Northlake’s Market Cap model has been trending toward large cap for several months and the latest update confirmed a new recommendation in favor of the S&P 500.  As a result, clients using Northlake’s models will swap current holdings in the S&P 400 Mid Cap (MDY) into the S&P 500 (SPY).  We remain neutral on the question of growth and value, so clients using our Style model will continue to hold positions in the Russell 100 Growth (IWF) and the Russell 1000 Value (IWD).  For clients not using Northlake’s models but investing using thematic ETFs, there will be no immediate trades, but we will be reviewing portfolios to determine if a shift in favor of large cap is appropriate.

The factors we include in our Market Cap model did not show significant changes in the September update.  One indicator that did move from small cap to mid cap was the shape of the yield curve.  This indicator measures the difference in the yield between the 2-year US Treasury note and the 10-year US Treasury note.  Over the past six months, the yield curve has been flattening as short-term rates held fairly steady but long-term rates fell unexpectedly (for more on interest rates, please see our latest blog post on income equities).  The shape of the yield curve offers signals of both investor views of the economy and Federal Reserve policy.  It also indicates the posture of the Federal Reserve. 

The shape of the yield curve has been one of the most dominant influences on trading over the past year.  We have discussed the rotation that has been so prevalent as investors shift, often day-to-day, between large cap growth/COVID winners to small cap value/COVID losers.  From late summer of 2020 through early spring of 2021, rotation heavily favored small cap value/COVID losers as the yield curve steepened and investors focused on the reopening of the U.S. and global economies.  The trend shifted in the spring of 2021 and the yield curve began flattening.  The flattening and rotation have been due to the initial onset of the delta variant, investor concerns about peak GDP and earnings growth, and the Federal Reserve’s forceful messaging to not be concerned with inflation.  The Federal Reserve also made clear its plans for tapering its historically easy monetary policy while not raising interest rates.  This latest rotation ultimately caught up to our model with the yield curve flattening being a good proxy for the recent stretch favoring large cap growth/COVID winners.  Please keep in mind that our models and Northlake’s other thematic strategies are designed to look out at least a couple of quarters.

SPY, IWF, and IWD are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake’s regulatory filings can be found at www.sec.gov.