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ROOF Highlights — February 8, 2021

Qontigo ROOF™ Score Highlights: Week of February 8, 2021

Potential triggers this week: Continued tug of war between economic drag from ongoing COVID-19 responses and economic push from fiscal stimulus package. Also out this week, inflation numbers for the US and China, and UK Q4 2020 GDP. The Q4/FY 2020 earnings reporting season continues and investors will return to their job of punishing misses and rewarding surprises.

Summary: The Q4/FY 2020 earnings season has provided investors with a game within a game. At a high level, sentiment is driven by the fight between the negative impact of the pandemic on the economy and the offsetting positive impact from monetary and fiscal stimulus packages. Earnings simply inform investors as to which segments of the economy those stimulus checks will go to. Add to this the GameStop saga – the crack cocaine equivalent of online investing – all of which makes for a sexy and exciting few weeks for markets but not in the way investors would cheer for. The week ended mixed with most markets showing a divergent mood between our Style and Sector ROOF Ratios. It seems investors are willing to punt on certain styles (Growth, Market Sensitivity, Volatility) but are not tying those bets to an overall economic recovery scenario via sector allocation/rotation until they become more confident on the direction of geopolitics under the new US administration.

US investors bet on Styles but not on Sectors as ROOF Ratios diverge from each other.

The GameStop sage which briefly spooked investors a few weeks back gave way to renewed optimism on the back of strong earnings from pandemic favorites boosted by the prospect of another round of fiscal stimulus checks. This disagreement between the Style and Sector ROOF ratios indicates that investors have reversed their sector rotation trade started after the vaccine news and are back to chasing 2020 favorites, mostly for their style exposures (top chart).

The Style ROOF methodology is more attuned to short-term speculative influence on sentiment which may affect the trifecta of Growth, Market Sensitivity, and Volatility factor returns. The Sector ROOF methodology is driven more by sector returns and better reflects investors longer-term view on the economy. In this context, their divergence is telling with the Sector ROOF risk aversion (red line) rising and risk tolerance (green line) declining last week (bottom chart).

Sentiment in Europe continues to weaken but remains in the bullish zone.

Both ROOF Ratios continued to retrace their recent surge but remain in the Bullish zone (top chart). Markets, meanwhile, are ignoring this short-term retracement preferring instead to focus on the impact both the additional fiscal stimulus and the vaccines will (eventually) have on the economic recovery.

The risk tolerance (green line) and risk aversion (red line) for the Sector ROOF point to a retracement of the sector rotation trade that occurred after the vaccine news in November (bottom chart).  The supply and demand balance for risk remains well in favor of demand but has been weakening for two consecutive weeks now. At these levels, this retracement does not suggest an imminent downturn for markets but do signal a lack of conviction on their current direction (i.e., investors want to believe in higher market levels but more economic evidence is needed).

Sentiment remains in sync with global markets and defiance in Asia falls back in line for now.

The STOXX Global 1800 and sentiment remain in sync this past week (top chart). After a brief divergence in early January, pulling the market down a notch by the end of the month, both markets and sentiment have regained strength in the last two weeks and are directionally aligned towards for an attempt at higher levels.

Asia has been a story of divergence and denial since the start of the year with markets ignoring a dangerously declining risk appetite in favor of repeated tests of historical new highs. Despite sentiment’s turnaround this past week, the supply and demand for risk remains firmly on the supply side and any negative news is likely to fall on bearish ears rather than bullish ones at this point. If the recent improvement in risk aversion levels can be credited to the earning season, a deterioration is likely to come from the geopolitical spectrum once the reporting season is over.