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Markets in Motion - Don’t Just Do Something, Stand There!

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Don’t Just Do Something, Stand There!

2018-3-chart-1Having to implement little or no change in our portfolios after a Monthly Portfolio Meeting is almost always a good thing. It means the data and macro inputs we review didn’t change much over the past month and that our positioning is consistent within our risk and return parameters. We believe we have the proper asset allocation relative to equities, fixed income and commodities and are exposed optimally to sectors, regions and currencies. In no way are we complacent—we are watching a couple positions intently for signs that the underlying thesis on them has changed. From a behavioral finance perspective, “doing something” without the proper data and conversely, not being adaptive to changes in information, are both common mistakes investors make. From a sector perspective, if we are correct that we are heading into the late innings of a long credit expansion, energy and financials, which represent the majority of our US sector exposure, will surely benefit.

Which leads us to an inquiry that really matters—the timing and cause(s) of the next global recession. Two credit factors—withdrawal of central bank liquidity and an inverted yield curve—have been present in virtually every economic reversal since the 1940’s. The US Federal Reserve is ahead of the rest of the developed world in liquidity withdrawal, although the ECB just announced its plans to end all its supportive measures as well. And rates? Well, they are still very low on the short end, but the US curve has become much flatter. And since global expansions can exist in a flat-curve environment, the question is how much further will central bankers push on rates? It is possible that the threat of trade wars, economic fallout from BREXIT, and still low global growth (compared to previous expansions) will dissuade central bankers from aggressive yield-shifting policies. And the real possibility exists that amazing advances in technology (AI, robotics, driverless cars) will create jobs volatility for industrial and service wage-earners—what is the central bank or fiscal response to a fundamental structural change like that?

2018-3-chart-2We are positioned in our Global Tactical portfolios to capture the upside of the later innings of a long-running global credit expansion. And we are constantly looking for evidence that will cause us to reposition away from our more aggressive positions. Global Tactical Allocation is not just the ability to “go anywhere,” it’s being able to pivot when the facts change.

We hold a small tactical cash position in our GTC and GTA portfolios. While we remain constructive on equities, a better entry point may present itself in the near future.

2018-3-chart-3

  • 2018-3-chart-4We are avoiding foreign currency fixed income to benefit from higher US dollar interest rates. We expect spreads between US dollar and foreign currency interest rates to narrow, and therefore will benefit by concentrating all of our fixed income exposure in US dollar-denominated holdings.
  • We are avoiding long duration fixed income in our portfolios. Interest rates may continue to rise as economic growth remains strong, inflation reemerges, and global central banks step away from the “extraordinary measures” they employed during the financial crisis.
  • We have exposure to four US equity sectors: financials, technology, energy, and aerospace & defense. Financials benefit directly from a higher interest rate environment in the US, as well as a more favorable tax and regulatory environment. The pace of disruption of old industries by new products and processes has continued to accelerate, and technology gives us exposure to this process of creative destruction. Strong economic growth will support global energy markets, and inflation may reemerge in 2018, which will support the energy sector. Global military spending will increase in coming years, as US hegemony fades and a multi-polar world emerges—the aerospace and defense industry will be a beneficiary.
  • We have exposure to hedged-currency Eurozone equities. A German “grand coalition” government has been agreed to, which brings much needed stability to the region. We have hedged our exposure to the Euro in order to benefit from a stronger US dollar.
  • We have exposure to both large- and small-cap Japanese equities. They are supported by favorable valuations, accelerating economic and earnings growth, the Bank of Japan’s ongoing aggressive monetary easing, and global money managers’ underweight exposure. We have not hedged any of our Yen exposure.
  • We have significant exposure to emerging market equities, which benefit from positive capital inflows and represent attractive relative value. We expect global capital flows to remain supportive and emerging market equities to continue to “catch up” after years of underperformance. Asia, in particular, represents an excellent opportunity.
  • We hold a position in global agriculture equities. Increasing inflationary pressures and underweight investor positioning should support the industry in 2018.
  • We hold positions in broad commodities and gold. We expect inflation to rise in 2018, which will support commodity markets.

2018-3-chart-5Recent GTA Portfolio Changes

• At its February meeting, our Portfolio Committee determined that conditions had not changed sufficiently enough to warrant any portfolio changes.

GTA Portfolio Changes - Since 11/30/20171

Profligate corporate borrowing has been a hallmark of the current credit cycle, particularly in the US where corporate leverage is quite extended. As a result, lower quality corporate credit may be among the first assets to come under pressure at the end of the current cycle. We have therefore reduced our exposure to US high yield credit.

In the two months following the German federal election in September, which yielded a disappointing result, we exited our two European equity positions. Reforms to promote growth and stability in Europe are more difficult to achieve without a strong German government, and European equities lagged the rest of the world in the months after. We have initiated a new position in currency-hedged European equities following the agreement between Angela Merkel’s CDU and the center-left SPD parties to form a coalition government.

Accelerating economic growth and reduced slack in the global economy may propel inflation higher in 2018. We have therefore increased our exposure to assets that benefit from higher inflation. Positions in gold, broad commodities, global agriculture equities, and the US energy sector all help protect the portfolio from a rising inflation environment.
Please do not hesitate to contact us with any questions!

Best regards,

John A. Forlines III

Chief Investment Officer
Investment Committee Member

W.E. Donoghue Team

Global Tactical Allocation Strategies
Investment Management


1Information as of 3/15/2018. Individual account allocations may differ slightly from model allocations.
2Some Emerging Markets allocation overlaps with regional allocations.
3Excludes GTA’s 18% alternative, and cash, and cash equivalent positions.
4Contains international exposure
5Gross of Fees

Past performance is no guarantee of future results. The material contained herein as well as any attachments is not an offer or solicitation for the purchase or sale of any financial instrument. It is presented only to provide information on investment strategies, opportunities and, on occasion, summary reviews on various portfolio performances. Returns can vary dramatically in separately managed accounts as such factors as point of entry, style range and varying execution costs at different broker/dealers can play a role. The material contains the current opinions of the author, which are subject to change without notice. Statements concerning financial market trends are based on current market conditions, which will fluctuate. References to specific securities and issuers are for illustrative purposes only and are not intended to be, and should not be interpreted as recommendations to purchase or sell such securities. Forecasts are inherently limited and should not be relied upon as an indicator of future results. There is no guarantee that these investment strategies will work under all market conditions, and each advisor should evaluate their ability to invest client funds for the long-term, especially during periods of downturn in the market. Some products/services may not be offered at certain broker/dealer firms.

The investment descriptions and other information contained in this Markets in Motion are based on data calculated by W.E. Donoghue & Co., LLC (W.E. Donoghue) and other sources including Morningstar Direct. This summary does not constitute an offer to sell or a solicitation of an offer to buy any securities and may not be relied upon in connection with any offer or sale of securities. This report should be read in conjunction with W.E. Donoghue’s Form ADV Part 2A and Client Service Agreement, all of which should be requested and carefully reviewed prior to investing.

The Global Tactical Allocation Composite (“Composite”) was created on 1/1/2004. The Global Tactical Conservative Composite (“Composite”) was created on 1/1/2004. The Global Tactical Income Composite (“Composite”) was created on 9/1/2012. The Global Tactical Growth Composite (“Composite”) was created on 2/1/2015. From 01/01/2004 to present, John Forlines III, Chief Investment Officer of W.E. Donoghue (the “CIO”), and Robert Shea, President of W.E. Donoghue (the “President”) were primarily responsible for the management of the representative JAForlines Global (JFG) composites while the CIO and President were principles at JAForlines LLC. W.E. Donoghue acquired 100% of the assets of JFG on December 29, 2017.

Composite returns are calculated gross of investment management fees, net of investment trading expenses and underlying fund costs but do not reflect the effect of income taxes on the investment returns. Actual performance results will be reduced by fees including, but not limited to, investment management fees and other costs such as custodial, reporting, evaluation and advisory services. Performance reflects the reinvestment of dividends, income and capital appreciation. Composite returns are calculated monthly, which are described in greater detail in the firm’s Form ADV Part 2A, using the time-weighted total rate of return methodology. Monthly returns are geometrically linked to calculate quarterly and annual returns. As fees are deducted quarterly, the compounding effect will be to increase or decrease their impact by an amount directly related to gross portfolio performance, and dependent on direction, magnitude, and order of returns. For example, on a portfolio with a 2% annual fee, if gross performance is 10%, and performance is equally distributed across all four quarters, the compounding effect of the fees will result in net annual performance of 7.81%. Performance presented prior to June 1, 2009 was generated while affiliated with a prior firm. The investment decision-making process has remained intact and has been applied consistently since inception. The calculation methodologies have been consistent over time. No leverage, derivatives, or shorts are used. Past performance is not indicative of future results.

There can be no assurance that the purchase of the securities in this portfolio will be profitable, either individually or in the aggregate, or that such purchases will be more profitable than alternative investments. Investment in any Global Tactical Portfolio, or any other investment or investment strategy involves risk, including the loss of principal; and there is no guarantee that investment in W.E. Donoghue’s Portfolios, or any other investment strategy will be profitable for a client’s or prospective client’s portfolio. Investments in W.E. Donoghue’s Portfolios, or any other investment or investment strategy, are not deposits of a bank, savings and loan or credit union; are not issued by, guaranteed by, or obligations of a bank, savings and loan, or credit union; and are not insured or guaranteed by the FDIC, SIPC, NCUSIF or any other agency. The composite strategy provides diversified exposure to various asset classes such as equities, fixed income, and alternatives utilizing liquid exchange traded products. Diversification does not guarantee a profit or protect against a loss.

The Blended Benchmark Growth is a benchmark comprised of 65% MSCI ACWI, 25% Citi World Government Bond Index, & 10% S&P GSCI, rebalanced monthly. The MSCI ACWI Index is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed and emerging markets. The Citi Government Bond Index (WGBI) measures the performance of fixed-rate, local currency, investment-grade sovereign bonds. The S&P GSCI® is a composite index of commodity sector returns representing an unleveraged, long-only investment in commodity futures that is broadly diversified across the spectrum of commodities. The returns are calculated on a fully collateralized basis with full reinvestment. The Blended Benchmark Growth returns do not include fees or expenses that are associated with managed accounts. You cannot invest directly into an index. A more detailed description of the benchmark's constituents is available upon request.

The Blended Benchmark Moderate is a benchmark comprised of 50% MSCI ACWI, 40% Citi World Government Bond Index, & 10% S&P GSCI, rebalanced monthly. The MSCI ACWI Index is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed and emerging markets. The Citi Government Bond Index (WGBI) measures the performance of fixed-rate, local currency, investment-grade sovereign bonds. The S&P GSCI® is a composite index of commodity sector returns representing an unleveraged, long-only investment in commodity futures that is broadly diversified across the spectrum of commodities. The returns are calculated on a fully collateralized basis with full reinvestment. The Blended Benchmark Moderate returns do not include fees or expenses that are associated with managed accounts. You cannot invest directly into an index. A more detailed description of the benchmarks constituents is available upon request.

The Blended Benchmark Conservative is a benchmark comprised of 35% MSCI ACWI, 55% Citi World Government Bond Index, & 10% S&P GSCI, rebalanced monthly. The MSCI ACWI Index is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed and emerging markets. The Citi Government Bond Index (WGBI) measures the performance of fixed-rate, local currency, investment-grade sovereign bonds. The S&P GSCI® is a composite index of commodity sector returns representing an unleveraged, long-only investment in commodity futures that is broadly diversified across the spectrum of commodities. The returns are calculated on a fully collateralized basis with full reinvestment. The Blended Benchmark Moderate returns do not include fees or expenses that are associated with managed accounts. You cannot invest directly into an index. A more detailed description of the benchmarks constituents is available upon request.

The Blended Benchmark Income is a benchmark comprised of 90% Bloomberg Barclays Global Aggregate Bond Index, & 10% MSCI ACWI, rebalanced monthly. The Bloomberg Barclays Global Aggregate Index is a flagship measure of global investment grade debt from twenty-four local currency markets. This multi-currency benchmark includes treasury, government-related, corporate and securitized fixed-rate bonds from both developed and emerging markets issuers. There are four regional aggregate benchmarks that largely comprise the Global Aggregate Index: the US Aggregate (USD300mn), the Pan-European Aggregate, the Asian-Pacific Aggregate, and the Canadian Aggregate Indices. The Global Aggregate Index also includes Eurodollar, Euro-Yen, and 144A Index-eligible securities, and debt from five local currency markets not tracked by the regional aggregate benchmarks (CLP, MXN, ZAR, ILS and TRY). A component of the Multiverse Index, the Global Aggregate Index was created in 2000, with index history backfilled to January 1, 1990. The MSCI ACWI Index is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed and emerging markets. The Blended Benchmark Income returns do not include fees or expenses that are associated with managed accounts. You cannot invest directly into an index. A more detailed description of the benchmark's constituents is available upon request.
The information contained in this presentation related to JAForlines represents the strategies and performance achieved prior to the acquisition.

W.E. Donoghue & Co., LLC is a registered investment advisor with United States Securities and Exchange Commission in accordance with the Investment Advisors Act of 1940.

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JAForlines has been acquired by and operates through W.E. Donoghue & Co., LLC.
W.E. Donoghue is a registered investment adviser with United States Securities and Exchange Commission in accordance with the Investment Advisers Act of 1940.

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W.E. Donoghue & Co., LLC
Tel: (516) 609-3370
Email: info@donoghue.com