Finlight Research - Market Perspectives - Jul 2016

Market Perspectives
July 2016
Jul. 6th, 2016
Post-Brexit: Week Two
www.finlightresearch.com
Don't Be Fooled By Optimism!

“Brexit is the thumb pulled from the hole in the
dike”
– Lawrence Fuller
“Brexit could be followed by Grexit,
Departugal, Italeave, Czechout, Oustria,
Finish, Slovakout, Latervia, Byegium. Only
Remania will stay.”
– Anonymous
2
FinLight Research | www.finlightresearch.com

Executive Summary: Global Asset Allocation
One of our 2 potential Black Swans of 2016 has arrived: Brexit. Friday, June 24
was a rough day for risk. Gold, Yen and Bitcoin performed best as ‘risk off’ hedges
No one knows for sure what the economic implications of the UK's Leave
vote will be, but there is a general consensus that it will not be good
The only certainty is that the UK ‘Brexit’ decision adds another complex layer of
uncertainty to all markets and may weigh on the already lethargic DM economies.
Following the UK Leave vote, the sell-off episode was rather time-limited and the
surge in volatility was somewhat contained. After a roller coaster ride, we're back
where we started. But, do not be fooled by optimism…
Our view is that euphoria won't last too long. The rather violent rally we are
witnessing will run out of steam soon.
The market remains expensive and needs increased earnings to move higher.
The world economy is more fragile than ever. But the less appealing the UK and
Eurozone markets appear, the more appealing the US market will be perceived.
A key concern at this stage remains the lack of diversification as most safe
assets appear too stretched. Even bonds have become a driver of market fragility
We reiterate our view that a perfect storm is building… After several years of
equities and bonds rallying together, both are expensive and vulnerable to shocks.
Investors would soon be left with almost no place to hide
We think that investors, by the end of 2016, will begin to price in a recession in
2017 as the labor market weakens and corporate profits fail to recover.
We expect the summer to be volatile and recommend not adding risk and
keeping a cautious eye on market development.
We make minor adjustments to our asset allocation this month, except on Govies
and Gold where we’ve turned OW.
We reiterate our view that we are sailing a cyclical bull within a secular bear.
The current cyclical bull may go higher for longer. But, rising volatility and stalling
earnings growth may indicate we are in the late stage of the cycle.
We summarize our views as follows
3

MACRO VIEW
The Good
The consumer confidence index (not taking into account the Brexit vote) rose in June to an 8-
month high (98 versus the prior reading of 92.4)
Personal spending increased 0.4% MoM (5% YoY).
The ISM manufacturing report was strong.
The Bad
The UK leave vote (one of our black swans of previous months) won the battle
With yields below their previous all-time lows, US 10 year bonds are saying nothing good
about the US economy
The slump of business spending continues.
Banks reaction to Brexit vote was simply impressive. Smart money is probably expecting
huge write-downs in goodwill, big losses on “remain” bets or a coming recession.
The Ugly
Main systemic risk resides in China: China is not recovering but rather just re-leveraging.
Chinese debt bomb is ticking. Debt is used to create the illusion of growth. The Chinese banking
sector is going to end up needing a bailout. A big one …
Something huge is probably gathering in Japan: Abenomics has failed! Contrary to every
economic theory, debt accumulation, debt monetization and record amounts of currency
creation have resulted in a rising yen and falling prices.
4

5
The Big Four Economic Indicators
Industrial Production has been the weakest link in the economic recovery since the GFC
The current picture is characterized by relatively strong Employment and Income, a weak Industrial
Production (down in 8 of the last 12 months) and Real Retail Sales hovering around a flat line.
The average of these indicators has been trending lower since Nov. ‘14, suggesting that the economy is
still moving sideways.

6
ISM Manufacturing
The ISM manufacturing report was strong.
At 53.2 (vs 51.3 in May), it looks consistent with GDP growth of above 3%.
New orders increased to 57, new export orders rose to 53.5 and production increased to 54.7

7
Business Spending
The slump of business
spending continues
Durable goods orders
declined by 2.2% YoY.
Core capital goods (
nondefense, excluding
aircraft) is a key measure of
business spending. It has
been declining since Sep.
‘14. It’s now down 3.6%
YoY, and 12.3% lower than
its top reached in Mar. ‘12.
Core capital goods
shipments fell 3.4%, the
10th straight month of
contraction, while new
orders were down (-2.6%)
for the 16th time out of the
past 19 months.

8
Business Investment
Business investment was soft. It stands at recessionary levels.
Commercial real estate dropped 7.9%, declining for the 3rd consecutive quarter
Equipment purchases (at -8.7%), declined for the 2nd consecutive quarter.

9
Inventories
US inventory-to-sales ratio has
reached post-Lehman crisis
levels,
A double reason for that:
Inventories have ballooned
at historically high levels
Sales continue to disappoint

10
GS – Global Leading Indicator (GLI)
The June Final GLI came in at
2.2%yoy. Its MoM momentum
came at 0.35% (above last
month’s 0.26%)
GLI has been in expansionary
territory since September
2015, according to last
estimates
Eight of the ten underlying
components of the GLI
improved in June
We continue, however, to
think that the acceleration
we’ve been witnessing since
Jan. ‘15 is quite modest for
a typical expansion phase

11
EQUITY
Equity markets recovered sharply last week, reversing the Brexit week’s losses. But banks stocks in
Europe lagged, which is a bad signal.
We continue to see this background overall as negative for equities and think little of it is priced in
already.
The common belief is that direct impact of Brexit on US / European corporate profitability will likely be
contained. But we fear the second order effects due to contagion through political, economic and
financial channels.
Despite the Brexit, the lack of yield elsewhere (with German 10-year bund yields at -6 bp and
approximately 30% of the JPM Global Bond Index value already at negative yields) is clearly providing
support for equities.
But, earnings will prove to once again be the key. Any breakout to the upside will prove to be
unsustainable in the absence of a real improvement in corporate earnings prospects. Therefore, it is
critical to pay attention to what the earnings picture shows.
We see this bull market as old, tired, but not finished. We still expect a final leg higher. Technicals
are supportive for a re-test of the highs and even for a (limited) breakout ride…
An ultimate surge to the upside, before succumbing to the gravity of valuations…

12
EQUITY
To sum up, we see limited upside from here, but the S&P 500 may challenge its old highs before
turning decisively south (unless we get a new round of QE). The bounce will soon become an
opportunity to sell into
Any substantial move to the downside would be exacerbated by unwind of equity exposure in
systematic strategies (Volatility Targeting, Risk Parity, CTAs)
Our scenarios remain unchanged.
Our main scenario from here (80% chance) : A massive top forming around 2135 – 2170 :
US profit margins are showing increasing evidence of peaking. On Price/Sales metric, equities
are trading at the top of the historical range.
A resumption of earnings growth going into 2016 will be necessary for equities to move higher.
Recent data shows more evidence of lower productivity, lower potential GDP growth and (later)
higher inflation risk. This is a bad scenario for stocks
Our alternative scenario (20% chance) : The S&P500 breaks the 2135-2170 resistance, opening
the way to 2225. Such a breakout would need a new round of QE and/or a new impulse to earnings
growth

13
EQUITY
Bottom line :
De-risking should continue. A higher allocation to cash is sensible in this late-stage stock bull.
We adjust our positioning rules on the S&P 500 as follows:
We remain OW as long as the 2075 level is preserved. We still target new highs around
2150-2170
We will turn Neutral if the spot breaks below the 2060-2075 range
We will switch to UW as soon as the 2000 – 2010 range is materially broken to the downside.
Any clean break below the ‘09 trend would make us move massively UW
We like the low US beta. We remain Neutral Japan vs. US.
The weakness of earnings combined with the uncertainty newly injected in the UK and Euro area
should imply a substantial correction for European equities. Thus, we move UW Europe vs US.
We remain UW in US small caps vs large caps.
We remain OW defensive, high dividend and value stocks vs. cyclical stocks.
We remain UW EMs vs DMs despite the recent EM outperformance. We expect another (last) leg
of USD strengthening. Negative spillovers from China (and RMB one-off devaluation) will also
likely have a strong impact on other EMs.

14
US Earnings
The S&P500 stands within an
earnings recession. For Q2 2016, the
estimated earnings decline is -5.3%
YoY (-1.8% if energy is excluded).
If the index reports a decline in Q2
earnings, it will mark the first time the
index has seen 5 consecutive quarters
of YoY declines since 2008/2009
For all of 2016, the estimated S&P 500
growth rate is now projected at 0.6%
for earnings and 1.7% for revenues.
For Q2 2016, 81 companies have
issued negative EPS guidance and 32
companies have issued positive EPS
guidance
Analysts still expect earnings
growth and revenue growth to
return in the second half of 2016

15
US Earnings
Earnings growth has reached new
lows
Since the start of the financial crisis the
rate of growth of profits globally has
weakened significantly (see Exhibit 2)
and valuations have increased to high
levels

16
US Sales
The Price/Sales ratio is near levels last seen during the 2000 bubble, and well above 2007 levels.
Bulls would explain high P/S levels by elevated operating margins

17
US Margins
But even operating margins do
not look high enough, compared
to 2007 local top, to explain the
current P/S levels.
Moreover, the already large gap
between operating margins and
reported earnings looks typical of
recessionary environments…

18
Post-Brexit Effect
With the UK leave vote, European bank stocks just
experienced their worst 2-day plunge ever.
It isn’t just a few UK banks whose stocks have
collapsed but the entire index!
-20% was the “standard” move.
Besides this immediate sanction, serious
concerns are raised about the risk of contagion.
Contagion could be political (with Anti-EU populist
parties calling for the same vote in other countries),
but also economic (with an increased uncertainty on
trade, corporate earnings, credit, economic growth)
and financial (through leverage, among others)

19
Brexit Financial Impact
Financial contagion is linked to direct
(costs of moving activities to the
Continent, cost of raising capital) and
indirect (weaker economic growth, lower
rates, degradation in credit quality,
impact on the real estate market…)
impacts on banks.
Financial contagion could materialize if
the banking sector continues to see
significant weakness and spread into
Eurozone periphery
At this stage (given the move on the
iTraxx Europe Sub Financial Index), the
impact seems more on margins and
profits than on solvency.

20
Banks Valuation
Banks continued to show a sharp valuation discount relative to the market.
In such an uncertain context, we remain Neutral on Banks. Going UW is touchy given the recent
underperformance and the extreme levels reached on the forward P/E ratio.
We remain more cautious on European banks, projecting cuts in EPS due to weaker GDP growth and
uncertainty around passporting of financial services in the post-Brexit era.

21
Earnings Payout Ratio
In order to continue to offer
attractive yields, companies
are paying a larger proportion
of their earnings.
The earnings payout ratio
looks already stretched
Current dividend yields appear
less and less sustainable,
even when excluding
resources/commodity stocks

22
Household Equity Holdings
Two much money has flown in equities
since the GFC.
Despite the weak fundamentals, with
corporate earnings contracting for the
5th quarter in a row:
Mutual fund cash balances remain
low (2.4% as of end of April)
Household equity exposure is close
to 2007 highs.
A double-digit correction should be
expected in the near term.

23
Global Liquidity
Global liquidity, as measured by Bank of America Global Liquidity Tracker, went negative in July of
2015 (just before a double-digit correction on the S&P 500 and Yuan devaluation). Since then, this
liquidity indicator has continued to decline at an increasing rate.
Negative liquidity means that money is flowing out of the system

24
S&P500 – A Long-Term Perspective
Despite the fact that we’re
running into 5 straight quarters
of earnings contraction, the
S&P500 is still flirting with its
historical highs.
The market cap to GDP (known
as Buffett's) indicator points to
the second highest
valuations we've ever seen.
Markets would have been
unable to hold up without
central bankers activism.

25
S&P 500 – A Medium-Term Perspective
The uptrend from Mar. ‘09
lows is the most important
level to watch on the
S&P500.
It stands at around
1800-1850.
Below, we will enter a
new era on stocks…

26
S&P 500 – A Tech Perspective
Reminder: we’ve turned from
Neutral to OW on the S&P500 as
the index broke above the 1903
level
Over June, and according to our
positioning rules, we’ve been OW,
Neutral, OW again, Neutral, UW,
Neutral and again OW!
For now, we stay OW, as we see
the index ready to resume its
uptrend. We expect a final leg up
(target ~ 2160 - 2170!).
Important ranges to watch are 2060-
2075 and then 2000 – 2010
From here, we will turn Neutral if the
spot breaks below the 2060-2075
range
We will switch to a UW stance as
soon as the 2000 – 2010 range is
materially broken to the
downside.

27
S&P500 – A Short-Term Perspective
Our prop. Short-Term trading model has turned massively short on Jun 6 (SPX @ 2109.41), then
massively long on Jun 24 (@2037.3 ) and Jun 27 (@2000.54).
Since Jun 30 (SPX @ 2098.86), the model is again flat to modestly short, targeting 2083 and
2062

28
FIXED INCOME & CREDIT
GOVIES
The Brexit turmoil has pushed central banks of DMs to adopt a more dovish stance.
The July Fed’s rate hike is most likely off the table. The market is now pricing only one increase in 2H-
2016.
US 10-year yield has broken below its all-time historical lows (of 1.39% during 2012) and is now well
below the panic levels reached after the Brexit vote.
More than 30% of the JPM Global Bond Index value already has negative yield. 30% of European
corporate bonds also show negative yields.
The significant rally and flows into bonds are saying nothing good about the US economy
Given the current low level of bonds yields, stretched valuations and reduced (if not negative) carry,
bonds have become more exposed than ever to a “rate shock”. Bonds are now a source of risk and
a driver of market fragility.
Tactically, and according to our positioning rules (please see our previous MP), we moved to OW on
10y USTs as the 10y yield broke below 1.65.
We expect realized rates volatility to move up from its current (low) level, given the uncertainties
surrounding the pace of Fed’s hikes, the easing interventions of the ECB, Brexit impacts, global growth
data and the trend in inflation.
We maintain our relative view of US Treasuries underperforming Bunds and JGBs

29
INFLATION-LINKED
After reaching multiyear lows in mid-February, US TIPS breakevens widened through April as energy
prices recovered. Since then, breakevens have narrowed and are now back on their levels at the
beginning of the year.
Last month, we’ve turned from OW to Neutral on 10y-TIPS breakevens. We look for US inflation
to continue to firm, but expect risk aversion (due to Brexit outcome) to keep breakevens near their
current levels in 2H16
We remain Neutral HICP Inflation as we expect breakevens to trade sideways in the Eurozone
Inflationary signs should be watched closely as they will foreshadow a steepening decline in
Govies.
CORPORATE CREDIT
The big picture remains unchanged.
More signs tend to show that the US credit market is already in the late-cycle stage. Credit
quality is deteriorating, but at a measured pace. Financing gap has turned strongly negative, making
corporates more and more dependent on external sources of liquidity. But low cost of funding and
continued investor demand have kept the asset class afloat…
We keep our bias towards higher quality. Any unpriced rate hike (and/or dollar strengthening) would
weigh on low quality bonds (High Yield and EM debt)

30
European credit reversed partially its initial widening as Brexit-induced fears faded in only two days. But
now, these fears are resurging again.
The Leave decision will likely weaken the macro outlook, both in the UK and the Euro area. We think
markets are still not pricing in the entire risk of Brexit, and forecast spreads wider across the
board. .
Credit markets underperformed equities over the past months. But we still see a better value in
corporate debt (specially IG) than in equities, as spreads already price a worse growth environment.
We prefer to trade up in quality. We still prefer IG over HY on a risk-adjusted basis as we expect
volatility on spreads to remain elevated and we believe IG corporates better positioned to absorb the
impact of rising rates and bad news on global growth.
We remain UW on HY and Neutral on IG, due to valuation, to rising volatility, to position within the
credit cycle and given the weak total return forecast for credit as a whole.
Given the large carry differential between the US and other DM markets and negative yields on Govies
in Europe / Japan, we expect the foreign bid to be very supportive for US HG credit, especially if less
M&A induces a lower primary bond supply.
Adding Brexit-related uncertainties to the global picture makes us prefer US vs European credit

31
We remain, however, concerned about the outlook for the US HY market, where default rates
continue to move up and balance sheets are deteriorating. Renewed weakness in oil prices will bring
this issue under the spotlights again
We expect the focus on liquidity to remain. As said in previous reports, we feel concerned about the
credit market liquidity as the rate of turnover in corporate bonds has steadily declined since 2009,
despite the huge inflows.
EM DEBT
The dollar strengthening that we expect would weigh on EM debt
We remain Neutral on EM bonds, because of all the macro challenges facing the EM economies at a
time when the Fed is likely to be more hawkish
Bottom line : OW Govies, UW US vs Eurozone Govies, remain long flatteners on the US yield curve
and short duration in 2y USTs, UW credit mainly through HY and Neutral on IG, UW Eurozone vs US in
IG & HY credit, Neutral 10y-TIPS and Neutral HICP Inflation, UW High Yield vs High Grade, Neutral on
EM sovereigns with a little preference for local bonds

32
Brexit Impact on Rates Policy
At the beginning of the year,
the Fed was predicting four
rate hikes for 2016.
The picture has completely
changed since then.
While a rate hike is still
possible, it appears to be
increasingly unlikely after
the Brexit vote
For the first time,
tightening appears as less
likely than easing.
Guys, we got…

33
US Govies – Rate Volatility
Given the current low level of bonds yields and stretched valuations, bonds have become more
exposed than ever to a “rate shock”.
GS produces 2 very interesting charts putting into perspective the recent increase in rate volatility:
The first shows the number of days over the prior year with daily moves (positive or negative) of 2
and 3 standard deviations (using 1-year rolling windows)
>>> At the end of 2015, Govies had experienced more extreme days than during the
financial crisis
The second shows the number of days over the prior year with daily moves of positive and
negative 3 standard deviations
>>> At the end of 2015, days with large negative moves exceeded (in number) those with
large positive moves in a way never seen before (since 86)

34
IG Credit
The gap between USD and
EUR corporate credit is still
widening.
We’ve been OW US IG
over Eurozone.IG for a
while, now.
We continue to see better
macro fundamentals in the
US, compared to Europe.
We also see the foreign bid
for US credit to continue,
providing support to USD
spreads (vs EUR spreads)
The Leave vote has
exacerbated this view.

35
US Govies – 10y-UST
We’ve been wrong AGAIN
on Govies!
We were expecting a base
to develop somewhere
inside the 1.65-1.77 range
Our ultimate target of 2.45
by H2-2016 seems more
and more unrealistic.
Tactically, and according to
our positioning rule, we
moved to OW as the 10y
yield broke below 1.65.
We’ll turn Neutral again
above 1.65 and as long as
the 1.90 level is preserved.
We’ll move also Neutral
around 1.25-1.28
Above 1.90, we’ll move to
UW.

36
EXCHANGE RATES
The long-term dollar bull trend is not over. Historically, USD cycles have been persistent, lasting 5-
6 years in the appreciation phase. We thus see further medium term USD gains against the major
crosses (especially EUR) and expect a cyclical low in EUR/USD somewhere in H2-2016 (before the
ECB tapering)
We’ve already moderated our view for the dollar as the (dovish) Fed has kept pressure on it, capping
any higher yields attempts. But, we still expect the US dollar to remain on the strong side (vs most
DM currencies + Yuan, except the Yen), at least for 2 reasons:
The large carry differential between the US and other DM markets, combined with negative yields
on Govies in Europe / Japan, is moving money into US Treasuries, pushing the US dollar higher
against most currencies.
The flight-to-safety sentiment induced by the Brexit-induced uncertainties
Last month, we’ve moved to UW on EUR-USD as it broke below 1.13. We remain UW for the
moment
Our positioning rules remain unchanged:
Move to Neutral within the 1.14 - 1.165 range
Move to OW if the spot breaks above the 1.165 resistance to target 1.18
Remain UW below 1.14. Target = 1.08 and then 1.04 to parity over 2H

37
EXCHANGE RATES
On USD-JPY, we’ve been watching for signs of near-term stability or basement somewhere between
108 and 106. But the 105.75 – 106.00 area (please see our previous MP) was broken to the downside
and we moved from Neutral to UW (targeting 102), according to our positioning rules.
In our June MP, we said “Such a breakout would indicate that Japan's fiscal and monetary
stimulus is doomed and induce a risk-off behavior globally”
Since then, the target of 102 was reached. And we decided to turn Neutral again.
Our positioning rules on USD-JPY are adjusted as follows:
Remain Neutral below 106.6
Move to OW above
We anticipate that pressure on EM currencies will resume and continue until we see a more
constructive / fundamental improvement for global growth and commodities supply/demand
imbalances.
We remain UW EM and Commodity FX

38
US Dollar Index
The US dollar has been in a
range over more than a year
Two months ago, we said: “Like
the advance in oil, the recent
decline in the USD was extreme,
but an impulsive reversal
seems to be imminent. Our
primary scenario remains a
reversal formation in the 92.5-
93.5 area…”
The expected reversal has
occurred. The index has also
broken from a downward sloping
channel started off the Dec. ‘15
highs. Next target ~97.10. Only
a break above would open the
way towards 99-100
Breaking the support level of 92.7
to the downside will open the
door to a much more substantial
correction.

39
EUR-USD
In our Monthly Report for May
‘16, we said “The picture on
EUR-USD is not clear. But, given
our view on the DXY index, we
expect a downtrend to develop
from here… To gain confidence
in such a scenario, the spot
needs to break below 1.13.”
Last month, we moved to UW
after the clean break below
1.13.
We remain UW for the moment.
We will move to Neutral above
1.14, and to OW if the spot
breaks above the 1.165
resistance to target 1.18
Over the medium-term (2H-
2016), we maintain our downside
projections towards 1.08-1.04-
parity.

40
COMMODITY
The EU Leave vote has driven gold prices higher and industrial commodity prices lower
We don’t see any sustainable recovery without a pick-up in global growth or a substantial
shrinkage in supply. It is likely that supply destruction will be the main catalyst for the next recovery
in prices.
We remain UW commodities over 3-6 months as we believe the recent rally might be short-lived
The supply side has adjusted but still has a way to go in many commodities before erasing
current imbalances. In order to get more cuts in supply, we think there needs another leg
down in prices to force capitulation
US dollar strengthening should resume. Dollar will dictate both direction and velocity in commos.
We expect the stronger dollar to put downward pressure on commodities despite supportive
fundamentals for some of them
We may have a summer sell-off as was the case in both 2014 and 2015.
The downtrend in commodities looks about to bottom out. We see one last leg down in energy
and metals.

41
COMMODITY
Bottom Line :
Energy:
Oil prices have been generally higher lately, driven largely by news of falling oil inventories in the U.S. The
move has been countered by the short-term concerns about growth following the UK’s Brexit vote
Oil remains a wild card but a bottom may be forming with supply/demand imbalances coming to an
end by mid-2017
Oversupply still a major problem, despite the recent tightening. the market is still producing about
500,000 barrels a day above demand. That doesn't include the loss of supply from Canadian and
Nigerian outages
We think that the bottom is in for oil, but we don’t expect a significant rally from here. A pullback from
current levels (~$50 for WTI) seems even needed to digest some of the recent gains.
We even expect the spot to test again the 25-30 area before putting in a permanent rebound
We expect oil to remain within the US$25-45 range for a while, and volatility to persist.
Our positioning rules on crude remain unchanged:
We remain Neutral as long as the spot stays within the Feb channel (currently at 45 – 53)
Turn UW below the channel support
Move to OW on a clean break above the channel resistance or below 29.

42
COMMODITY
Precious Metals:
Outlook for precious metals continues to be dominated by the Fed dovish tone, the Brexit-induced
fears, and the subsequent impacts on US dollar, real yields and sovereign credit.
The recent rally in gold seems closely linked to the move on UK CDS spreads. Gold is reaffirming its
status as a safe-haven
As the flight-to-safety sentiment and downside bias in interest rates are likely to be persistent, we turned
(according to our positioning rules. Please see previous MPs) OW on Gold as it broke above 1295.
We feel, however, cautious about the sustainability of the recent rally as Spec net long positons are
reaching extreme levels.
At the end, the stronger US dollar and higher real rates should drive gold prices lower
At this stage, we think that gold / silver are still due for a final leg down. Our ultimate target was
raised to 1000 – 1040 on gold and 12.5-13 on silver. The main risk to our scenario is the resurgence of
DM sovereign risk (starting with UK?).
Our positioning rules are adjusted as follows:
Remain OW above 1295, targeting 1367 and even 1457
Go Neutral again between 1200 and 1295
Turn UW if the spot breaks below 1200
Go OW below 1070

43
COMMODITY
Base Metals:
Metals prices have rebounded in June but have been rangy since February.
We remain UW on base metals on continuing excess supply. The recent price increases are more a
technically-driven move, mainly linked to the last round of Chinese easing. So when China's stockpiling
ends, these metals will go south
From our point of view, lower prices are still needed to oblige producers to cut production and to
rebalance oversupplied markets.
From a longer-term point of view, we believe that metals prices are headed for multi-year declines
as the current China-driven super-cycle appears to have peaked
In base metals, we still foresee weakness in copper in particular, as it appears to be on of the most
oversupplied markets.
Agriculture:
In our previous MP, we said: “The recent sharp rally in grains may not have far to go, because of
glutted markets especially on soybeans and corn.”. The S&P GSCI Agri TR Index posted a -5% loss in
June.
Wheat prices tumbled to a 9-year low, and corn futures plunged too (-19% from mid-June highs), after
the US raised hopes for domestic supplies of both grains.
We choose to remain Neutral on Agris, with a little preference for Soybean

44
Precious Metals – Gold Spec Positioning
Speculative (net longs)
positioning in Gold has reached
its highest level since the CFTC
started to publish its statistics
back in 2006.
This is probably driven by the
more dovish than expected Fed
tone in June.
Such an extreme level seems
unsustainable, despite the Brexit.
The net longs are due for a
liquidation.
The next sign of exhaustion in
gold trend would induce a
strong wave of selling by ETF
and trend-followers.

45
Gold as a Safe-Haven Asset
With the Brexit, gold has reaffirmed its status as a safe-haven.
Since the end of 2015, its moves have been highly correlated with the UK sovereign credit
Gold
UK 5y-CDS Sen.

46
Precious Metals – A Relative-Value View
The Gold-Silver ratio has broken
its primary uptrend from Nov.
‘12. It even seems to be
extending its move to the
downside.
This is usually Bullish for Gold
Given the current technical
picture for Gold, breaking above
1368 (and then targeting 1457)
seems a possibility over the
short-term.

47
Crude – Tech. Perspective
According to our positioning
rules (please see our previous
report), we’ve remained
Neutral since the WTI broke
above 39 mid-March.
Our tactical rules are
unchanged:
Remain Neutral as long as
the spot stays within the
Feb channel (currently at 45
– 53)
Turn UW below the channel
support
Move to OW above the
channel resistance or below
29.

48
ALTERNATIVE STRATEGIES
Hedge funds remarkably navigated the shockwave due to the UK Leave vote
The HFRI Fund Weighted Composite Index posted gains of 0.8% in June. Gains were led by Macro
strategies (+3.0% MoM) that posted their strongest monthly gain in over five years
Brexit-induced fears strongly supported CTAs, the clear winners in the recent risk-off phase.
CTAs were the best performing strategy over June (+4.4% MoM), filling up for most of their recent
losses
CTAs made the most from their defensive positions: longs in European, UK and US Govies
CTAs also gained on their shorts in USD-JPY, on theirs longs on gold, as on their short exposure to
Japanese equities.
Most CTAs managed to capture the uptrend in USD, especially vs. the Euro and GBP.
Global Macro performance was hit by the shift in monetary stances.
Managers posted losses on their short positions on the long end of the US, Japan and European
curves.
Macro funds also lost money on their shorts in JPY vs USD and their long exposure to Japanese
equities (opposite positioning of CTAs). Their shorts on GBP contributed positively to the performance.
Equity Market Neutral funds prove resilient across all regions

49
ALTERNATIVE STRATEGIES
We believe that diversifying portfolios with an increased allocation to alternatives is particularly
attractive at this stage of the cycle, given the current macroeconomic and interest rate uncertainties.
We stick to our preference for risk diversifiers (pure alpha generation strategies) over return
enhancers.
These strategies offer an interesting risk/return tradeoff, help buffer market shocks and offer
decent returns in rangy markets
We think that the divergence between the Fed and ECB monetary policies (and its subsequent
impacts on US dollar, commodities and Govies), like Brexit-induced fears are supportive for CTAs
and Global Macros on which we remain overweight
We reiterate our OW rating on :
Equity Market Neutrals both for their “intelligent” beta and their alpha contribution.
CTAs: We like CTAs as a diversifier in portfolios, a good hedge during risk aversion episodes.
Furthermore, we expect new trends to emerge from here…
Global Macro: We like this strategy as a diversifier and tail hedge. We have a slight preference
for macro funds with a focus on Forex and Fixed-income…
Vol. Arb strategy (HFRI RV: Volatility Index: +2.1% MoM, +1.7% Ytd) and prefer funds that trade
volatility globally (all assets / all regions). This is our way to take advantage from the higher
volatility regime.

50
Managed Futures / CTAs
CTAs were defensively positioned going
into the Brexit vote
Their gains came mainly from
their long exposure to DM bonds
(especially in 10y-USTs).
Their longs in USD, especially vs. the
Euro and the GBP.
The behavior of CTAs post-Brexit is exactly
the one we’ve been promoting for so long.
We keep our OW on risk-diversifiers.
Source: SG CTA Index

Bottom Line: Global Asset Allocation
One of our 2 potential Black Swans of 2016 has arrived: Brexit. Friday, June 24
was a rough day for risk. Gold, Yen and Bitcoin performed best as ‘risk off’ hedges
No one knows for sure what the economic implications of the UK's Leave
vote will be, but there is a general consensus that it will not be good
The only certainty is that the UK ‘Brexit’ decision adds another complex layer of
uncertainty to all markets and may weigh on the already lethargic DM economies.
Following the UK Leave vote, the sell-off episode was rather time-limited and the
surge in volatility was somewhat contained. After a roller coaster ride, we're back
where we started. But, do not be fooled by optimism…
Our view is that euphoria won't last too long. The rather violent rally we are
witnessing will run out of steam soon.
The market remains expensive and needs increased earnings to move higher.
The world economy is more fragile than ever. But the less appealing the UK and
Eurozone markets appear, the more appealing the US market will be perceived.
A key concern at this stage remains the lack of diversification as most safe
assets appear too stretched. Even bonds have become a driver of market fragility
We reiterate our view that a perfect storm is building… After several years of
equities and bonds rallying together, both are expensive and vulnerable to shocks.
Investors would soon be left with almost no place to hide
We think that investors, by the end of 2016, will begin to price in a recession in
2017 as the labor market weakens and corporate profits fail to recover.
We expect the summer to be volatile and recommend not adding risk and
keeping a cautious eye on market development.
We make minor adjustments to our asset allocation this month, except on Govies
and Gold where we’ve turned OW.
We reiterate our view that we are sailing a cyclical bull within a secular bear.
The current cyclical bull may go higher for longer. But, rising volatility and stalling
earnings growth may indicate we are in the late stage of the cycle.
We summarize our views as follows
51

52
Disclaimer
This writing is for informational purposes only and does not constitute an
offer to sell, a solicitation to buy, or a recommendation regarding any
securities transaction, or as an offer to provide advisory or other services
by FinLight Research in any jurisdiction in which such offer, solicitation,
purchase or sale would be unlawful under the securities laws of such
jurisdiction. The information contained in this writing should not be
construed as financial or investment advice on any subject matter.
FinLight Research expressly disclaims all liability in respect to actions
taken based on any or all of the information on this writing.

About Us…
FinLight Research is a research-centric company focused on Asset Allocation from a top-down
perspective, on Portfolio Construction, and all related quantitative aspects and risk management issues.
Our expertise expands along 3 axes:
Asset Allocation with risk control and/or risk budgeting techniques
Allocation to alternative investments : Hedge funds, rule-based strategies (momentum, value,
carry, volatility), real assets (real estate, infrastructure, farmland, timberland and natural resources).
Private equity and venture capital should be the next step…
Allocation with a factorial approach built on the understanding (profiling) of the risk/return drivers of
the different asset classes
FinLight Research is an innovation-oriented company. We target to fill the gap between the
academic research and the investment community, especially on real assets and alternatives. We survey
on a continuous basis the academic literature for interesting published and working papers related to
quantitative investing, non-linear profiling, asset allocation, real assets...
53

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•Risk Profiling
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54

Finlight Research - Market Perspectives - Jul 2016

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