When we hear news that reads “the worst December since 1931… the best January since 1987…” we cringe. Because when these swings are happening, something is not exactly right. In the fourth quarter of 2018 the stock market (S&P 500) sold off by more than 19%, only to recover a lot of that in January 2019. Some may say this is why a person should deploy a “buy and hold strategy”. We disagree, especially for those in retirement, because data and human nature tell us that people won’t stay with that strategy. Nor do we believe that strategy works best.
Therefore, through this time, we have studied our framework and followed our rules. Currently, our economic and market framework points to slowing economic growth, an overvalued stock market, a neutral US Federal Reserve, and a stock market in a negative to neutral trend. Our response to this will be to stay defensive and invest in high quality.
We are not raising alarm bells today. It is simply that the data is starting to show slowing. This is why our team studies economic and market data and employs a rules-based strategy for you.
Over the month of March and into early April, some of our clients will see us rebalancing in their accounts. All of these are due to our rules-based strategies. Some of these changes are due to the market changes, some are due to a simple annual rebalance. If you want to discuss these in your account, please feel free to call your advisor anytime.
We appreciate the trust that you put in us!
March 7, 2019
Signs of exhaustion, from our Lead Investment Strategist, Clint Sorenson:
The stock market rally in the S&P 500 that began on December 24th closed the week at the important resistance range of 2800-2815. This range served as the major resistance for price action during the end of 2018. A break above 2800 technically implies that that the S&P 500 could hit all-time highs in the near future. However, a break to new highs would be special because it would occur alongside deteriorating fundamentals. Growth has continued to slow here in the US and abroad, and earnings grow this projected to be negative for the first quarter.
Now, a prudent investor has to ask the question of whether or not the market has gone too far too fast. Have fundamentals ceased to matter? If we look to history, it is helpful to study similar time periods where markets had strong recoveries in the midst of deteriorating data. One does not have to look too far back, only to the last global economic contraction in 2014-2016. During this time period, the story was similar: global economic weakness brought about broad market weakness and central banks came to the rescue with stimulus and negative interest rates. Some even bought stocks. The fragile global economic system was at the precipice and coordinated easing saved the day. We had an initial sell off in the S&P 500 that rebounded, almost to new highs, before moving to new lows in months that followed. Will that happen again? We have no idea what the market will do next, nor does anyone else. However, we believe with the backdrop of slowing growth, there is a decent probability.
All we can do is look at the evidence, weigh that evidence, and make the decision that aligns with the data. For us, that means looking to our framework. The S&P 500 is well above fair value (as implied by 15x trailing earnings). Global stocks are still in negative trends relative to risk free bonds over both intermediate and long-term time horizons (positive in short-term). Economic growth is slowing, and despite our wishes, the Fed is neutral, not easy. Therefore, our recommendation stands to allocate in a defensive manner across asset classes.