Hope Alone MODEL CAPITAL MANAGEMENT LLC

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1 MODEL CAPITAL MANAGEMENT LLC Hope Alone IMPORTANT NOTICE The following material is provided by a third-party strategist unaffiliated with AssetMark. The strategist is solely responsible for its content. Please read the risks and disclosures section for additional important information. AssetMark has not verified the accuracy of the information contained in this material. For financial advisor use with advisory clients. C /2018 EXP 06/30/2020 AssetMark, Inc. is an investment adviser registered with the Securities and Exchange Commission.

2 60 State St. Suite 700, Boston, MA modelcapital.com May Be Used With Advisory Clients Focus: U.S. Tactical Limit-Loss Strategies: Tactical Growth (Stocks-Bonds), Tactical 2xGrowth (2xStocks-Bonds), Tactical Income Hope Alone Our equity model continues with a defensive position Roman Chuyan, CFA February 28, 2019 Our equity model s 6m forecast for the S&P 500 has declined to -3.5% on market valuation. The negative forecast continues to dictate defensive allocation. It appears that we have seen a peak in both earnings and the global economy. Surveys suggest that manufacturing in the Eurozone, China, and Japan is now contracting. Equities continued to rally in February on hopes that a pause in Fed tightening and a U.S.-China trade deal can extend the business cycle and the 10-year bull market. The S&P 500 index in now up about 11.5% year-to-date, and non-u.s. stocks gained 9%. We think it s based on hope alone, not supported by data. S&P 500 and Operating P/E Ratio, Sources: Quotemedia, Ycharts. Figures as of 2/27/19. It is not possible for an individual to invest directly in the S&P 500 index. To put it in a longer-term perspective, we re coming off high valuation in 2018, measured by most valuation metrics (the operating P/E ratio is shown above). Valuation alone is not a very accurate stock market predictor an expensive market could continue to rally as it did in the late 1990s and in Model Capital Management LLC. All rights reserved. 1

3 However, it appears that we have seen a peak in both earnings and the global economy. S&P 500 earnings are now expected to decline in the coming quarters. And while U.S. growth has only slowed, non- U.S. manufacturing purchasing manager indexes (PMI), which are good predictors of overall economic growth, continue to fall sharply. PMIs suggest that manufacturing in the Eurozone, China, and Japan is now contracting see Economic Focus. Equity Return Forecast The 6-month return forecast for the S&P 500 by our fundamentals-based statistical model dropped to -3.5% from -2.8% on January 31 st. A negative forecast dictates continued defensive allocation (no equity exposure) in our tactical growth limit-loss portfolios. Factor rebalancing is part of the model s dynamic design: out of the initial set of 24 factors, it activates only those that meet the 95% confidence level of statistical significance, while other factors remain dormant. Non-energy Commodity Index was activated this month, replacing Fund Cash Allocations and AAII Investor Sentiment. This leaves ten active factors in the model. Overall 6-Month Forecast -3.5% = -6.8% +4.4% -1.1% Short-Term Risk Valuation (2 factors) -6.8% Economic (3 factors) 4.4% Market (5 factors) -1.1% The combined effect of valuation factors has declined to -6.8% in February, as both the earnings and book value multiples increased. The effect of economic factors increased to 4.4% as New Home Sales improved in November. This is the latest data available due to the delays caused by the recent government shutdown. We will update the model with the January data as soon as it is released. The combined effect of market factors declined to -1.1% this month, due primarily to the replacement of the Fund Cash Allocation factor with the CRB Commodities Non-Energy index. Our data-driven short-term risk model looks for patterns that preceded previous sharp market declines. The risk model now gives a Sell signal based on its contrarian Investor Sentiment component Model Capital Management LLC. All rights reserved. 2

4 The model s negative forecast is based almost entirely on our model s valuation component, which indicates that the market is overvalued by 6.8%. The Price-to-Book Ratio provides the bulk of the negative contribution, -4.8% Model Capital Management LLC. All rights reserved. 3

5 Economic Focus Was economic weakness temporary? U.S. economic data weakened in the December-January period, including the largest monthly drop in retail sales since 2009 and a decline in manufacturing. However, it s not yet clear if this is temporary due to the government shutdown and market turmoil, or the beginning of a trend. Consumer confidence rebounded in February: But other February survey data has been mixed. The Markit manufacturing PMI unexpectedly weakened to 53.7 (values above 50 indicate growth): Manufacturing PMI, 5 Years 2019 Model Capital Management LLC. All rights reserved. 4

6 The housing market data is represented broadly in our model because it has historically led stock market returns. Delayed by the government shutdown, the latest available reading in New Home Sales jumped in November to a seasonally adjusted annual rate of 657,000. The strong reading in this factor currently contributes 3.3% to our equity model s forecast for the S&P 500. As the latest data is released, its effect in the model will change likely a drop, judging from the latest trend in existing home sales. New Home Sales (SAAR, 000 s), 5 Years Existing home sales fell sharply in the past two months to a seasonally adjusted annual rate of 4.94 million in January, its lowest since 2015: Existing Home Sales (SAAR, 000 s), 5 Years 2019 Model Capital Management LLC. All rights reserved. 5

7 Meanwhile, non-u.s. manufacturing PMI surveys which are good predictors of overall economic growth continue to fall sharply. The Markit Eurozone Manufacturing PMI dropped to 49.2 in February from January's 50.5, and below market consensus of Readings below 50 suggest a contraction, and this is the steepest contraction in European manufacturing since June Euro Area Manufacturing PMI, 5 Years The Caixin China General Manufacturing PMI fell to 48.3 in January from 49.7 in December, pointing to the steepest contraction in the manufacturing sector there since February China Manufacturing PMI, 5 Years 2019 Model Capital Management LLC. All rights reserved. 6

8 About Model Capital Management LLC Model Capital Management LLC ( MCM ) is an independent SEC-registered investment advisor, and is based in Boston. Utilizing its fundamental, forward-looking approach to asset allocation, MCM provides asset management services that help other advisors implement its dynamic investment strategies designed to reduce significant downside risk. MCM is available to advisors on AssetMark, Envestnet, and other SMA/UMA platforms, but is not affiliated with those firms. Notices and Disclosures 1. This research document and all of the information contained in it ( MCM Research ) is the property of MCM. The Information set out in this communication is subject to copyright and may not be reproduced or disseminated, in whole or in part, without the express written permission of MCM. The trademarks and service marks contained in this document are the property of their respective owners. Third-party data providers make no warranties or representations relating to the accuracy, completeness, or timeliness of the data they provide and shall not have liability for any damages relating to such data. 2. MCM does not provide individually tailored investment advice. MCM Research has been prepared without regard to the circumstances and objectives of those who receive it. MCM recommends that investors independently evaluate particular investments and strategies, and encourages investors to seek the advice of an investment adviser. The appropriateness of an investment or strategy will depend on an investor s circumstances and objectives. The securities, instruments, or strategies discussed in MCM Research may not be suitable for all investors, and certain investors may not be eligible to purchase or participate in some or all of them. The value of and income from your investments may vary because of changes in securities/instruments prices, market indexes, or other factors. Past performance is not a guarantee of future performance, and not necessarily a guide to future performance. Estimates of future performance are based on assumptions that may not be realized. 3. MCM Research is not an offer to buy or sell or the solicitation of an offer to buy or sell any security/instrument or to participate in any particular trading strategy. MCM does not analyze, follow, research or recommend individual companies or their securities. Employees of MCM may have investments in securities/instruments or derivatives of securities/instruments based on broad market indices included in MCM Research. 4. MCM is not acting as a municipal advisor and the opinions or views contained in MCM Research are not intended to be, and do not constitute, advice within the meaning of Section 975 of the Dodd-Frank Wall Street Reform and Consumer Protection Act. 5. MCM Research is based on public information. MCM makes every effort to use reliable, comprehensive information, but we make no representation that it is accurate or complete. We have no obligation to tell you when opinions or information in MCM Research change. 6. MCM DOES NOT MAKE ANY EXPRESS OR IMPLIED WARRANTIES OR REPRESENTATIONS WITH RESPECT TO THIS MCM RESEARCH (OR THE RESULTS TO BE OBTAINED BY THE USE THEREOF), AND TO THE MAXIMUM EXTENT PERMITTED BY LAW, MCM HEREBY EXPRESSLY DISCLAIMS ALL WARRANTIES (INCLUDING, WITHOUT LIMITATION, ANY IMPLIED WARRANTIES OF ORIGINALITY, ACCURACY, TIMELINESS, NON-INFRINGEMENT, COMPLETENESS, MERCHANTABILITY AND/OR FITNESS FOR A PARTICULAR PURPOSE). 7. Model Return Forecast for 6-month S&P 500 return is MCM s measure of attractiveness of the U.S. equity market obtained by applying MCM s proprietary statistical algorithm and historical data, but is not promissory, and, by itself, does not constitute an investment recommendation. Model Return Forecasts were calculated and applied by MCM to its research and investment process in real time beginning from For periods prior to Jan 2012, the results are back-tested, i.e., obtained by retroactively applying MCM's algorithm and historical data available in Jan 2012 or thereafter. Source for the S&P 500 actual returns: S&P Dow Jones. 8. Index returns referenced in MCM Research, if any, are gross of any advisory fees, fund management fees, and trading expenses. Fund or ETF returns referenced, if any, are gross of advisory fees and trading expenses. Returns will be reduced by fees and expenses incurred Model Capital Management LLC. All rights reserved. 7