Today we suggest staying in cash

Every week, Mikhail Dorofeev, chief portfolio analyst and strategist at DTI Algorithmic, is sharing one of his investment ideas. Today, the recommendation is to stay in cash.

Mikhail on why you should refrain from buying securities:

«The Fed is struggling with inflation and the creation of financial bubbles, so it has been gradually raising the rate since 2015. Due to this, investors are unhappy with the yield of US government bonds, so they are selling these securities. Because of trade wars, China — the largest holder of US sovereign debt — gets rid of the American bonds. The Fed itself reduces its balance by selling securities including state bonds. As a result, the prices of these US government bonds are falling, and yields are rising.

When bonds begin to fall actively, the stock market also turns down with a certain lag. Studies show that this lag is about 4–8 months.

An example is the crisis of 1987, which is perfectly described in John Murphy’s book «Intermarket Technical Analysis». At that time the Dow Jones Industrial Average fell by about 35% over several months. The sharp decline began four months after the bond market reversal.

The crisis of 1987 Source: J. J. Murphy, «Intermarket technical analysis» — Open original image

US stock indexes have already shown a decline last week. Taking into account all factors prevailing in the market, it may develop further. Correction of the US stock market may continue by another 5–20%.

Taking into account active sales in stocks and bonds, my recommendation for today is to stay in cash and accumulate it to buy shares after the completion of the highly expected correction. I believe that it is better to wait until the S&P500 index drops to at least the lows of February 2018. When it happens, cautious purchases are possible. Until this level is reached, I would advise you to refrain from long-term investments in risky assets.

To sum up, currently we expect the development of a downward correction, but do not expect a global reversal of the stock market. We hope that soon there will be an opportunity to buy shares with higher profits. Until then, you may simply save cash or invest free funds in money market instruments. These are short-term bonds (preferably denominated in US dollars) with investment ratings of A- and higher and periods to maturity of 1 to 3 months. At such time horizons, investments will be in relative safety and at the same time will bring minimum profit."

Published on the 18th of October, 2018