March Madness or What?

In 2013, all major US Indexes made good upwardly strides. There were few downturns but none of any significant magnitude. Sooner or later there was bound to be a bigger one. It started in the New Year.

The January decline was bigger than any pullback in 2013. For S&P 500, it was -4.3% from the high to low and -3.7% on monthly close basis. Still, it was not enough to break the uptrend – at least not yet. The month of February has seen the major indexes striving to recover the lost ground. Not all of them have convincingly broken above the previous high and they also haven’t broken down below December’s low. S&P500 and Russell 2000 are hovering above the high. Dow Jones Industrial and Dow Jones Transportation are below their high – so according to Dow Theory, the uptrend has not resumed. NASDAQ Composite stayed above previous high in the second half of February. This means though we can say that the trend has not yet broken, we can’t be too gung-ho on the uptrend as couple of indicators remain to confirm.

This puts March in an interesting situation. Will the Ides of March drama occur or will it stick to the recent familiar script? The recent script says that since May 2012 there has not been a losing streak of more than one month – except for Dow, which had one two month losing streak. February made sure that this trend continues. Another trend is that the shortest winning streak for S&P 500 is one month, which occurred only once when July 2013 was the positive month between the declining months of June and August. We have yet to see whether March 2014 joins this short list.

Yes, There is a method to March’s Madness.

The third month of the year has traditionally been an average month for investors. Since, 1970, it has seen a 64% chance of being an up month compared to February for the S&P 500, 66% for the Dow Industrial Averages, 63% for the NASDAQ Composite and 69% for the Russell 2000.

Since 2000, for the month of March:

  • The S&P has, on average, returned +1.7%. This number rises to +3.9% when March ends as an up month, which happened 64% of times (9 out of 14 years). The average return for a down March is –2.2%.
  • The Dow has seen an average return of +0.3% for all years and +2.5% when March is an up month, which occurred 57% of times (8 out of 14 years). The Dow had an average loss of –2.8% in a down month.
  • The average return numbers for NASDAQ are –0.2% for all years and +2.5% for an up March, which occurred 64% of times (9 out of 14 years). Since the overall average is negative, it is not surprising that NASDAQ fell by an average of –5.1% for a losing month.
  • The average return for Russell 2000 are +1.1% for all years and +3.3% for an up March, which occurred 71% of times (10 out of 14 years). The small cap index had an average decline of –2.2% for a down month.

Digging further we find that since 2000

  • For the S&P 500, March has been up 57% of times when February was an up month too. March was up 4 times out of 7 years when February was a positive month. The average return for such a combination of an up-March and an up-February is +3.3%.
  • For the Dow Industrial, March has been up 63% of times when February was an up month too. (5 times out of 8 positive February). The Dow returned an average of +2.2% for such a month.
  • The NASDAQ has the best March amongst major US indexes. It was positive 71% times following a positive February – 5 times in 7 years. The average return is +2.7% when NASDAQ was positive in March following a positive February.
  • The Russell 2000 performed similar to Dow with 57% chance of a positive month – 4 times in 7 years – and an average return of +2.7% in a positive March.

Later in the newsletter we explain how this analysis could be used to increase the probability of profiting from successful investment decision.

Note: You can find more such statistics on our website.



The US has witnessed anemic real GDP growth in the 2% range for the past few years. Most of the developed economies are not doing any better. However, cyclical risks are pointing towards better than trend growth for 2014-25. Many market analysts and economists are forecasting that the US growth will be in the vicinity of 3%. The first half growth would be tepid but would pick up in the second half.

The real US GDP growth is grew at a slower pace – 2.4% actual versus initial estimate of 3.2% – in the fourth quarter of 2013. Economists are blaming disappointing weather-affected retail sales, inventory adjustments and a less robust trade balance. This is substantially lower than 4.1% growth achieved in the third quarter. With this slow down, the US economy grew by an average annual rate of more than 3.2% in the two quarter of second half, up from 1.75% pace in the first half.

The unemployment rate is steadily falling from the high of 10.2% reached in Oct 2009 to the four-year low of 6.6% in January 2014. Nevertheless, this is above the level that the FOMC considers as maximum sustainable employment. The long-term unemployment figures remain troubling.

The Non-Farm Payroll data for January was lower than the consensus but the unemployment rate reduced to 6.6%. The December and January jobs creation was below what policy makers were anticipating though the weather took the blame.

ISM Manufacturing PMI came worse than expected though it was above 50, indicating expansion. The ISM non-manufacturing PMI was better than forecast at 54, higher than last month. The Chicago PMI was better than estimates and higher than last month.

The retail sales figures were not good – lower than estimates. The University of Michigan Consumer Sentiment was higher but the Conference Board Consumer Confidence was lower.

The household and business spending growth stepped up in the second half of last year. The fiscal constraint experienced in early 2013 also abated in second half. The rising home value and equity prices led to greater consumer confidence. The mortgage rates increased moderately slowing the housing sector.

The housing was mixed. The new home sales were better but existing home sales were weaker than expected. Pending home sales climbed up by 0.1% month-over-month but were down 9.1% year-over-year in January. The mortgage origination slowed down and the weather was a too. The bottom line is that the housing market seems to losing some momentum.

The inflation remains tame and below target rate for several major economies. The deflationary pressures still persist in the developed world and even though the reflationary monetary policies are countering them, the threat of inflation has not become real nor is there any sign of it happening in the near future.

Bottom Line: The US economy is chugging along at a very slow pace. There aren’t any dark clouds over the horizon but the sky is also not free of cloud neither is it very sunny.


In her semi-annual monetary policy report to the Congress, Chairwoman Janet Yellen emphasized that she expects a great deal of continuity in FOMC’s approach to monetary policy. In the aftermath of the global financial crisis, the Federal Reserve embarked on a series of un-conventional policy actions which culminated in the QE3 – the asset purchase program that began in September 2012 consisting of monthly buying of $45 billion of longer-term Treasury securities and $40 billion of agency mortgage-backed securities. In December 2013, FOMC reduced each of these purchases by $5 billion respectively and made a cut of similar magnitude in January. The tapering will continue – in measured steps as she said – unless the economic reports show a worsening of situation.

Our reading of Chairwoman Yellen is that her decision will be primarily driven by the economic data, which broadly supports FOMC’s expectation of improvement in labor market conditions and inflation moving back towards its longer-run objective. The unemployment rate is above 6.5% threshold, though only barely, the inflation is projected to be no more than a half percentage point above Fed’s 2 percent longer-run goal, and longer-term inflation expectations remain well anchored.

However, Fed will continue with its highly accommodative policy. We expect that the current low range of federal funds rate will stay that way for a long time as the Chairwoman said, “it will likely be maintained even when the unemployment rate dips below 6.5%, especially if the projected inflation continues to run below the 2% goal”. There isn’t any indication from the data that the inflation will spike up in the near future.

There are seven more FOMC meetings scheduled for the rest of 2014. Based upon the ‘measured steps’ pace, we expect the bong buying program to complete by the year-end if not by fall. This does not mean that the Fed is going to start shrinking it balance sheet any time soon rather it will just increase at a slower pace.

Whether the ECB will add additional stimulus in the next Thursday’s meeting is not clear though a case can be made for either cases – more stimulus or staying pat. February CPI was stronger than expected but it is still below 2% threshold and the deflationary pressures do exist. In our opinion ECB has acted late and less aggressively to add stimulus to Euro area economy and we believe that it will not change soon and that it will err towards caution. This has been positive for Euro versus dollar and will remain so. Euro will continue to get the tailwind and maintain the slow, grinding up trend that began in July 2012 with modest pullbacks.

There is not much to indicate that Bank of England will change its stance dramatically in March. The British economic reports were generally supportive of stronger pound as compared to dollar and it will continue for some more time.

Since the Bank of Japan embarked on Abenomics, yen has depreciated more that 35% against the dollar. But now, yen seems to be running out of steam and Nikkei 225 closed more than 11% below its 2013 high in February. Her growth seems to be stalling and consumer confidence is falling. As a Japanese central banker said, BoJ needs to try harder to convince the public and markets that it can spur faster price increases and reach the goal of 2% inflation. So the chances of BoJ embracing more easing policies than tightening are higher. The upward trend of Nikkei 225 has not broken, though it is not anywhere close to resuming the trend too. Yen/dollar foreign exchange pair is in similar situation.

Bottom Line: The monetary policy will be favorable to the equity markets and will be reflationary though the inflation will remain subdued.


The corporate earnings are doing pretty fine. Approximately 96% of S&P 500 companies and 100% of Dow Jones Industrial Averages have so far reported earnings. According to FactSet, 71% of them have reported earnings above mean estimates and 63% have reported sales above mean estimates.

The S&P 500 estimates for 2014 EPS growth in 8-9% range. The earnings growth rate for Q4 is 8.5% over the same period last year. This is revised up from December 31, when the earnings growth rate was estimated to be 6.3%. Eight of ten sectors have higher earnings growth rates than December 31.

The current 12-month forward P/E ratio is 15.3, which above 5-year average of 13.1 and 10 average of 13.9. But this is not uniform for all sectors – consumer discretionary has highest PE and financials lowest.

The M&A deal making is doing well too with volume increasing by 11% in 2013 compared to 2012. So far in 2014, the trend has been promising. Favorable credit markets and lending environments with historically low-interest rates are enabling higher leverage deals. Increased corporate cash, equity capital reserves and stock prices are also positive factors for active M&A market. The exit-ready companies held by private equity firms is providing good inventory. The activist investors like Carl Icahn and flexing their muscle, which is good for the market. The M&A activities haven’t reached a frothy level but will continue to fuel the upward trajectory of equity market.

Bottom Line: The fundamental picture is also favorable as the earnings do not suggest that the stocks are too expensive, nor are they cheap.

Psychological And Market Sentiments:

The year started with high bullish sentiments and belief that the rally will continue. This was also accompanied by expectations for falling bond prices and rising rates. January dashed those hopes tempering bullish sentiments. Then, just as the January Barometer’s gloom was about to descend on the market, market’s performance in February cleared the sky and the month ended with bullish feelings. This is also reflected by the activities if retail investors, who stayed out of market for a long time after the crash of 2008. The daily average revenue trades (DARTs) at E*TRADE are at the highest level since May 2010 – a 61% rise from mid-2012 levels.

The AIIA Sentiment survey of members is 39.7% bullish, 21.1% bearish and 39.2% neutral reading for the last week of February. The long-term averages are 39.0%, 30.5%, and 30.5% respectively. Anyway you read it – as a contrarian indicator or not – the survey does not indicate any extreme measures.

Bottom Line: The market sentiments are guarded with a bias towards bullishness.


The major indexes are still showing an upward bias. NASDAQ composite was the first to break above the highs of January. It is at a 14-year high level. S&P500 and Russell 2000 closed February at all-time high. Dow Jones Industrials and Transportation have not regained of 2013. However, all major indexes are stretched and are in over bought territory.

technical_pictureThe daily chart shows that the 9-Period RSI is getting to the overbought region above 70. It is also showing a slight divergence from the high reached in December 2013 for S&P 500 and NASDAQ – the RSI was higher in December but the price is higher now for these two but the RSI. Mind you, the RSI divergence has happened before too – in October – when the S&P 500 declined by -1.6% in eight days. So the overbought reading is no big deal.

The weekly charts also show RSI either in overbought region or knocking on the door. It is showing divergence for all too. A similar divergence in the weekly charts in August led to a decline of -4.8% in 28 days for S&P 500. Not a ringing endorsement of an impending correction.

Bottom Line: The upward run of the US major indexes is not over yet, however, the move up will be more laborious so one should tread carefully.

Developed Economies Are In Uptrend

By and large, the developed economies are doing better in the current environment compared with emerging markets. Most of the Western European ETFs are on an uptrend since June last year – when the Federal Reserve hinted that it may be tapering the QE3.

devel_econdevel_econ_2Bottom Line: Money is flowing into developed economies, perhaps due to the Fed tapering and due to improved economic conditions. There is nothing to indicate that this will end soon. Western Europe is showing greater profit potential at the moment than emerging markets.

Emerging Markets Continue To Sink And Are Going Nowhere

Emerging markets have been hit hard by the Fed tapering of QE3 and concerns about the US economic stimulus. However, the weaker than expected economic data and Chairwoman Yellen’s testimony subdued those apprehensions and the emerging-market equities rose to the biggest monthly gain since October 2013. The MSCI Emerging Markets Index rose 3.3% in February.

Not all markets advanced equally. Off the country specific traded ETF in the US exchanges, Poland, Indonesia and Egypt had double-digit rise in February. Chile, South Africa and Thailand followed them with more than 5% increase. Russia and Mexico were the two major emerging markets that declined.

Despite, a favorable February most of emerging markets are not showing any convincing sign of breaking out. Most of them are doing very badly since October-November 2013.

EEM and BRIC ETFs did well from June to October but since then they are trending down. Others like Chile, Peru, Russia, Mexico, Brazil, South Africa, Indonesia, Thailand, Turkey and Malaysia are struggling to get off the bottom. If they are forming a bottoming pattern then there is still no sign that those patterns are anywhere near completion.

Some of these are resource producing countries and global deflationary pressures are keeping prices of resources like iron ore, copper etc. down. Many are impacted by high internal inflation and stress on local currencies due to taper-induced foreign money flight. Their Central Banks do not have much leeway to defend currencies without sacrificing growth. This reflected in the lousy performance of their markets and ETFs.



Indian and Chinese ETFs are doing relatively better but not by much. Since 2012, Indian Nifty-Fifty Index is on an upward trend but the corresponding ETF, EPI, is not following it closely. The Nifty-Fifty stock index knocking on the all-time high for the third time since 2008 but EPI is almost 37% below its high. Nifty-Fifty is again making a run towards the high. A break above it has only blue sky in front. But EPI is not reflecting it.

fxi_epi_140304Poland and Egypt are doing better. Since June last year, Egypt has been on a tear but Poland saw a 10% plus correction from November to January but is again coming up. These two are smaller economies but do show potential.

Emerging markets are also witnessing foreign money out flow as ANZ Bank found out using EPFR reports. The EPFR funds flow data indicates that the week ending in February 26th saw an outflow of $1.77 billion out of emerging market equities, compared to $809 million outflow week before. The outflow from bond funds was approximated to be $323 million. S&P500 and Stoxx 600 index are dominant recipients with $7.5 billion going to US equities and $3.1 billion going to European equities.

Bottom Line: The emerging markets will remain tethered to the major central banks’ policies for some time. Reflationary policies will aid resource countries. Monetary tightening or tapering will hinder them. By and large staying away from them, unless more clarity emerges, is prudent.


Ukraine Churns, Will Markets Follow?

The middle of February saw the culmination of protest movement that was going on in Ukraine since late last year. After the peace treaty between the protestors and the Yanukovych government was brokered by EU countries, the authority of the pro-Russian President suddenly collapsed and his government was replaced by the parliament with his opponents. He was declared a fugitive from justice thus displeasing the Russians even more. Now the Crimean Peninsula is witnessing an upheaval against the new government in Kiev.

The Ukrainian economy is small – only $176 billion – but the real tension is between Russia on one side and EU & US on the other side. If this global power spat snowballs into something bigger, then it will impact the global market.

As of writing this letter, Russia has effectively gained control of Russian ethnic dominated Crimea. The Ukrainian government is mobilizing reserves and Western powers are meeting but they don’t seem to have many options. During another standoff, though smaller than this, in 2006 and 2009, Russia used gas supplies to Ukraine as a weapon. At that time 90% of Russian gas export to EU was flowing through Ukraine. This created problems for EU and Russia too as she could not punish Ukraine without riling up the EU even though she believed that EU was behind Ukraine’s belligerence against her. This time, approximately 66% of Russian gas to EU flows through Ukraine. This gives Russia greater leeway.

The tumult has worsened Ukraine’s already precarious fiscal situation. The country is broke and the current financial support deal offered by Russia – a $15 billion bond-buying arrangement – is probably over, as the Russians have already halted it. So far, a deal to replace it has not been announced. Though a bailout deal from EU, IMF and the US is highly likely, the terms remain uncertain. The acting Ukrainian government says it needs $35 billion in assistance, which 20% of country’ GDP.

Russia is intricately involved with Ukraine through trade, proximity, strategic importance and ethnicity. In 2012, Ukraine sent 25.7% of its export to Russia and 24.9% to EU. Ukraine is also heavily dependent upon her bigger neighbor for gas and oil supplies. With Yanukovych government, Russia had signed an accord for 30% cut in gas prices but whether that accord will survive the change in regime is not clear.

On the other hand, Russia has significant – $28 billion – exposure to Ukraine, which is considerable for the smaller country but only 12% of Russian banks’ market share. European banks have approximately $23 billion in outstanding loans to Ukraine.

Russia has Black Sea Fleet base in Crimea and considers many others interests in Ukraine. All told, she has very realistic capabilities of sabotaging any economic, financial and political settlements in Ukraine. EU and USA are also determined to get Ukraine out of Russian sphere and into EU folds.

The fault lines within Ukraine are between pro-EU Western half and pro-Russian Eastern half. The prospects of country’s bifurcation are real and though there are some dangers to global markets, the economic contagion from it may not extend too far.

Cyprus Reemerges, Will It Impact Euro?

Cypriot law makers have rejected a privatization plan which puts the next tranche of aid in doubt. Whether this will reignite the Euro Zone turmoil that the island nation started a little over a year ago remains to be seen. Cyprus has been off the radar screen for some time and chances of it taking the center stage are small but the risk that it poses may become real if another crisis emerges from a bigger Euro country.

Unease In Venezuela May Discomfort Crude

The chaos in Ukraine has overshadowed the political unrest going on Venezuela, but it has a greater potential on global market due to the fact that Venezuela is a major oil producer and exporter. The country possesses the largest proven reserves in the western hemisphere at 211.2 billion barrels. Petroleos de Venezuela (PdVSA) is the state-run oil and natural gas company, which held 17.9% of global reserves in 2011 but only 3.5% of global production.

At present, the protests are not affecting the oil output or refining as they are concentrated in cities away from production centers. But they may disrupt supplies as happened during the strikes organized by opposition against Chavez government in 2002-03. Then the protests started in April 2002 and Chavez was briefly deposed. Later in December 2002, the opposition organized a two-month strike at PdVSA to force Chavez to hold an early election.

During 2002-2003 unrest, NYMEX Crude Oil futures rose 36.7% from the March 2002 close of 26.46 to Jan 2003 close of 33.51. Dangers of similar magnitude exist if the current unrest becomes significant.

PdVSA is constrained as new investments are hard to come by due to potential investors’ lack of trust in government’s policies and intentions. If the current government is overthrown and replaced by pro-western people then the country may see reforms leading the fresh foreign investments. Such a scenario will put a downward pressure of oil and energy prices.

Bottom Line: Some of these geo-political events have become significant because the major markets are extended. They have potential to act as strong catalyst for a correction that many market participants are either clamoring for or are scared off.

Seasonality Trader Portfolio

The market’s performance during March has been a decent. Usually, major indexes strengthen up to mid-month. In the second half of the month, end-of-quarter portfolio restructuring hits depressing the market. The month also has few tradable seasonality trending opportunities lasting from few days to many days.

Select Sector SPDR ETFs

One major components of Cerebral Works’ Seasonality Trader strategy is the of Select Sector SPDR sub-portfolio. These nine select sectors show distinct seasonality trend that could be traded with high profit potential.

Using our proprietary entry and exit methodology, these ETFs have returned +125% since the year 2000 compared to +23% for S&P 500. Sub-portfolio’s return is 49% better than the buying-&-holding the ETFs and 458% better that buying-&-holding S&P 500. The risk adjusted annualized return is 71% better than the buy-&-hold annualized return.

During this period, the sub-portfolio has produced 120 trades with 75% winning ratio and +6.3% average return. The average hold time for a trade has been 192 calendar days – minimum of 63 and maximum of 278. Thus the average trade has been exposed to the market risk only half the number of days.

Presently, there are six open positions – XLY, XLB, XLP, XLI, XLF and XLE. The average open gain is +7.1%.

Exit Month
XLY 28-Aug-13 57.76 66.84 15.7% May
XLB 8-Oct-13 41.36 47.08 13.8% May
XLP 24-Oct-13 41.92 42.35 1.0% May
XLI 24-Oct-13 48.51 52.06 7.3% May
XLF 22-Nov-13 21.49 21.70 1.0% May
XLE 24-Jan-14 84.33 87.65 3.9% Aug

The potential trades for March are XLV (Healthcare SPDR) and XLK (Technology SPDR). When these trades are triggered we will send an alert.



Wishing you a very profitable trading month!!!

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