Be Careful During May Expiration Week

Market Summary

First-quarter earnings season is almost over and generally financial results have not been quite as dismal as anticipated for the S&P 500. But for June-quarter earnings, for every company that has given an upbeat preannouncement, 2.3 others have sounded warnings, according to Thomson Reuters I/B/E/S. That has left the S&P 500 trading at about 16.5 times expected earnings, according to Thomson Reuters I/B/E/S. "It's hard to make a case that you're going to have stellar equity market performance. In the context of low interest rates, equity valuations look about right," said Mark Heppenstall, chief investment officer at Penn Mutual Asset Management in Horsham, Pennsylvania. According to a J.P. Morgan report, bond yields’ staying low is actually now becoming the reason why stocks are struggling to perform. In other words, the same jitters about global economic slowdown that have pushed Treasury yields to multi-year lows are also preventing stocks from gaining substantial ground. In the chart below, energy shares exploded higher in the 2^nd quarter as oil and gas prices recovered from the recent bottom. The SPDR Gold Trust is by far the most popular of all ETFs in 2016, with new inflows of $7.6 billion to the $34.1 billion fund, according to FactSet.

  

The National Association of Active Investment Managers (NAAIM) Exposure Index represents the average exposure to US Equity markets reported by NAAIM members. The blue bars depict a two-week moving average of the NAAIM managers’ responses. As the name indicates, the NAAIM Exposure Index provides insight into the actual adjustments active risk managers have made to client accounts over the past two weeks. The current survey result is for the week ending 05/11/2016. First-quarter NAAIM exposure index averaged 45.89%. Last week the NAAIM exposure index was 67.66%, and the current week’s exposure is 49.55%. Recent analysis is confirmed where we said “…Portfolio managers’ will probably cash in some profits as the market is stalling which should further reduce NAAIM exposure…” As quarterly earnings season winds down money managers have become disillusioned with lackluster results and are using market up days to dump shares. 

Trading Strategy

As reported by the Stock Trader’s Almanac, trading around May option expiration is mostly a mixed bag. Only the first day of the week has a solidly bullish bias over the past 34 years. However, trading the rest of the week into Friday, and next week has historically been choppy. DJIA has been down nineteen of the last thirty-four May expiration days. This full-week has a 50/50 record over the same years. More recently, DJIA and S&P 500 have suffered declines in five of the past seven expiration weeks.Projecting that bond yields will stay low, J.P. Morgan analysts also recommended selling cyclical stocks, as their prices are affected by ups and downs in the economy. As the following chart shows, stubbornly low Treasury yields suggest sluggish economic growth, which in turn hurts cyclicals.  In the current environment it is critical to honor stop-loss plans and don’t be afraid to convert to a high cash position.

By Gregory Clay

Investment Strategist

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gregoryclay@nellaadvisors.com

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