For July, our Risk Odometer held steady at +3 and our outlook remained “Positive”—a rating we have maintained for more than a year. While individual risk factors have naturally emerged over this period, causing minor fluctuations in our net score, the vast majority have stayed favorable. Consequently, a weighing-of-the-evidence approach keeps our overall outlook steady at its highest level.
Stable and consistent “Positive” outlooks are common during bull market cycles like we are witnessing today. There will be periods of intermittent volatility because they are inevitable. The key is to distinguish between meaningful and justified volatility stemming from fundamental changes in the economy, i.e., a “signal,” and unjustified and non-meaningful “noise.” Signals precede recessions and significant market corrections while noise accompanies resilient economic backdrops and smaller corrections.
Our Risk Odometer and its objective approach helps us to distinguish between signals and noise. For the past year, as our Risk Odometer’s net score varied marginally but remained positive as a whole, helping us classify intermittent volatility as noise rather than a signal. At some point the noise will turn into a signal, but we do not see that occurring soon, so long as the hyper scalers continue to increase their AI capex spending and the labor market remains firm.
Risks will always be prevalent. The harder you look, the more you can find. They exist today with a new Fed Chairman and an uncertain monetary policy going forward, sticky inflation, how the hyper scalers will finance their capex plans and if they will generate meaningful returns on invested capital. For now, they remain noise as the economy remains resilient. When the noise changes to signals, we expect our Risk Odometer to help us identify the difference. In the meantime, we are grateful what the markets give us and plan to ride the wave as long as it exists.
As always, we continue to believe our Risk Odometer provides guidance in making better investment decisions because it keeps us objective and disciplined. We use this methodology and advise our clients to do the same. Emotions are our enemies in investing.
It is important to understand that our Risk Odometer is not designed to anticipate small to medium corrections, typically those in the 5-15% range. Instead, it monitors for conditions which have typically preceded larger corrections. We believe trying to anticipate small to medium corrections sounds attractive but more often results in lost opportunity than savings.
The Equity Market Risk Odometer is our guide for judging risk in the equity market. It is used as a guide for investment decisions in our proprietary investment strategies. It is composed of various indicators based on leading economic indicators, earnings, technical price action, breadth, and volatility. Its score can range from +5 to -5. Readings greater than one are positive and readings less than or equal to zero are negative.
