CITI’S TAKE
One tactical tool we have found useful in the past has reached a warning level typically seen around market tops. The POLLS (Positioning, Optimism, Liquidity, Leverage and Stress) indicator developed by our equity markets colleagues triggered, jumping to the 18 level (from 15). From Figure 1, we show that recent events have further validated our tactical signal as it correctly flagged both the AI-driven risk-off episode early last year and the more recent US-Iran conflict sell-off. Figure 2 shows that SPX returns in the next 30-50 trading days are weaker, with the mean and median around 3% to 4% lower (assuming 1d implementation lag). Through our macro-regime lens, the outlook is benign, favoring real assets (equities and commodities) over nominal (bonds and credit) as markets balance an AI-productivity driven “Goldilocks” regime or stagflation fears. Our Macro team discussed different scenarios of the US-Iran conflict in Global Macro Strategy – Views and Trade Ideas – Deal or no deal? and investigated bond yields’ reaction functions around the oil peaks. More pertinent to equities, the team highlighted the US as the only region where positioning has become more stretched relative to the pre-war setup (Figure 4), albeit the KOSPI has the highest positioning score. Asset-allocators have also been adding risk in US and EM equities.
We think the risk of some near-term profit-taking in US equities is elevated given the combination of extended positioning and our tactical signal hitting critical level. However, this must be balanced with the imminence of a potential reduction in geopolitical tensions. Figure 5 shows the impact of lagging (or leading) the signal in our back-test setup focusing on the trigger dates. There are negative returns over the subsequent 22d holding period (calculated as the Sharpe ratio from trigger dates + or – t) up to a 7d lag with the low point being 3 trading days after the trigger, with a meaningful deterioration in efficacy coming 5 days after the trigger.