MARKET UPDATE AND COMMENTARY
May 18, 2014


Financial markets continue to move without clear direction with the possible exception of small capitalization stocks.

Over the past two weeks, the Dow Jones Industrial Average (DJIA) fell 0.13%, the S&P 500 gave back 0.17%, the NASDAQ dropped 0.81%, and the Russell 2000 (small cap stocks) fell 2.29%. For the year, the DJIA is down 0.5%, the S&P 500 is up 1.6%, the Russell 2000 is down 5.2%, and the NASDAQ is down 2.1%.

Economic news, like the markets, was mixed. There were ten key economic reports over the past two weeks. The Wall Street Journal defines these key reports as “market moving” indicators. Six were better than consensus, three fell below, and one met consensus. I will have more to say about some of the most significant report in my next section.

International markets have shown some interesting short-term trends. Russia has rallied 9.8% over the past two weeks, as investors there feel more comfortable for now that Putin apparently is not going to invade Ukraine triggering more and substantial sanctions from the West. India just elected Narendra Modi as Prime Minister. Mr. Modi’s election signals a shift to a strong pro-growth, pro-business agenda and in the process, he has pushed out the more progressive Congress Party after 67 years of rule. India’s primary market is up 7.7% over the past two weeks. Russia and India are two key emerging market countries and helped push the Emerging Markets region up 2.6% last week. For the year, the Emerging Market region is also up 2.6%. The Developed Markets region is up 1.5% year-to-date, and the European focused STOXX 600 is up 3.3%.

Commodity markets have shown little change recently as I noted in my last Market Update and Commentary. The Dow Jones UBS Commodity Index (a broad indicator of commodity performance) is down each week so far in May (-1.9% for the month) leaving the index up 7.5% for the year. Gold is flat for May and up 7.5% for the year. WTI Oil has shown recent strength and is up 3.7% for the year. Agricultural commodities are generally up for the year primarily because of drought conditions in much of the growing regions in the US.

The Barclays US Aggregate Bond index is up 0.9% over the past three weeks and is now up 3.2% as bond yields continue to fall. The US 10-Year Treasury yield closed last Friday at 2.52%. This is the lowest Friday close for 2014. While bond investors have seen a nice bump in returns so far this year, I do not consider this a particularly positive development. Lower yields, in my opinion, signal a lower economic growth outlook—not the direction any of us want to see right now. Lower yields in turn foster a weaker US Dollar which, over the long-term, is not a positive.


IS INFLATION CREEPING INTO THE ECONOMY?

Of all the key economic reports released over the past couple of weeks, I want to focus on the Producer Price Index (PPI) report for April released last Wednesday. This report measures the average price changes in the final price of goods and services produced in the US. Consensus had expected a jump of 0.2% but the April number came in at 0.6%. This suggests that inflation is now running at a rate of about 2% over the past year when the same data six months ago showed inflation running at just 1%. Why is this significant?

One of the primary concerns of the Federal Reserve’s current and long-running accommodative monetary policy has been that by keeping interest rates so low for so long coupled with the unprecedented purchases of bonds (Quantitative Easing—QE) was that this would ultimately cause inflation to rise beyond the Fed’s ability to control it.

I am not of the opinion, as some commentators have suggested, that last year’s run up in equity markets was caused by a flood of money into the economy from the Federal Reserve’s QE program. Rather I believe that the rise in stock market prices resulted from strong corporate profits. I have also stated recently that I do not believe the markets are headed for some kind of severe correction because the Fed’s monetary policies are accommodative and we have not seen a Fed-induced rise in interest rates. However, I do feel that if the Fed does not get future monetary policy right (returning monetary policy to a more neutral position compared to the accommodative policies in place now), we could be in store for some inflation and higher interest rates. Inflation has been kept in check up to this point because banks have not made loans with their excess reserves. I also believe that this is also the reason why the stock market has not been stimulated artificially. Simply put, much of the money created by the Fed by QE is not in circulation in the day-to-day economy.

Bankers have understood all along that the Fed pumped up bank reserves in the hope that the banks would then lend the money to get the economy kick started. However, I believe that bankers have been fearful that the Fed could quickly pull back the excess reserves creating cash shortages at the banks because most loans are made over a multi-year period. No banker would make a multi-year loan if they were concerned that the Fed could pull money back next month. If you look at the graph above, you can see in the blue line (Monetary Base) how the Federal Reserve created a lot of money via bond purchases (QE), but there has been no discernible change in money (gold line) actually moving into the economy (Money Stock: M2). Money Stock (M2) is the source of inflation, not the Monetary Base. If banks sense that the Fed is not about to pull back the money that is currently in reserve, lending will increase, money stock will increase, and I believe inflation will follow. To counter the outflow of money from the Monetary Base, the Federal Reserve, in my opinion, will be forced to raise rates currently paid on reserves to entice banks not to lend out the money.

It is too early to determine if the rise in the PPI is a signal that money is moving out of reserves and into the economy, but it is certainly something to watch closely. If the Fed is forced to raise interest rates before the general economy is on solid footing, it could increase the likelihood of a contraction in economic growth.

I will conclude by saying that Fed monetary policy is not the most interesting of subjects to discuss, but hopefully you can get a sense of how influential the Fed can be on the markets.

LOOKING AHEAD

I believe the economy is stuck in a rut and we will be in this rut for the time being. This does not change my current belief that US stocks are the favored major asset category. There has been no changes in the overall relative strength relationships between the major asset classes for some time now.

Therefore, my broad guidance remains in place. I favor US stocks overall of the six major asset classes I follow. Within US stocks I prefer small and middle capitalization companies over large cap. I am very aware of the recent weakness in the small cap sector and am considering a change from small cap growth to small cap value. Looking at the major economic sectors, the Materials and Financials sectors are now favored. I should point out that from a pure performance perspective (as compared to relative strength which is slower to move) Real Estate, Utilities, and Energy have been the best performing sectors in 2014 while Consumer Discretionary the weakest. As of Friday, the Industrials sector, along with the Information Technology, Financials, and Consumer Discretionary have not exceeded the S&P 500 in performance. Only Consumer Discretionary is negative year-to-date.

The International stock asset class still ranks number two of the six major asset classes. The weakness in International markets in relative strength terms continues and I am not selling current positions but not adding new money to this major asset class. While I continue to strongly advise against owning the Emerging Market region, I am aware of the recent positive performance of this region. I believe that the sudden improvement in Russia and India are behind the numbers. I do believe India is a country on the rise.

Bonds have shown some life with the pullback in interest rates. A defensive move for sure. However, I continue to like the High Yield and Floating Rate sectors.

Commodities appear to be stymied at this time. The Energy sector is my favored Commodity asset sector.

Home sales will be the most significant reports out next week with Existing Home Sales for April scheduled for release on Thursday followed by New Home Sales on Friday. The second revision of the 1st Quarter Gross Domestic Product (GDP) will be released the following Thursday, May 29th. Recall that the first estimate came in at 0.1% growth. It is too early for the consensus figures to be available, however, several economists whose opinions I value expect to see this number fall to the -0.3% range. I do not believe the markets will overreact to this negative number given the understanding of the winter’s negative impact on the economy.




Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of subindices, measuring both sectors and stock-size segments, are calculated for each country and region.

MARKET UPDATE AND COMMENTARY
May 5, 2014


The past week provided financial pundits with plenty of topics to fill their pages. At the top of the list were the initial estimate of the 1st Quarter, 2014, Gross Domestic Product (GDP) and the April Employment Situation Report. The GDP came in at a very anemic 0.1% while the economy created 288,000 new jobs in April. The GDP report was generally ignored by the markets which had been expecting a bad number given the impact weather had throughout most of the US, but the positive Employment report did not help stocks and surprised some investors by the general weakness in the markets.

As of the market close of Friday, the Dow Jones Industrial Average (DJIA) is down 0.4%, the S&P 500 is up 1.8%, the Russell 2000 is down 3.0%, and the NASDAQ is down 1.3%. A mixed bag for sure, and after last year’s strong performance, a bit of a letdown. I have previously referred to the markets as lackluster and that description seems to remain firmly in place. Eighteen weeks into the year, the S&P 500 has been up nine weeks and down nine weeks. No direction and no performance.

International markets have continued to generally track US markets. The European-heavy STOXX 600 is up 2.9% and one of the strongest performing regions in 2014. A broad index of international markets is the Dow Jones Global Dow X US and is up 1.5%. The Emerging Market region is down 0.2% so far this year while the Developed Market region is up 1.7%. It appears that the tension within the Ukraine has not hurt Western European economies; however, Russia is now down 20.4% for the year the worst performing major stock market within the world. Venezuela is the second worst performing market in 2014 losing 13.6%. What do both Russia and Venezuela have in common? Strong-arm regimes that are more focused on their political power rather than growing their economies.

There has been little change in the commodity markets over the past month or so. The UBS Dow Jones Commodity Index, a broad basket of commodities, has fallen slightly recently but is still up 8.7% for the year. Gold is up 8.3% for the year, but has been bouncing around the $1300 per ounce level for the past six weeks resulting in only small changes in overall value. I believe that gold prices are very indicative of the level of fear in markets—fear of a weak currency, fear of global turmoil, and fear of inflation. For now, at least, fear appears to be in check. WTI Oil has been slipping slightly in value much like many other commodities. I continue to believe that oil and most other commodity prices are being influenced by basic supply and demand issues, not by speculative investing.

US Treasury yields have surprised most investors and economists by continuing to drift downward so far in 2014. The US 10-year Treasury yield closed Friday at 2.58% well below the 3.03% at the start of the year. I believe that falling interests today represent diminished expectations of economic growth by bond investors. I would like to see interest rates trending upwards, but for now that is just not happening. Falling yields are occurring simultaneously with the Federal Reserve’s continued reduction of bond purchases (referred as tapering in most financial media). Most economists had hypothesized that as soon as the Fed started to reduce its bond purchases, yields would start to rise. That simply has not happened. Demand remains strong for US Treasuries as well as corporate bonds raising questions about improving economic growth.


SEEKING A CATALYST

I was fortunate to have spent a couple of days in Boston recently interacting with about a dozen money managers who collectively manage well over $50 billion in assets for Putnam Funds. Each manager came into a room of about 30 other advisors like myself and talked about their process for managing money. In the course of two days of discussions, I kept hearing the word “catalyst” mentioned repeatedly. The money managers were focused on what catalyst or event that it would take to unlock additional value in the companies they follow. I have been looking at the broad economy asking the same question. By nearly every measure, this has been the most disappointing recovery in the modern era. The US GDP has grown in the low 2% range on average for the past four years. However, stock markets have risen substantially since the bottoms in March 2009 because the banking/housing crisis has been managed, a second recession never materialized, and companies have been profitable. Brian Wesbury of First Trust Advisors calls this the Plow Horse economy because it moves slowly and steadily forward. Nothing has really changed. So why have the markets been flat for the past four months and will we see any growth this year?

The environment we find ourselves in is not all that much different than what we have experienced for some time now. According to Bloomberg, as of April 29th, companies within the S&P 500 that have reported earnings for the first quarter this year have posted solid gains of 3.7%. The unemployment rate has fallen to 6.3%. The Federal Reserve continues an accommodative monetary policy. Interest rates remain low. Inflation remains well below the 2% target set by the Fed. Domestic energy production is reaching record levels and steadily improving. I draw several conclusions from all of this. First, I am reminded that stock markets are always forward looking so you cannot look backwards and try to make sense of current market performance. Second, for many of the reasons I just cited, I do not believe a major market correction is just around the corner. The financial media has been publishing lots of dire predictions recently, but keep in mind—dire sells and that is the objective of all financial media. Third, the political strife in this country is quite pronounced and both sides of the aisle have been, in my opinion, misrepresenting the economy in order to score political advantage. And finally, we all live in the shadow of the Great Recession of 2008. The memories of that year are still fresh and weigh heavily on the conscious and behavior of many investors.

Looking for a catalyst I need to find something different than what we have been experiencing for some time now. Monetary policy is, in my opinion, not going to change much. We have seen the Federal Reserve taper its bond purchases and hold short-term interest rates very low. I do not expect this to change over the next six to nine months. Fiscal policy, those rules, regulations, and laws set by governments at all levels, may have the potential to change after the coming mid-term elections. I believe that the fiscal policy, especially from the Federal government, has been the single biggest drag on the economy. Regulations are exploding along with the cost of compliance with those regulations, new taxes have come into existence, and Washington is in a log jam with little hope of more growth-oriented policies like lower corporate tax rates likely to emerge in the near-term. However, early polls indicate that change may come this November with a Congress that may be more willing to change fiscal policies to be more growth-oriented. If markets see this change coming, I would not be surprised to see this serve as a catalyst to move the markets higher in the fourth quarter.

Finally, geopolitical risks always remain a concern. The situation in the Ukraine is not resolved and there could still be fallout there. China, North Korea, and the Middle East always seem to be in a constant state of low boil, but for now the markets have not reacted to these concerns.

LOOKING AHEAD

We are coming upon a generally quiet period for the markets. Summer has traditionally not been a great time with regards to market returns, and I suspect this year will be no different. Coming off a slow start for the year, I believe we have more of this in store for now. As I noted above, any real positive change will come in the fourth quarter as we approach the mid-term elections and the possibility of real change in current fiscal policies.

I remain committed to my long-standing recommendations. US stocks are still the favored major asset category followed by International stocks, Bonds, Foreign Currency, Money Market, and Commodities. There has been no deterioration of the relative strength of US stock to any of the other asset classes.

I still favor small and mid-capitalization stocks even as I see some weakness in the small capitalization area. Small cap stocks are generally about 50% to 60% oversold meaning they are below their previous ten-week pricing and potentially more affordable. Stocks do not reach the extreme oversold level until they reach 100% or higher. Sector recommendations include Materials, Industrials, and Financials. Finally, I continue to prefer equal-weighted indexes over capitalization-weighted indexes.

Within the International stock asset class there has been some improvement in the Emerging Market region; however, Developed Markets remains the strongest in terms of relative strength and thus the focus of my investment recommendations.

Bonds have shown some life with the pullback in interest rates. A defensive move for sure. Although long-term government and corporate bonds have been the best performing bond sectors so far in 2014, I believe they come with great interest rate risk. I continue to like the High Yield and Floating Rate sectors.

The overall rally in the Commodity asset class has stalled much like the rest of the markets. The Energy sector is my favored Commodity asset class investment.

Economic data continues to come in mixed and I do believe investors and economists have not been able to figure out the markets recently. I see little change and thus expect more of the same.




Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of sub-indices, measuring both sectors and stock-size segments, are calculated for each country and region.

MARKET UPDATE AND COMMENTARY
April 20, 2014


Let me begin by saying that I realize I am a week behind in publishing my Market Update and Commentary, but I have been suffering from a terrible case of the flu. It is the first time I have had the flu in years, and I am reminded that being sick is always a terrible alternative to everything else!

At times I have felt that my recent physical health has been mirroring the general health of the markets. However, upon closer examination, the markets feel worse than they really are. For the year, the Dow Jones Industrial Average is off 1% while the S&P 500 is up 0.9%. The worst performers of the major indexes I track are the tech-heavy NASDAQ (-1.9%) and the small/mid stock-heavy Russell 2000 (-2.2%). Within the broader context of the indexes there has been even greater turbulence within some of the best performing sectors in 2013. The Biotech sector is off 3.8% year-to-date (YTD) and down 12.6% over the past month, and the Internet sector is down 2.0% YTD and is down 11.5% over the past month. Quietly, the Utilities (+10.6%), Real Estate sector (+9.1%), and Energy (+4.8%) lead among the major sectors so far in 2014.

International markets have continued to keep up with US markets. The European-heavy STOXX 600 is up 1.3% in 2014. The Asia/Pacific region is the weakest performer (-1.3%) followed by the Emerging Market region (+0.3%). Japan has seriously underperformed most countries so far this year losing 10.9%. The big question hanging over most international markets is what impact will the daily escalation of tensions within Ukraine have on European and other international markets going forward. Russia appears to be the economic loser in 2014 with that country’s major exchange down 16.7%.

Commodities continue to perform relatively well in 2014. The UBS Dow Jones Commodity Index, a broad basket of commodities, is up 9.5% led by strong gains in the agricultural commodities such as coffee (+82%), pork (+45%), and orange juice (+21%). Rises in many of the agricultural commodities appears to be the result of weather-related supply/demand problems due primarily to drought troubles in many agricultural-producing areas in the US. Pork is suffering from an unprecedented loss of piglets to a virus causing prices to spike upwards. Energy prices have also been on the rise in 2014 with WTI Oil gaining 5.8% while the price of natural gas has jumped 14.0%. Gold is up 7.6% helping to bring this metal off multi-year lows. All of this is causing energy and food prices to push up at a higher rate than core inflation.

Bond traders, in my opinion, are very undecided about the future direction of interest rates. One day traders believe Fed Chairman Yellen is ready to raise interest rates earlier causing rates to jump upwards, the next they are convinced that the economy will remain sluggish and interest rates fall. The net effect has been for bonds to post modest gains in 2014 as interest rates remain range-bound and below where they finished 2013. The Barclays Aggregate US Bond index is up 2.3%. The US 10-year Treasury yield is currently 2.72% and well below 2013’s close of 3.03%. The Long Government, Preferred, and High Yield sectors are leading among bond sectors, however, almost all bond sectors are slightly positive so far in 2014.


COPING WITH VOLATILITY

Market volatility has returned in 2014 after a relatively benign 2013. As I pointed out in early Updates, the strongest performing sectors of 2014 (biotech and internet) are the biggest losers so far in 2014. This is not unusual as investors take profits in these sectors after strong runs. The lower-volatility sectors like Real Estate, Utilities, and Energy have outperformed as investors appear to be seeking relief from the wide swings found in the more volatile sectors like small capitalization stocks and the other sectors already mentioned. I have trimmed some of my positions in biotech and internet stocks, however, I still maintain that these sectors have the potential to provide strong returns in the future. I will return to these investments when they are no longer providing sell signals.

My pullback from the biotech and internet sectors does not reflect a retreat from stocks in general. US stocks still remain as the strongest major asset class according to DorseyWright & Associates (DWA). Let me repeat myself: US stocks remain the strongest major asset class and I am not abandoning stocks. I am moving stocks away from some of the higher volatility securities into core holdings and even a few value securities. I am maintaining my allocation to stocks, just trimming the higher volatility positions.

Another reason that I have not trimmed my allocation to stocks in general is that the Money Market fund category has actually fallen during this period of increased volatility. At the start of the year, the Money Market Fund category ranked 110th out of 129 category sectors tracked by DWA. Today, the Money Market Fund is ranked 130th out of 133. If the Money Market Fund category starts rising substantially, I believe it is a key warning sign that the underlying fundamentals of the market may be deteriorating, and this just has not happened. Nor has general strength of the US stock major asset class weakened. In fact, it has not relinquished a single tally to the other major asset categories since October 2011—an impressive show of relative strength.

Sixteen weeks (31%) of the year have now passed and there is little to excite most investors, however, as I have said before, a pause is not necessarily a bad thing at this time.

LOOKING AHEAD

Earnings season is in full swing. Publicly traded corporations are now reporting earnings for the first quarter of this year. Many analysts and investors are expecting a subdued quarter due to the terrible weather experienced by some of the most populated portions of the US. I share that view, however, it will be important to listen to what CEOs and CFOs say about earnings expectations for the remainder of the year. Profits drive the stock market, so earnings are critical.

There remains no shortage of doom and gloom in the media regarding a pending correction. One of the most common arguments for a large decline (>10%) comes from the simple fact that the US markets have not suffered a 10% correction since September 2011. I have written previously that this market has been less volatile than historical norms, however, saying we are due for a correction simply because we have not had a correction is a dubious claim in my view. My guidance is to stay focused on the data, and the data does not currently suggest that the markets are extremely overbought or expensive. They are not cheap, but they are not terribly extended either.

My broad guidance remains in place. I favor US stocks over all of the six major asset classes I follow. Within US stocks I prefer small and middle capitalization companies over large cap. I also continue to favor the Materials, Industrials, and Financials sectors. My sector recommendation has dropped Health Care and Consumer Discretionary for now, and Materials is a new addition. Finally I prefer equal-weighted indexes over capitalization-weighted indexes.

The International stock asset class still ranks number two of the six major asset classes. The weakness in International markets in relative strength terms continues. I am not selling current positions but not adding new money to this major asset class. I continue to strongly advise against owning the Emerging Market region. I include China in the Emerging Market region.

Bonds have shown some life with the pullback in interest rates. A defensive move for sure. However, I continue to like the High Yield and Floating Rate sectors.

The overall rally in the Commodity asset class continues and is looking slightly more attractive in the short term. The Energy sector is my favored Commodity asset class investment area.

While economic data released over the past week or two has been somewhat favorable, most investors seem to focus on the next set of data. Highlighting this week’s releases are the Existing and New Home Sales reports for March (Tuesday and Wednesday morning respectively), and Durable Goods Orders and Jobless Claims on Thursday. Existing home sales are expected to drop slightly while new home sales are expected to increase slightly. Jobless Claims are expected to increase by 9000 claims to 313,000 from the previous week’s tally of 304,000 while Durable Goods Orders for March are expected to drop marginally. The “plow horse” economy continues to plow along!

I will close my Update and Commentary by providing this year’s bracket analysis for the Men’s NCAA Basketball Championship (please go back and read my bracket analysis in the March 16th Market Update and Commentary if you missed it). As we all know by now, Connecticut won the championship as a #7 seed, the second lowest seed to win since 1985. The chart on the next page compares the overall record by seed for 2014 against the average record by seed from 1985 until 2013:



A couple of things jump out. First, the #16 seed failed to win over a #1 seed in the opening round keeping this record intact for now. Second, even though a #1 seed failed to reach the Championship game, they still posted the best overall record of all seeds. Finally, #7 Connecticut raised this year’s winning percentage for all #7 seeds. This is a fun example of the merits of relative strength and how it might be applied to investment decision making.




Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of subindices, measuring both sectors and stock-size segments, are calculated for each country and region.

MARKET UPDATE AND COMMENTARY
March 30, 2014


A lackluster first quarter is about to close.

With just one trading day left in the 1st quarter, the Dow Jones Industrial Average (DJIA) is down 1.5%, while the Russell 2000 (small to medium size stocks) is down 1.0%, and the tech-heavy NASDAQ is off 0.5%. The S&P 500 is the only one of the four key indexes I track still positive with a gain of 0.5%. Last week saw some relatively large drops in the NASDAQ (-2.8%) and the Russell 2000 (-3.5%). Two thoughts come to mind. First, this quarter-long pause is not surprising given the strength of the markets last year, and second, the larger pullback by the NASDAQ and Russell 2000 comes after these two indexes posted the largest gains last year. Even with last week’s drops, the NASDAQ (+27.2%) and Russell 2000 (+21.0%) have outperformed the DJIA (+12.0%) and S&P 500 (+18.4%) over the trailing twelve months. From where I sit, I believe investors have been taking some profits from their largest winners in the face of global uncertainty—not unexpected in my opinion.

International markets have moved sideways to start the year much like US markets. The European-heavy STOXX 600 has done relatively well with a 1.6% year-to-date gain while the Asia/Pacific region is the weakest posting a loss of 2.6% due in large part to the Japanese market losing roughly 8%. Emerging markets also are negative so far with a drop of 1.6% despite a 4.1% gain last week.

As I noted in my last Market Update and Commentary, gold has had a strong run this quarter as investors sought out the safety of this precious metal, but in the past two weeks gold has fallen nearly $85 (-6.1%) to close Friday at $1294.30 per ounce. Gold remains up 7.6% for the year, but this latest trend is worth watching. Bonds continue to drift within a range between 2.5% and 2.75% with the yield on the 10-year US Treasury bond closing Friday at 2.72%. The general trend in gold and US Treasuries reflects, in my opinion, a more defensive stance by investors as they digest continued sluggish US growth and fears over the tensions in the Ukraine.

The final revision of the 4th Quarter 2013 Gross Domestic Product (GDP) came in last Thursday with a gain of 2.6% and inflation running at an annual rate of 1.6%. I would certainly like to see the GDP closer to 3%; however, I do not consider a 2.6% expansion reason for investors to sell the market off to any significant degree at this time. Additionally, the markets were spooked a bit by Janet Yellen’s (the new Fed Chair) comments last week that the Federal Reserve could begin to raise short-term interest rates as early as May 2015. Ms. Yellen’s comments did not reflect any real change to Ben Bernanke’s earlier pronouncements (except she put a date in her discussion) and she gave herself plenty of room to maneuver around that time frame. I have said many times before that the Federal Reserve must begin to change the face of monetary policy for the health of our economy and I believe she understands this will include raising interest rates to more normal levels at some point in time. What is unknown today is how successful the Federal Reserve will be in this transition to more normal monetary policy. I believe real risks like much higher inflation lay ahead if the Fed gets it wrong.


STAYING THE COURSE

I believe patience is one of the important attributes to successful investing. This is why I spent so much time with my comments earlier this year discussing the historic volatility of the S&P 500. I want each of you to understand that markets can be jumpy, especially in times of tension. The question in most investors’ minds is how do we know if a correction is part of the normal cycle of the markets or possibly something far more devastating like what happened in 2008? I attempt to answer this question by evaluating a number of data points/technical indicators beyond the normal range of economic statistics. What I see today does not, in my opinion, suggest that a major market correction is around the corner despite the lackluster start to the year.

Let me briefly discuss some of the technical indicators I consider when I make my observation about the markets. DorseyWright & Associates (DWA) provides all of the proprietary data for the indicators I am discussing in this section. Please note that technical indicators are just one tool you should use when evaluating an investment.

New York Stock Exchange Bullish Percent (NYSEBP): this is one of my key indicators of market risk. The NYSEBP looks at every stock listed on the New York Stock Exchange and counts how many are on a buy or sell signal on their individual point and figure chart (if you would like a more detailed discussion on point and figure charting, please give me a call). All the buys are tallied up and divided by the total number of stocks listed (approximately 2800) to get a percentage. This percentage is currently 63.5%--a little high but not extended (over 70% and the markets are considered to be of higher risk of a future pullback).

The Dynamic Asset Level Investing Indicator (DALI®): The DALI divides the overall market into six major asset classes: US stocks, International stocks, Bonds, Currencies, Commodities, and Money Market Funds. There are 1079 components representing all of these six major asset categories. These components are put into a matrix (similar to the one I described in my May 16th Update and Commentary) and then ranked by the number of victories each major asset category has. This gives me an idea of where the relative strength is within the market at any given time. US stocks have been the number one ranked major asset category since October 25, 2011, and importantly, has not shown any erosion in strength recently.

Over Bought/Over Sold Percentage (OBOS %): This indicator tracks the last ten weeks of prices for the S&P 500 index and places those prices on a normal statistical bell curve with the middle of the curve marking the ten-week price average. Currently the S&P 500 is just 24% overbought which tells me that the markets are not too expensive at this time. A reading north of 100% is considered to be very overbought while a reading of -100% is considered to be very oversold.

Money Market Fund Score and Ranking: DWA tracks 132 separate individual asset classes each day (not to be confused with the six major asset classes) and assigns a score to each individual asset class. Money Market Funds is one of those 132 individual asset classes. DWA computes a score for each of the individual asset classes based on a proprietary measure to summarize each individual asset class’ strength on a scale of 0 to 6 with 6 being the very best score. In my opinion, this indicator is my “canary in a coal mine” and if I see the money market score and ranking start to rise, my concerns will rise with it. Currently, the Money Market Fund score is 1.68 and the asset class ranks 127th out of 132 asset classes. This tells me that the Money Market asset class is only stronger than five other asset classes. I like to see the Money Market asset class near or at the bottom of the 132 individual asset classes.

Taking these indicators together along with many others, I use a disciplined methodology in determining my take on the markets. At times staying in the market may not “feel” right, however, I have learned over time to trust my data and to stay the course as warranted. I am also prepared to change course if I believe a shift in data suggests this is the proper action. Emotions and gut feeling can, at times, be the worst enemies of investors and lead people to use poor judgment when they manage their investments. Using these tools is not foolproof nor is it a panacea to make investing easy. Investing is not easy. There are going to be times when relative strength might lag markets such as in very choppy sideways markets, however, I do believe that trends appear in markets and understanding the general strength and direction of the market might help you overcome your emotions and may allow you to minimize the negative impact of making emotional decisions.


LOOKING AHEAD

Even with the lackluster performance so far this year, my guidance remains unchanged. I favor US stocks overall of the six major asset classes I follow. Within US stocks I prefer small and middle capitalization companies over large cap. I also continue to favor the Consumer Discretionary, Health Care, Industrials, and Financials sectors.

The International stock asset class still ranks number two of the six major asset classes. However, the International stock asset class has shown some weakness lately which has made it less attractive for now and I would avoid adding new money at this time. I continue to strongly advise against owning the Emerging Market region for now.

Bonds have shown some life with the pullback in interest rates. A defensive move for sure. I continue to like the High Yield and Floating Rate sectors within this major asset class.

The overall rally in the Commodity asset class continues and is looking slightly more attractive in the short term. While it may be too early fundamentally to add commodities to an allocation, the numbers are improving and are worth watching.

Next Friday’s (April 4th) release of the March Employment Situation report has the potential to be the major financial news story of the week. After a disappointing February report (129,000 increase in jobs), consensus is looking for a rebound to 206,000 new jobs in March. This is considered a key indicator of the vitality of the economy. Fed Chair Janet Yellen is also speaking tomorrow (Monday, March 31st) and her comments always have to possiblity to move markets.

My next Market Update and Commentary will be published around April 17th. I will postpone my review of the NCAA Men’s Basketball bracket analysis until after the Final Four concludes on April 10th. For those of you who do not follow the games closely, the Final Four will be made up of a 1 seed (Florida), a 2 seed (Wisconsin), a 7th seed (Connecticut), and an 8 seed (Kentucky).




Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of subindices, measuring both sectors and stock-size segments, are calculated for each country and region.

MARKET UPDATE AND COMMENTARY

March 16, 2014

I spent some time this morning trying to come up with just the right adjective to describe how stock markets have acted so far this year. Some of the words that came to mind were “squishy,” “unsettled,” “rudderless,” “aimless,” and “lackluster.” I think I will go with lackluster. So far this year nothing stands out to me that would allow me to identify a theme for the markets, but we are just eleven weeks into 2014 so there is still time. For the year, the Dow Jones Industrial Average is down 3.1% hurt primarily by the year-to-date stock price performance of General Electric (-10.4%), Boeing (-9.8%) and Travelers (-8.7%). The S&P 500 has held up a little better having lost only 0.4% so far in 2014. The Russell 2000 (a broader index that has smaller companies in its database) is up 1.5% and the technology-heavy NASDAQ is also up 1.6%.

As this market struggles to find an identity, I believe that a number of stories are contributing to the indifferent market performance both here and abroad. The two biggest being the Russian incursion into the Ukraine coupled with the geopolitical implications of a resurgent Russia (and possibly a declining USA), and the growing unease about economic growth in China. The Russia story is sad but straightforward—tyranny over freedom. The world has seen this type of thuggish behavior many times before and I suspect, will for many generations to come. The China story is a new one—ongoing conversion to free markets in a totalitarian state in order to stimulate domestic growth. The China story is also more complex which I will address in greater detail in the coming weeks, but for now let me summarize by saying that the Chinese government has decided to let its currency float a little and is trying to clean up a “shadow” banking system that is enormous and unregulated. Think of the shadow banks as a black market collection of lenders. How the Chinese government navigates this transition has global implications. Also keep an eye on Israel and the unrest there as militants from the Gaza area have renewed their rocket attacks on the Jewish state.

With the geopolitical concerns escalating, investors have been moving some of their assets into more defensive positions notably bonds and gold. The yield on the US 10-year Treasury has fallen 0.38% or 38 basis points (bps) since the start of the year (as yields fall, prices of bonds rise). The Barclays US Aggregate bond index has improved 2.1% year-to-date eliminating most of the losses from 2013. Gold prices have surged in the face of the geopolitical uncertainty gaining $176.00 an ounce (14.6%) this year helping push the DJ UBS Commodity index up 7.3%. Oil prices have been relatively stable in the face of rising demand as the US, Iraq, and even Iran have stepped up production.


MARCH MADNESS AND HOW I SEE THE MARKETS

For those of you who have worked with me or have been reading my Updates on a regular basis know that I talk about Relative Strength (RS) as one of the key analytical tools I use to study the markets and make investment decisions. You also know that I like to use sports analogies to help explain how RS works in context of investments. There is no better time of the year than March Madness to learn about or refresh your understanding of how RS works.

The NCAA men’s basketball tournament is known as March Madness. It is a head-to-head single game elimination tournament to determine who is the best college basketball team in the land, and some would argue the most exciting couple of weeks in sports each year.

Sixty-four teams earn spots or are selected to compete in the tournament. The teams are divided into four regions of 16 teams. Since 1979, the NCAA has seeded the teams in each region based upon their perceived strength in an effort to prevent two outstanding teams from meeting early in the tournament and sending one of the better teams home prematurely. The NCAA’s selection committee is tasked to pick those teams that do not earn an automatic bid along with ranking every team and seeding them into the regions. They use a variety of quantitative and qualitative measures such as quality of schedule, number of victories, and recent performance to make their seeding decisions. Once the tournament starts, all the #1 seeds plays the #16, the #2 seeds play the #15, and so on. My friends at DorseyWright & Associates using information from CBS Sports have created the chart below to show you just how each seed has performed over the past 29 years.

Here are a couple of key takeaways:

1) No #16 seed has defeated a #1.
2) The #1 seeds have the highest win percentage at 80%.
3) The top three seeds have won 73% of all games played, while
4) The bottom three seeds have won only 7% (27 games) of games played.
5) The top five seeds have won 68% of all games played while the bottom 5 seeds have won only 17% of their games.

You may ask, so what. Why does this matter? Well for many fans both serious and casual, when it comes time to participate in the office pool and bragging rights are at stake, success may be no further away than simply picking by seed. Does this mean you will win? Probably not. In fact it is so hard to predict every game correctly that Warren Buffett and Quicken Loans have offered $1 billion to anyone who can do just that for this year’s tournament. What are the odds? The game rules estimate the chances are one in 9 quintillion! How much is a quintillion—let me just say it is so small that Warren Buffett is willing to wager $1 billion in an advertising campaign on those odds.

The good news is that as investors we do not have to pick each and every game correctly to succeed. We need to be generally right. There is always going to be a Cinderella team that disrupts the brackets or strong RS stock that disappoints, but that is simply the way it is. There is nothing we can do about that. But when confronted with uncertainty, thousands of choices, and countless opinions, I want to be able to focus my decision making on the “top seeds” and avoid the bottom ones.

Using a relative strength matrix like the example on the left (Dow Jones Industrials 30 components) allows me to identify the “top seeds” currently found in the DJIA and use this information as a guide to my investment decision making.

Let me interject an important reminder: past performance is not a guarantee of future returns and all investing involves risk. There is no full proof methodology that can guarantee success.

Matrices like the one on the left can be created for virtually any index or investment that trades on a daily basis. I use data derived from a similar group of matrices each week when I comment in the LOOKING AHEAD section about which asset classes, size and styles of stocks, and sectors I prefer. These matrices are dynamic and reflect the current strength of the evaluated investments or indexes at any given moment.

These tools are invaluable to help me focus my attention and analysis to those investments that I believe have a higher probability for success as compared to the entire universe, and while the concept is not new, technology has allowed the matrices to become more robust and responsive in just the past few years. As an Army brigade commander told me years ago when I was a young lieutenant, “work smarter, not harder!” This is a lesson I continue to live by today and certainly applies to relative strength analysis.


LOOKING AHEAD

I know that I sound like a broken record because the overall relationships in the markets have not changed in many, many months. I favor US stocks overall of the six major asset classes I follow. Within US stocks I prefer small and middle capitalization companies over large cap. I also continue to favor the Consumer Discretionary, Health Care, Industrials, and Financials sectors.

The International stock asset class still ranks number two of the six major asset classes. However, the International stock asset class has shown some weakness lately which has made it less attractive for now and I would avoid adding new money at this time. I continue to strongly advise against owning the Emerging Market region.

Bonds have shown some life with the pullback in interest rates. A defensive move for sure. However, I continue to like the High Yield and Floating Rate sectors.

The overall rally in the Commodity asset class continues and is looking slightly more attractive in the short term. While it may be too early fundamentally to add commodities to an allocation, the numbers are improving and are worth watching.

Last week’s 2% pullback in the markets marks the second largest weekly drop in 2014 and the S&P 500 has now pulled back 2.25% from its all-time high of 1878.04 on March 7th. As this market drifts for a while I believe you can continue to anticipate greater volatility, but as I have said before, the underlying fundamentals of this market have not changed.

My next Market Update and Commentary will be published around April 1st. I plan on spending a few minutes to analyze how this year’s seeds do compared to the historical averages and see if there are any lessons we can take away from this great example of relative strength.

Happy St. Patrick’s Day!




Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of subindices, measuring both sectors and stock-size segments, are calculated for each country and region.

MARKET UPDATE AND COMMENTARY

March 3, 2014

Stock markets posted solid gains for the month of February after getting off to a poor start in January. The Dow Jones Industrial Average (DJIA) gained 4.0%, the S&P 500 added 4.3%, the Russell 2000 increased by 4.6%, and the Nasdaq Composite led all major US indexes with a 5.0% gain. For the year, the DJIA remains in negative territory with a current loss of 1.5%. The S&P 500 is now up 0.6%, the Russell 2000 is up 1.7%, and the Nasdaq is up 3.2%.

Looking at the eleven major economic sectors, Materials, Consumer Discretionary, and Health Care were the best performing sectors in February, while Real Estate, Health Care, and Utilities are the best performing sectors so far in 2014.

International markets also performed well in February. The Dow Jones Global ex-US TSM index (a broad index comprised of 76 countries led by Japan, the United Kingdom, Canada, France and Germany) was up 4.8% and is now up 0.4% for the year. The Emerging Market region continues to lag gaining 3.6% in February and remains down 3.6% for the year while the Developed Market region gained 4.8% in February and is up 1.2% for the year.

Bonds have continued to perform well as interest rates have fallen for most of 2014. The US 10-year Treasury yield closed Friday at 2.655% compared to 3.030% at end of 2013. This has helped provide gains for most bond investors after struggling last year. The broad Barclays Aggregate US Bond index has gained 2.0% in 2014. It is interesting to note that interest rates have fallen even as the Federal Reserve has continued its policy of reducing bond purchases by $10 billion per month refuting the belief held by some economists that interest rates would rise dramatically as bond purchases were tapered. I do believe that the Fed will continue to reduce bond purchases.

Commodities continues to be a bright spot with the UBS Dow Jones Commodity index gaining 6.5% in 2014 led by a jump in Gold (9.7%), WTI Oil (4.2%), and Natural Gas (12.3%). The jump in commodities has been assisted by a general decline in the US Dollar against most major currencies. As the US Dollar weakens, commodity prices become cheaper for non-US consumers (but higher here in the US) since nearly all commodity trades are made with US Dollars.

STATE OF THE US ECONOMY

The 4th Quarter 2013 Gross Domestic Product (GDP) was adjusted downward last week from 3.2% to 2.4%. This downward revision was not totally unexpected and there are indications that the bitter December weather contributed to the downward revision. I have stated previously that I expect this quarter’s data to be weak as well, however, I do believe that the balance of 2014 will be stronger and that the US economy is growing at between 2.5% and 3% annually. I am the first one to say that this economy should be stronger but the yoke of government regulation and fiscal policies such as higher taxes are holding back our economy.

I remain positive on the US economy for a number of reasons including:

 Continued US job growth. More workers mean a stronger economy.

 Demographics. The US population continues to grow.

 Re-shoring of US jobs. US manufacturing in particular is bringing jobs back to the US from foreign operations. Additionally, foreign manufacturers like the stability of the US and a strong workforce and are also growing their presence here. Lower energy prices have also contributed to this trend.

 Technology. The US continues to dominate the world in technological innovation. Technology goes right to the bottom lines of US business income statements.
 The Federal Reserve is continuing accommodative monetary policies. Fed Chair Janet Yellen has signaled that she will not tighten policy any time soon.
 Energy continues to be a huge bright spot for our economy today and into the future. As we move rapidly to energy independence, we will create more jobs and keep more dollars here in the US.
 Housing market continues to strengthen.
 US entrepreneurs. American creativity and a desire to succeed will continue to motivate the private sector to expand and improve the lives of all of us.

These long-term trends will, in my opinion, create a stronger and growing economy for many years. This does not mean that markets will simply go up, up, up. There will be challenges to growth and risks that will always be present. Some of these risks are:

 Geopolitical turmoil. The Middle East, North Korea and now Ukraine are flash points that worry investors. The Ukraine is currently hotspot #1.
 Tax increases. Unless the government can find a solution to curtail the explosion of entitlement payments, we will continue to drown in ever-growing debt. Raising taxes to pay for benefits will take much needed revenue away from the private sector and curtail economic growth.
 Debt. Too much government spending and the prospect of paying higher interest rates on our $17+ trillion in federal debt (I am not even going to mention state and municipal debt) can squeeze the government’s ability to pay for everything. Interest rates are not going to remain low forever.
 Political gridlock in Washington. The current state of affairs in Washington is preventing more pro-growth fiscal policies from being enacted.

It is easy to be focused on much of the negative news that swirls around us every day. Remember, news outlets have one objective--to get more readers and viewers so they can charge higher advertising rates. They accomplish this by heavily promoting the negative and sensational. Do not be swayed. There is much to be optimistic about and celebrate. The markets understand this and I believe this is why we have seen such solid growth in stocks over the past four years.

LOOKING AHEAD

I am finishing this Market Update and Commentary on Monday morning, March 3rd. The European markets are all down to start the week off due to the turmoil in Ukraine. US futures are down sharply so I anticipate that some of this selling pressure will move across the Atlantic. Even though it appears that Putin is acting with impunity, markets in Russia are down about 15% so far this year, and the Russian central bank jumped a key interest rate 1.5% to 7% to prop up a plunging ruble. The central bank took this action to make the ruble more attractive as an investment hoping to stem the outflow of US Dollars and Euros out of the country. The average Russian citizen is now facing the prospect of higher inflation and a slowing economy. While the turmoil in Ukraine is a difficult situation, I also believe its impact on the markets will be temporary in nature.

US stocks are still favored and this key major asset class leads all other on a relative strength basis. Within US stocks I prefer small and middle capitalization companies over large cap. I also continue to favor the Consumer Discretionary, Health Care, Industrials, and Financials sectors.

International stocks currently rank number two of the six asset classes. However, I strongly advise against owning the Emerging Market region and suggest continued focus on the Developed Market region—especially Europe. I would consider the current trouble in Europe as a potential buying opportunity over the next couple of weeks.

Bonds have shown some life with the pullback in interest rates. A defensive move for sure. However, I continue to like the High Yield and Floating Rate sectors.

Gold continues to surge in 2014. It is a pure defensive play and futures indicate a strong jump for gold today. I still have my doubts about gold as a long-term investment in 2014.

Do not be alarmed by any short-term volatility arising from events in the Ukraine. These things happen, but if I see fundamentals break down, I will let you all know.

My next Market Update and Commentary will be published around March 17th.




Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of subindices, measuring both sectors and stock-size segments, are calculated for each country and region.