Valens Market Phase Cycle Monitor & Corporate Credit Macro View for February 2017

August 4, 2017

Market Phase Cycle™ Investing Strategy

All signs still point to longer-term fundamental tailwinds, but near-term volatility

Fundamental and management sentiment factors continue to point to a positive trend in underlying corporate profitability and growth, justifying current premium valuations. However, investor sentiment indicators remain overly effusive, creating reason for concern about increased volatility with any potential bad news.

Given fundamental and sentiment factors, investors should be cautious. But a lack of negative credit signals mean investors shouldn’t be overly bearish, as downside risk is likely limited.

Investors remain bullish – increasing risk of a correction

All short-term and medium-term sentiment indicators, including investor equity allocation, short interest, and correlation, have extended to very bullish levels, signaling that investors are not focused on risks. Also, with investor credit balances recently elevated relative to recent history, near-term buying powder also appears dried up.

Current valuations already price in expectations for ROA’ recovery and accelerating Asset’ growth

Market expectations currently are for ROA’ to return to a positive trend in 2017, and for Asset’ growth to rebound going forward. Considering strong management execution and improvements in areas of headwinds like Energy, growing management confidence about investing in growth, and potential positive policy decisions, this appears to be warranted, indicating that markets remain fully valued to slightly overvalued.

Credit risk is not showing any near-term warning signs to disrupt the potential for growth though longer-term issues are growing

After the recent move tighter in HY (high yield) CDS levels, HY CDS is understating credit risk sustainably for the first time in several years. Also, delinquency rates have been trending higher, and 2018 debt maturity headwalls for smaller cap companies raise potential reasons to be concerned about headwinds in the coming years. However, none of Valens’ proprietary credit metrics signal any significant risk of a near-term catalyst for a credit crunch, limiting downside risk for the market.

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