What’s Next for Global Equities & REITs
Jordan: Hello again everyone, and welcome back to the Atlas Investor Podcast with Tiho Brkan. This is episode number 13 where I believe Tiho will be covering the stock market and a few other topics. Tiho, my friend, how are you, and how have the markets been treating you lately?
Tiho Brkan: I'm very good. We made it to episode number 13, lucky 13. Markets have been treating me pretty well. We've had a correction in late January and early February and then we've had a rebound in the last few weeks, so the markets have been quite volatile. I guess a lot of the investors that are more active, such as myself, they do like a little bit more volatility and an active approach. So from that perspective, it hasn't been as boring as the last few weeks or months. But generally speaking, it's been pretty good.
We'll be covering the stock market today, as you said, so we're going to get into the U.S. stocks, international developed market stocks, as well as emerging market stocks, and then we're also going to cover U.S. REITs and commercial real estate. So, let's get into it.
Jordan: So, Tiho, the U.S. stock market went through a very sharp 10% correction early in February, but now prices have seemed to stabilize and are even rallying again. What is the market action telling you right now?
Tiho Brkan: Well, first of all, let's recap what was happening. Regular readers and followers, Jordan, they'll probably remember that we were warning last December as well as January, that there was some kind of a risk event approaching. The market was just going through a mini blow-off top, and it got ahead of itself more so technically than anything else.
I mean, economically, we are still growing. Earnings are still decent and the global economy is expanding in some way shape or form. And, despite the fact that we are late in the cycle, there is still no major warning sign for us to start moving towards sidelines.
But nevertheless, we had one of the sharpest corrections from the 52-week high, or even from the record high the market experienced since the 1920s and I believe since 1928. So we went from a 52-week high to 10% down, in a space of nine days, from 26th of January, I think, into 9th of February. And the volatility had one of the biggest spikes in the history of the markets.
So, generally speaking, to recap, that was quite a turbulent time. And afterward, we had just as sharp of a rally, and then we had another four days' fall just last week. This week we’ve had trade war fears, especially with Donald Trump now signing some of the tariffs against steel and aluminum and looking into some other things, because he's trying to fix the U.S. trade deficit.
That is quite interesting for the markets because, from one perspective as well, we had small caps outperform because they're less affected than the large caps, and also we had some strange out-performances and under-performances in regional aspects of different equity markets around the world, which we'll cover later.
But generally speaking, volatility's calming, Jordan, and the markets have rebounded. So all in all, it seems that for now at least, the majority of the correction has passed us, and it was a quick and swift one.
Jordan: Okay. Right. Volatility is calming down again. Tell us what's going on with credit spreads.
Tiho Brkan: Well, the Vix, by the way, spiked a lot more than credit spreads did which indicates this turmoil was more of a market thing and less of an economic thing and less of a liquidity and credit thing. So, we had the blowup in volatility ETNs because this part of the market was extremely overextended, and some players were leveraging up, thinking it was easy money ahead.
We even had a couple of funds blow up as the Vix went, intraday, I believe, over 50. On a weekly close, it went above 35, which was the first close above 35 since the China devaluation back in August 2015.
Regarding credit spreads, it's interesting that the corporate credit grade credit spreads are actually still expanding a little bit. So, despite the fact that stock prices have normalized, credit spreads are still, (even though it’s small) they're still expanding, and usually, this is some kind of a warning signal at times, but other times not really.
The credit markets were very, very narrow (spread) relative to treasuries, especially in the investment grade area, and now we've had a bit of a pull. Generally speaking, interest rates have continued to rise over the last few months, and I think investment grade and some other components of the fixed income market have outperformed Treasuries.
So this might not necessarily be a warning signal. This just might be the fact that investment grade is now underperforming treasuries, which have fallen a lot more and a lot faster. So they've stabilized now. But it remains to be seen. Something to keep an eye on, Jordan.
Jordan: Okay. Very interesting. I guess, quickly, you don't think that rising credit spreads right now are that much of a concern.
Tiho Brkan: No. Now for those that are following on YouTube or our website, theatlasinvestor.com, they should have a look at the chart that I'm presenting next here. We're looking at the U.S. corporate share prices relative to the corporate credit of CCC and lower. So this is not just junk. This is really, really low quality. And this is usually the first shoe to drop. We can see from the chart that credit spreads started to widen rather quickly and rather rapidly back in 1997 during the Asian financial crisis.
Already then, we knew there were some problems that were happening underneath the surface. Nevertheless, though, the stock market, the S&P 500 and especially the Nasdaq, the Nasdaq 100, too, they kept rallying all the way into March 2000, despite the fact that early warning signs started happening around 1997 and into early 1998.
Afterward, we had the Asian financial crisis. Like I said, the Russian bankruptcy happened in October 1998, then the stock market bottomed. It still went on to make higher highs, towards record highs, and the credit spreads continued to deteriorate. It wasn't until I guess March 2000 that the credit markets were finally proved to be correct and the stock market started to decline with the widening credit spreads.
The story was a little bit different in 2007, prior to the GFC, where credit spreads were quite normalized and tight all the way until the end, and it was around February when they peaked. The stock market peaked in October 2007. So, credit spreads gave a bit of an early warning sign in that instance.
The same picture was also evident prior to the Eurozone debt crisis between February and May 2007. Credit spreads gave a bit of a warning signal, and they started to deteriorate and diverge from the stock market, which was making higher highs.
Then, finally, moving onto the final episode that we had just prior to where we are today in 2014 and 2015. Oil was starting to fall and oil companies, energy companies were getting into trouble, and then finally emerging markets slowed down. China had a stock market crash, and credit spreads kind of warned of that a little bit earlier than normal. That took about a year of lag there.
So, usually, what people say in markets is that bond investors tend to be more clued on and more switched on than stock market investors, and they tend to figure out things earlier. If there's some kind of a problem, the credit market will smell it much earlier than the stock market will. Nonetheless, I would like to change that analogy a little bit, and I will say that the credit market investors, even though they can sense things earlier, they are too early, and I think you should stay with the stock market as long as it's proving to be making higher highs.
Sometimes it can just make a higher high, and the following rally will make a lower high, and that's something for you to be worried about. But as we saw in 1997, it took until March 2000 for the stock market to peak. So you would have missed out on a large number of gains if you only listen to the credit market. Nevertheless, with regard to the current situation, the credit markets are not signaling anything to worry about, Jordan. So a little bit of a history there, to understand how the credit market maneuvers with and leads the stock market.
Jordan: Yes, Tiho, that's excellent information and analysis. Now, Tiho, you mentioned one thing, and this is on a lighter note, you mentioned that the CCCs are even lower quality than junk. I mean, how can you get lower quality than junk?
Tiho Brkan: Well, junk grade has I think B quality and so forth, and then CCC and lower is basically the worst of the junk. So we're looking at very low quality, speculative credit investments.
Jordan: Got it.
Tiho Brkan: A lot of those types of companies end up defaulting.
Jordan: Got it. So maybe we could call those "shit." That seems like it would be more appropriate.
Tiho Brkan: Well, you're much smarter than me, Jordan, so you picked the right description and adjective to use there. I was just trying to be a little bit more politically correct and polite.
Jordan: I don't know about that, my friend, but anyway, let's move on and let's talk about participation and breadth in the U.S. stock market. Did the market get oversold enough to, in terms of breadth, signal higher prices on the way?
Tiho Brkan: Well, that's a very interesting question. I guess nothing ever signals the guarantee of higher prices. I understand your question, and from that aspect, I would say that the market got oversold enough, (considering that the economy is not slowing down), for this to be a shorter-term or an intermediate-term bottom of some kind. Whether it does or does not remains to be seen. But the market got the most oversold since January and February 2016, which was the last intermediate or even a longer-term cyclical bottom.
So, the ratio of new 52-week highs towards new 52-week lows got oversold down to, I would say, about 33% of this ratio, averaged over a month. And, usually, major growth scares or recessionary periods get much more oversold. But we didn't see that this time around, obviously because we don't have a growth scare. We're still in a bit of a synchronized boom in some ways. Eurozone is doing well. The US is doing well, too. Earnings are doing pretty well. We have these simulative measures happening.
In particular, the Fed is still on the modest side of tightening, and they're still kind of slow to the game, and then we've got these corporate tax reforms coming in which will probably boost earnings, and it already is creating earnings revisions on the upside.
So if we consider the current conditions, I would assume the market did get oversold enough. In particular, the percentage of stocks above the 50-day moving average, those set a proper washout. Usually, we have something below 20% to signal an intermediate low. In an uptrend, that's pretty good.
You don't see that very often, and when you do, it's a buy signal as long as you're still in an uptrend and especially if you're above the 12-month moving average or the 200-day moving average. Whenever that happens, it's a pretty decent indication that the next three to six months will entail some kind of a rebound.
And, finally, the percentage of stocks that are trading on a buy signal, which is an interesting indicator that I like to use, that had a decently oversold reading as well. So, all in all, Jordan, looking at these three indicators, while not everything hit rock bottom levels and we didn't have a major washout, there was no reason to panic to that degree because I guess the stock market is still pricing in strong earnings and a decently expanding economy.
Jordan: Okay, Tiho. So, with all that being said, how about a final word on the U.S. market?
Tiho Brkan: Well, generally speaking and being objective here, (I’m not trying to pick any side, being a bull or a bear, especially as we see on Twitter so many perma-bears that just miss the whole bull market, dating back to February 2016 or March 2009, wherever you want to start from) my opinion is that we're still in an uptrend obviously. We're above the 200-day moving average. We're above the 12-month moving average. The stock market had a decent washout here. The economy is still growing.
The general conditions are not telling us right now that there is any kind of a thing to worry about in the next three to six months. And that can change quite quickly, you know, so we have to be glued to our screens. We have to follow the general conditions. However, so far, the stock market is acting okay. That doesn't mean that it won't turn down.
However, look at the Nasdaq. It just made a new record high and it exceeded the 26th of January peak where the correction started, about a month ago, Jordan, or a month and a half ago. I think it's about 85% to 90% of the time that whenever the Nasdaq makes a new record high, the S&P 500 tends to follow in the next two to three trading weeks.
So, (and this is going back to the 1980s) the Nasdaq wasn't around for that much longer before that as technology is quite a new sector. But having said that, since the 1980s, whenever the Nasdaq makes a new high, S&P follows.
So I assume that the probability and the path of least resistance here are for stocks to keep trending higher. But that remains to be seen.
Jordan: Okay, Tiho, now let's talk about foreign stock markets or international stock markets. Now, Tiho, during that selloff in early February, it seemed that correlations really spiked. Is that still the case right now, and how have the other regions of the world behaved in the last few weeks?
Tiho Brkan: We're still in a high volatility regime, and we are getting the swings up and down. Last week, we had four days down before a reversal. That was linked to the trade war fears. So, generally speaking, the correlation remains very high. Regarding the performance, the U.S., on a daily closing basis, just made a higher high. However, emerging markets and international developed markets have not.
Also worthy of mention is that the U.S., due to the financial sector and due to the technology sector, in particular, failed to really go all the way down. On the other hand, international developed markets such as Eurozone, Japan, and the Asia-Pacific region, they did. So, international developed market stocks are underperforming the most, Jordan.
Jordan: Okay, Tiho. Now, you spoke about the relative performance of international equities a little bit. Can you just add a few more details?
Tiho Brkan: Yeah, sure. So, looking at Europe, Australasia, and Far East stock market, (which is basically your whole Eurozone region, Japan, Australia, New Zealand, Singapore, Hong Kong, Taiwan, and maybe, Taiwan is an emerging market actually, and maybe a handful of others that I might have missed out on, but generally speaking, it's all developed markets outside of North America) they've been underperforming.
When the dollar turned in December of 2016 and started to correct, there was an expectation that these markets together with emerging markets would start to outperform. Having said that, that has not been the case for international developed market equity indices and this region as a whole.
They're still underperforming, and they are underperforming during this correction, too, like I said. They did a double bottom. They retested their early February low, and they haven't rallied towards making a higher high on a daily basis. So they're kind of lagging behind and underperforming, which is interesting.
Jordan: Okay, now, let's talk about emerging market equities. How have they fared relative to the U.S. and foreign developed markets?
Tiho Brkan: Due to the weaker dollar, they've performed a little bit better. So they've bottomed in January of 2016, right at the lows of actual nominal EEM index or the MSCI EM index. So that trough marks when emerging markets started to outperform Europe, outperform Japan, Asia-Pacific region and also outperform U.S. However, the outperformance hasn't been very strong, the way that we've seen it in years past.
But sometimes it takes a long time to get the distraction of an outperformance happening, and we saw that back in 1998 during the Asian financial crisis and the Russian default. And it took all the way until 2003 for it to really start to get some traction. So sometimes it can take quite a while.
But it seems that the underperformance of emerging markets relative to the U.S. has bottomed for the time being. They have been faring better over the last, let's say, two years or 18 months, relative to the U.S. But U.S. is still holding its own and especially against international foreign developed markets.
Jordan: Okay, so how about a final word, just your final thoughts here and now on foreign developed markets and emerging markets?
Tiho Brkan: Well, regular readers and followers of our podcast as well, they would know, and we discussed this in depth, that the valuations remain a lot more attractive outside of the United States, but valuations alone will not predict whether there'll be a relative out-performance or under-performance.
Nevertheless, eventually, I think that international equities should outperform the U.S., and in particular emerging markets. To me, Eastern Europe looks extremely attractive and probably has a chance to continue to do as well as it has done already over the last 18 to 24 months.
Jordan: Tiho, now let's talk about U.S. real estate investment trusts, for short known as REITs, and this is a sector that you have been short and, judging from the chart, that our watchers on YouTube and followers on theatlasinvestor.com can see, you've done very well on that short. So, Tiho, this is a part of a market that's corrected a lot more than others. Tell us what's been going on here and what the short-term outlook is.
Tiho Brkan: Sure, well, this is an interest rate proxy, which means basically that it's a lot more sensitive to the movement and trend of interest rates, as interest rates are one of the main cost components of real estate relative to, say, other sectors.
The other sector that's also been impacted, that we're not talking about here, is utilities which are another rate-sensitive and interest rate proxy sector. Generally speaking, U.S. REITs have peaked, I think, in July of 2016. Luckily enough, MarketWatch interviewed me at the time and I recommended avoiding the so-called "safe havens," which were particularly treasury bonds, and that ended up being right at the low of the 10-year yield.
And I also said to stay away from gold in July 2016 and to stay away from REITs. Two out of the three proved to be great warning signals. From that point the 10-year yield rose from, I think, lower than 1.5% to now almost 3%, and REITs have underperformed since July 2016 quite considerably, Jordan. The stock market went into that blow-off top we discussed at the beginning of the podcast when it went higher into December and January of 2018 while REITs didn't do anything.
This was one of the telltale signs that the market was coming closer and closer to a correction because of such an important sector of the market, (real estate, commercial real estate) and such an important sector of the economy, was underperforming and failing to make a higher high. It just lost its support and fell. So, yes, we were short, and that proved to be a pretty good trade.
Jordan: Okay, Tiho, so REITs have come off in price, so the dividend yield is probably higher now. Do you think U.S. REITs are now worth adding to the portfolio?
Tiho Brkan: Well, that's an interesting question, and I think we should discuss the performance of U.S. REITs from two perspectives, one from the short-term perspective that we were looking over the last year or two or even three and the other one from the longer-term perspective. In this case, for people on YouTube or those following atlasinvestor.com, I have a two-decade chart.
So, while REITs have essentially gone nowhere over the last three years or so, even longer, (relative to the stock market), on the other hand, REITs have outperformed the stock market over the last two decades by a considerable amount, Jordan. So, from that perspective, if you look at S&P 500 total return, over the last two decades, there's been about 5.4x.
On the other hand, REITs have gone up by as much as 6.1x. And that's even considering that the last three years or so have been flat. So the question now is whether REITs have become attractive enough for us to start going from underweight to overweight in the portfolio, and that has a handful of different ways to be answered.
But I think looking at the risk-adjusted returns, REITs have been underperforming, and they have just had awful risk-adjusted returns in general and in particular the one coming off in January, February, and a handful of months prior to that as the correction has started, and also the flat-line price movement not doing anything months and months beforehand.
So from that aspect, whenever we have such low risk-adjusted returns, usually but not always, we tend to be at a bottom or near a bottom. So from that aspect, REITs are attractive. Yes, the dividend yields have also risen a little bit as the price has corrected, as you've mentioned.
But I think the most critical question is, and this is the most important question for REITs, is whether the U.S.Treasuryy notes, let's say with a maturity of seven to 12 years and in particular the 10-year note….have they stopped rising and have the yields found support around the 3% area, or will we break out and see higher yields.
If we have rapidly higher yields from here, what will end up happening is REITs could come under more pressure once again.
Jordan: Okay, Tiho, now let's talk about the relative strength of U.S. REITs against U.S. equities over the last 20 years because this is very interesting and something you have studied carefully.
Tiho Brkan: Of course. This is the kind of research, by the way, that I produce for my subscribers and my paid clients who demand a lot more information relative to the majority of the normal investors. Here, we are looking at the relative strength of REITs going back to, I think, 1972 against the U.S. stock market, or the S&P 500 on a total return basis.
And REITs, basically, their out-performance peaked in 2007, but they've held their own against the S&P 500 pretty much until July of 2016, and that's when interest rates probably hit a bottom. If not a major secular bottom, then rates hit at least an intermediate bottom (a 3-5 year type of bottom).
And as we know from the previous episodes discussing the bond market, Jordan, from 1946 until 1981, U.S. interest rates were rising for 35 years, and from 1981 until 2016, I believe they were falling for 35 years. These are known as the Kondratieff cycles or the long-term interest rate cycles.
Now there is a decent chance that interest rates have turned a corner. They've found an important low, and they could be rising in the future, maybe even for the next 35 years. So the question is how will interest rates affect sectors of the stock market such as utilities and such as REITs that we're talking about here.
The underperformance over the last two years alone has pushed REITs, on a relative basis, down to March 2009 lows. So, basically, relative to the S&P, REITs are trading at March 2009 lows. That's how bad the underperformance has been, and that proved to be a very good entry point for those willing to buy REITs against the S&P 500 back then.
The question is whether it will be the same now, and that's something that we are dealing with and answering for our clients and something that I'm not going to be disclosed here. It's a very, very interesting question, and it's something that a lot of investors, I'm sure, are looking at.
One thing that I would like to add as a caveat here is that even though REITs were underperforming the S&P in the late '80s and early '90s, it was not good to buy them all the way until the year 2000 or 2001. So sometimes the under-performance can last decades, if not generations.
Jordan: Okay, Tiho, can you discuss a little bit more about the services you offer?
Tiho Brkan: Well, as already mentioned above, I do manage capital and portfolios of high net worth individuals, but on the other side as well, I do advise my other clients with information as well as mentoring and trade alerts. For those that are not interested for me to manage their capital, they have the ability to talk to, follow, interact with, and understand the thinking process of a real-time trader such as myself for example. For some people who are starting out in this industry, in this game, this education can be invaluable because when I was starting I didn't have somebody like that to learn from until years later.
So I offer those services as well, Jordan. I offer one-on-one interaction, one-on-one mentoring, consulting, extra information, research, and basically discussing the interesting themes that I see and the conviction on those themes within the market. One example being the REITS that I shorted and that I've been staying away from for the last 24 months. That was, for example, one of the themes that we've discussed with our clients and one of the trades that we made at the right time.
And, timing is also a very important aspect of what I do. So that's a little bit about the service. If you have any more questions, please don't hesitate to go to theatlasinvestor.com, get in contact with me. We'll have a free consultation. We'll sit down. We'll have a bit of a chat, and maybe we can see if I can help you in some way, shape, or form.
Jordan: Okay, Tiho, now let's move on to a lighter note because for our followers on theatlasinvestor.com and for those watching on YouTube, you have some great images here from your adventures in Bali. Well, first things first, I haven't gotten my postcard yet. What's the problem?
Tiho Brkan: Well, Jordan, don't blame me. You have to blame the Indonesian government here. Come on. It's not Singapore we're talking about, like last week. This is Indonesia. I'm sure the postal office will send it to you by 2020.
Jordan: Or you can send me something through email, and that way I can put it up here as my background on my computer.
Tiho Brkan: No, no, I'll do the real genuine thing. Actually, I did the real genuine thing. Don't worry. It's coming. It's on its way. Just give it a few more years.
Jordan: Okay, Tiho.
Tiho Brkan: I was going to say, not everyone's as efficient as Singapore when it comes even to postal services.
Jordan: Right. Now do tell us about these pictures here because this looks like a beautiful place, and those who are interested in traveling and very adventurous, they might be interested in what you have to say.
Tiho Brkan: Sure, well, Bali was a great trip, and we're going to talk about that in the next podcast. We're going to cover real estate. We're going to cover the Indonesian stock market. We're going to cover taxes. We're going to cover residency rules, cost of living, all these kind of things, and in particular focusing on Bali here, not on Jakarta, which is the capital. But these pictures here are from a famous spot in Bali, just off Bali actually.
There's an island called Penida, so they call it Nusa Penida, and this is called Kelingking beach. This is the most beautiful place I've ever been to in my life, and, you know, I've been to over 70 countries. I've been to some amazing places. But this is a fabulous place. It's fantastic. We had the beach to ourselves. That's my girlfriend there on the right just enjoying the sand. We went swimming with mantas. The water is so clear, so green and blue. It's fantastic.
The hike up and down to this beach is incredibly difficult. Where I'm standing there with my thumbs up, that's the part that's where we're on the cliff edge with a meter on one way and a meter on the other way, and you fall off and you're dead pretty much.
But the part after that just gets to basically 90 degrees vertical. We're talking very extreme. We did that on the way back rushing, within 25 minutes, I believe, with a 25-kilo backpack. So all these burpees that I've been doing and all this training that I've been doing is paying off, Jordan.
Jordan: Yes, and I'm very happy and our listeners as well, to see you there and know that you made it back safe and sound.
Tiho Brkan: Yeah, this is not an AI machine-learning voice recognition talking on behalf of Tiho. This is actually me. So, yes, I'm still alive, and, yes, Bali is a beautiful place. I really love it. I love the vibe. So we'll talk about Uluwatu for surfers. We'll talk about Seminyak and Canggu areas, which are great for real estate, in my opinion. It's really a rental market.
We'll talk about the laws of real estate, the difference between leasehold and freehold, and that there are a lot of problems when it comes to purchasing real estate for foreigners. We’ll discuss the laws and how to navigate, and then we'll talk about the beauty of it, the cost of living, and even the Internet connection, which is on the con side.
Generally speaking, Bali is a hotspot for tourism, Jordan, and I don't want to give too much away, but I think our listeners will be pleasantly surprised by everything. It's one of my favorite spots in the world, and I love coming to Bali.
Thank you for listening to The Atlas Investor Podcast. To be notified of future podcast episodes, sign up for a free newsletter and visit our YouTube Channel. Tiho Brkan offers his clients a wide range of services, including portfolio construction and wealth management, one on one consultations, global real estate opportunities, international tax planning, citizenship and residency planning and one on one mentoring. For a free consultation, visit theatlasinvestor.com and contact Tiho Brkan.