicator over the past week:
Screen Shot 2019-02-01 at 3.53.37 PM.png

Notes:

  • 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 / sectors that would help managers assume a defensive posture (namely - going underweight Beta & Volatility and holding Quality). Now we'll be starting a multi-week project where we'll review sector performance in the context of past market downturns and rallies. Our goal will be to establish the sectors you'll want to buy, depending on whether your macro outlook has you adopting an offensive or defensive mindset.

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 past three major post-downturn rallies of 2009, 2011, and 2016.

Methodology: We took a snapshot of sector exposures to the Medium-Term Momentum factor* and measured the delta from beginning to end of each market rebound. We then highlighted the Top 3 Winners and Losers from each period.

* Defined as the cumulative return over the past 12 months, excluding the most recent month.

Post-Global Financial Crisis: 3/1/09 - 7/1/09
Screen Shot 2019-02-01 at 7.24.21 PM.png

Post-Sovereign Debt Crisis: 10/1/11 - 11/1/11
Screen Shot 2019-02-01 at 7.25.50 PM.png

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

Screen Shot 2019-02-01 at 7.27.46 PM.png

In coming weeks, we'll be digging into the reasons why these sectors behaved as they did, with the potential for some factor read throughs as well. We'll also be highlighting the baskets/ETFs that can help us attain these sector and factor characteristics. Lastly, we're unveiling our new Optimizer engine and will use it to demonstrate how one can utilize our system to create a strategy for a bounce back or a defensive stance.

As always, if you'd like to see how these factors look in your portfolio, or would like to better understand how you can mitigate factor exposure, please don't hesitate to reach out.

Regards,
Omer