Higher Rates Push Market Cap Model Back to Mid Cap

Northlake’s Market Cap model is shifting from small cap to mid cap for October, while the Style model continues to favor value for a ninth consecutive month. For clients using our model-driven strategies, we are selling the Russell 2000 ETF (IWM), buying the S&P MidCap 400 ETF (MDY), and maintaining the Russell 1000 Value ETF (IWD).

Weak relative and absolute performance for small-cap stocks drove the change in the Market Cap model. Higher interest rates have been a particular headwind for smaller companies, leading the model to move one step away from small cap rather than shifting all the way to large cap.

The model’s external indicators remain more supportive of small cap because recent economic data continues to show broad strength. For now, however, the deterioration in the market-based indicators is enough to move the overall recommendation to mid cap.

The Style model continues to favor value. Internal stock market indicators are divided between growth and value after inconsistent relative performance between the two styles. External indicators unanimously favor value, reflecting continued strength in the economic data.

Northlake’s thematic strategies that do not use the models directly will remain unchanged for October. These strategies are generally well aligned with the current readings because their ETF holdings are biased toward larger-cap and value-oriented themes.

Recent Performance

The Market Cap model had a difficult month and quarter. The model now trails the S&P 500 benchmark year to date as small caps underperformed since the August shift.

The Style model has tracked its benchmark over the past six months as growth and value leadership have rotated frequently. Year-to-date performance remains strong.

Looking Ahead

Interest rates remain an important driver of market cap, style, global, and sector performance. We are watching the yield curve, Federal Reserve officials’ comments, the October Fed meeting, and market expectations for the timing of another rate increase. The Iran war’s effect on oil prices and broader inflation data will also be important inputs into Fed policy.

Northlake Capital Management, LLC is a state-registered investment adviser. Registration does not imply a certain level of skill or training. Additional information about Northlake, including current registration status, is available through the SEC’s Investment Adviser Public Disclosure website. This material is for informational purposes only and is not investment advice or a recommendation to buy or sell any security. Investing involves risk, including possible loss of principal. Past performance does not guarantee future results. Northlake, its employees, and clients may hold positions in securities referenced. Opinions are as of the publication date and are subject to change without notice.