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Late Cycle Investing Playbook


Late Cycle Investing Playbook


“You can’t predict, however you can prepare”

Howard Marks on The Tim Ferris Show


It’s now been 2,416 days (or 6.5 years) since the last 20% market correction.  In secular bull market cycles, the average is 1,105 days before a 20% correction occurs.  While we may not know what lies ahead, investors can enhance their likelihood of success if they base their actions on a sense for where the market stands in its cycle.

So where are we in the current market cycle?  The economic recovery in the US post 2008-09 has now entered its 10th year.  It’s worth noting that the longest U.S. recovery on record lasted just ten years.  While there certainly is no hard-and-fast rule that limits economic recoveries to 10 years, it seems reasonable to assume based on history that the odds are against a ten-year-old recovery continuing for much longer.

With it being the 10th year of the economic recovery, you may be wondering what one should do at the later stages of the economic cycle?  Move to cash and wait for the next market correction and opportunity to buy low?  ABSOLUTELY NOT!  If you fool yourself into believing you can time the market successfully, know that even the smartest of professional investors with the best technology and teams of research professionals can’t do this consistently.  However, if you’d like to apply a sensible investment strategy that has performed well on a relative basis in the 7th, 8th, and 9th (later) innings of the economic cycle, continue reading.

But first, an update on the US economy, and it’s mostly good news… 

  • We’re about to hit 9 consecutive quarters of accelerating US GDP growth (from 3Q 2016 to 3Q 2018), an unprecedented streak in US economic history.
  • Corporate profits have grown at a staggering 25% year over year, which is important because the US has never experienced a recession when corporate profits have been increasing.
  • There’s never been a recession in the US when the leading indicators have been rising as they are now.

While the S&P 500 was up nearly 9% this year (through September 30), the bulk of returns was driven by a few large tech stocks, not broad market participation.  On a recent conference call, Larry Fink, the CEO of Blackrock (one of the world’s largest asset managers) was quoted as saying, “If you strip out a handful of outperforming tech stocks, the lack of breadth in the equity markets is troubling.”  And the numbers are very much alarming.  Apple and Amazon were responsible for nearly 30% of the S&P 500’s nearly 9% gain so far this year, according to S&P Dow Jones Indices.

There are certainly risks to weigh…

I’m concerned that investors have largely ignored the glaring risks associated with major tech companies, such as potential punitive measures that could affect Apple’s manufacturing in China or cost increases that could hurt Amazon’s e-commerce sales, both risks to constituents that contributed 30% of the current returns to the S&P 500.  We’ll obviously need broader participation overall, and in particular from the financial sector to keep this bull market chugging along.

High levels of investor optimism, without a healthy level of skepticism also indicate we’re nearing a peak in the cycle, and that the easy money has been made.

A few more anecdotal pieces of evidence to support this extreme optimism:

  • At the beginning of 2018, 2,296 private equity funds were in fund-raising mode, seeking $744 Billion of equity capital. These are all-time highs. (Financial Times)
  • According to Crunchbase, there have been 268 venture capital mega-rounds ($100 million rounds), invested during the first seven months of this year, almost equal to a record of 273 mega-rounds for the entire year of 2017. And during the month of July alone, there were 50 financing deals totaling $15 billion, which is a new monthly high.” (The Robin Report)
  • Personal loans are surging. The amount outstanding reached $180 billion in the first quarter, up 18%.  “Fintech companies originated 36% of total personal loans in 2017 compared with less than 1% in 2010, Chicago based TransUnion said.” (Bloomberg)

Remember that every single economic cycle ends with wage growth accelerating; and every single US recession starts with wage growth accelerating (Hedgeye).  So while Amazon raising its hourly minimum wage to $15 seems positive for the economy, its likely a signal of where we stand in the market cycle.

While the US economy is doing quite well, it’s important to not overlook the market and economic structural concerns that remain.  Increasing federal debt will eventually cause interest rates to rise sharply and stifle housing and capital spending.  Higher tariffs imposed by the US are punishing already ailing Europe and the rest of the world where growth has been contracting.

In Europe, where the economy was growing at close to 2% last year, business activity has tapered off.  The UK is growing at only 1%, or one half of its growth rate prior to Brexit.  And in this globally interconnected economy, our markets, and specifically the S&P 500 generates more than 40% of their earnings from abroad.  So when the rest of the world catches an economic cold, we aren’t necessarily immune.

Now that you’ve had time to digest the good and the bad, let’s get to the main objective of this commentary—sharing with you, the strategies that are more effective at the later stages of the market cycle.  Stocks that have historically exhibited lower risk and higher quality characteristics, which will likely lag in a stronger market environment like the one we’re currently in, but over a full market cycle, could expect to earn a better risk-adjusted set of returns than the overall market.  Which is why, going into year-end, I’m beginning to trim my client’s exposure to cyclical growth sectors (Tech, Consumer) and re-allocating to sectors and stocks that demonstrate lower volatility and higher quality factors.

Specifically, here are some investment strategies for further consideration:

  1. USMV. iShares Edge MSCI Minimum Volatility USA ETF

USMV is a strategy designed to track an index composed of U.S. equities that as a whole have lower volatility characteristics in relation to the broader U.S. equity market.  This strategy carries a beta of 0.67 in relation to the S&P 500.  Beta is a measure of the tendency of securities to move with the market as a whole.  A beta of 1 indicates that the security’s prices will move with the market.  A beta less than 1 indicates the security tends to be less volatile than the market, while a beta greater than 1 indicates the security is more volatile than the market.

Important to note, and taken directly from the fact sheet of this fund: Historically, USMV has declined less than the market during market downturns.

  1. VIG. Vanguard Dividend Appreciation ETF.

VIG is a strategy designed to track the performance of the NASDAQ US Dividend Achievers Select Index, an index of companies that have a record of growing their dividends year over year for a period of at least 10 consecutive years.  The strategy targets highly profitable U.S. dividend paying stocks, reducing the fund’s exposure to stocks with weak fundamentals.  The fund’s tilt toward more stable stocks has helped it shine during market downturns.

By no means should you entirely abandon the technology and consumer discretionary sectors, rather, if adding new cash to the markets at these levels, look to the above strategies providing exposure to companies with more stable cash flows and “boring businesses” that are less sensitive to the ebbs and flows of the economy.


Warm Regards,



Aaron L. Hattenbach, AIF®

Managing Member

Rapport Financial

[email protected]


The opinions expressed herein are those of Rapport Financial, LLC (RF) and are subject to change without notice. Past performance is not a guarantee or indicator of future results. Consider the investment objectives, risks and expenses before investing.  You should not consider the information in this letter as a recommendation to buy or sell any particular security and should not be considered as investment advice of any kind. You should not assume that any of the securities discussed in this report are or will be profitable, or that recommendations we make in the future will be profitable or equal the performance of the securities listed in this newsletter. These securities may not be in an account’s portfolio by the time this report is received, or may have been repurchased for an account’s portfolio. These securities do not represent an entire account’s portfolio and may represent only a small percentage of the account’s portfolio. partners, employees or their family members may have a position in securities mentioned herein.  Rapport Financial was established in 2017 and is registered under the Investment Advisors Act of 1940. Additional information about RF can be found in our Form ADV.