A note to clients. We often hear concern from clients during uneven markets in the fall, and the phones have been a little busier since late August. That is normal for the season. It is also exactly why we encourage you to watch this week’s webcast in full: it walks through what has changed, what has not, and how the portfolios are positioned for a bumpy stretch.
Heading into the first Fed rate hike, the big picture has not changed. The S&P is off 1.4% in September but still riding a rising 200 week moving average at the top of a 14 year channel, and the equal weight index is down about 5% from its August 13 high, typical for mid September.
The trouble sits in the crowded momentum trade. The NASDAQ 100 breached point and figure support near 28,800, MTUM is down about 19% top to bottom, and questions about the pace of AI adoption hang over the highest multiple names.
Bonds keep failing as the alternative. The TLT is down 58% since March 2020, the rolling 10 year return on the US 10 year bond sits at minus 1.85% on data back to 1793, and LQD is down 25% since 2021, while a proposed $1.3 trillion in $5,000 helicopter cheques lands on top of $41 trillion of debt.
So the money is going to hard assets and cash generators. The USCI is up 22% since July 1, commodities have beaten bonds for six years, and Morgan Stanley finds family offices of $2 to $6 billion still hold less than 1% in commodities. International equities rank first among asset classes, with Japan up 67% August to August and emerging markets up 32% from February.
Energy is the standout, and Amit Joshi joined to explain why. The attack on Saudi Arabia’s East-West pipeline, with the Strait of Hormuz effectively closed and the Houthis controlling the Bab el-Mandeb Strait, has shut a line with roughly 5 million barrels a day of effective capacity for weeks to months.
The cash flow math follows. WTI is over $100 on the short end while the 2027 strip sits near $70, the level baked into analyst price decks, and diesel crack spreads are at all-time highs, feeding record refining margins at the integrateds. A $10 move in WTI lifts cash flows at the large caps by 15 to 20%, free cash flow yields run 8 to 22% at $80 to $90 oil, and most producers have committed 50 to 100% of free cash flow to buybacks and dividend growth while holding production growth to 5 to 12%. The XEG closed at a new all-time high, and energy has historically tripled its share of the S&P in cycles like this.
Across the book: financials remain the largest weight, materials up 6.4 points in a month, energy at 16%, tech at 9%, cash at 8.6%, Goldman Sachs exited, industrials trimmed, healthcare and genomics added, and stops on every position into a bumpy fall.
Key takeaways:
A typical September, not a change in trend. The S&P is off 1.4% in September at the top of a 14 year channel, the equal weight index is down about 5% from its August 13 high, and client calls always pick up at this time of year. The top-down picture has not changed, and history helps: since 1946, the 12 months following a midterm election were positive every time, averaging just over 20%.
Positioning: overweight financials, materials, energy and international, 8.6% cash. Materials weight rose 6.4 points in a month, energy sits at 16%, tech at 9% is the biggest underweight. Goldman Sachs was exited, industrials trimmed on AI infrastructure weakness, and healthcare added around genomics. Breadth is roughly 50/50, so few new positions, tighter stops, and stops on every position.
Energy is the standout: XEG at an all-time high. The East-West pipeline attack takes millions of barrels a day offline for weeks to months. WTI is over $100 while analyst decks still price $70, diesel crack spreads are at all-time highs, and a $10 WTI move lifts large cap cash flows 15 to 20%. Producers are returning 50 to 100% of free cash flow while growing production only 5 to 12%. Energy went from 4% to 17% of the S&P in the mid-2000s cycle.
Hard assets and cash generators lead. The USCI is up 22% since July 1, commodities have outperformed bonds for six years, and Morgan Stanley finds $2 to $6 billion family offices hold under 1% in commodities. The PWV basket of dividend growers has raised payouts over 20% a year. We want companies with no debt, excess cash, and rising shareholder returns.
Bonds keep failing as a safe asset. The TLT is down 58% since March 2020, LQD is down 25% since 2021, and the rolling 10 year return on the US 10 year bond is minus 1.85% on data back to 1793, before inflation. With $5,000 helicopter cheques proposed on top of $41 trillion of debt, we continue to avoid the asset class.
The first rate hike comes Wednesday. Expect less guidance under Kevin Warsh than under the prior chair. No hike likely means trouble for the bond market; a hike raises borrowing costs and pressures rate sensitive groups. Gold typically puts in a near-term low around a first rate hike, and central banks remain the biggest buyers.
