Reducing US Energy Allocation (26 Jan ’17)

US Energy Sector weakening relative to US Equities SPX S&P500 IndexThere is little doubt that one of the most profitable trades of 2016 was long Energy – in particular, long Oil.

However, our most recent monthly publication which looks at US Sectors relative to the background SP500 Index, suggests Energy prices could come under some pressure into early 2017. On a relative basis, Energy prices are turning back from the 2016 highs, and are now pressuring the 2016 trendline. Coupled with falling momentum studies, risk/reward suggests a corrective pullback as Hedge Funds, Pension Funds, asset managers and other ‘big players’ rebalance their portfolio allocations.

Individual US stocks which are currently coming under pressure include Chesapeake Energy, Chevron, Exxon Mobil and Murphy Oil.

The next question, however, is where to place the excess funds?

A first thought could be to increase exposure in the Financials sector. There have been significant gains in recent months, including a sharp push higher following the inauguration of President Trump. However, there are signs of maturity appearing here, also, (evidenced by the corrective pullback in both JP Morgan Chase and Berkshire Hathaway), and we anticipate this will also lead to asset rebalancing.

We believe the Materials Sector could provide investment opportunities into the coming months. Prices relative to the SP500 Index are now pressuring highs from 2016 and the 50% retracement of the 2014-2015 fall. Momentum studies are improving, suggesting a break higher in the coming months towards the 61.8% retracement.

In the coming days, we will reduce our Energy Sector allocation and identify several US stocks which we believe will benefit from this break higher in the Materials Sector.

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