5-Minute Market Update | March 5, 2018
I am happy to present this week’s market commentary from FormulaFolio Investments. The goal is to give our clients and friends a simple way to see everything they need to know about the financial markets on a weekly basis, in 5 minutes or less. After all, investing should be simple, not complicated.
Equities: Broad equity markets finished the week negative as large-cap US stocks experienced the largest losses. All S&P 500 sectors were negative for the week with no discernable difference between cyclical and defensive sectors.
So far in 2018 technology, consumer discretionary, financials, and healthcare are the strongest performers while all other sectors are negative.
Commodities: Commodities were negative as oil prices fell 3.62%. While the longer-term positive trend of oil prices has been supported by OPEC production cuts, prices dropped during the week on pressure from a stronger dollar and surging US output.
Gold prices fell 0.52% for the week as the dollar index strengthened to a near six-week high level. This was the second consecutive week of losses for gold, but the metal is still positive in 2018 as the US dollar remains relatively weak despite the recent support.
Bonds: The 10-year treasury yield decreased slightly from 2.88% to 2.86%, remaining near the highest level since the beginning of 2014. As yields remained mostly steady, aggregate US bonds were mostly flat amid continued speculation the Fed may hike rates faster than expected in 2018. Bond prices and interest rates move inversely, so higher rates generally lead to lower prices.
High-yield bonds were slightly negative for the week as broad riskier asset classes experienced downward pressure. However, if the economy remains healthy, higher-yielding bonds are expected to continue performing well as the risk of default is moderately low.
Most asset class indices are negative so far in 2018, with intermediate treasury bonds experiencing the largest losses.
Lesson to be learned: “If you have trouble imagining a 20% loss in the stock market, you shouldn’t be in stocks.” – John Bogle, founder of Vanguard. As frustrating as it can be at times, the stock market has its ups and downs. The risks of investing in stocks goes hand-in-hand with the higher return potential compared to safer investments such as bonds or bank CDs. While it may be tempting make knee-jerk decisions when markets move quickly, we need to stay focused on our long-term investment objectives. Keeping a disciplined investment strategy can reduce daily market noise and increase the odds of a successful outcome over time.
FormulaFolios has two simple indicators we share that help you see how the economy is doing (we call this the Recession Probability Index, or RPI), as well as if the US Stock Market is strong (bull) or weak (bear).
In a nutshell, we want the RPI to be low on the scale of 1 to 100. For the US Equity Bull/Bear indicator, we want it to read least 67% bullish. When those two things occur, our research shows market performance is strongest and least volatile.
The Recession Probability Index (RPI) has a current reading of 21.35, forecasting further economic growth and not warning of a recession at this time. The Bull/Bear indicator is currently 100% bullish. This means our models believe there is a slightly higher than average likelihood of stock market increases in the near term (within the next 18 months).
Weekly Comments & Charts
The S&P 500 finished negative following two consecutive weeks of gains. While shorter-term momentum has pushed the Index lower, longer-term momentum remains intact as the Index remains in the trading range that has been in place over the past two years. The index tested the lower bounds of this trading range (which is inline with the 200-day simple moving average) a few weeks ago, but seemed to find support and has rallied off its lowest levels. This illustrates there may be support for a continued longer-term bull market despite the shorter-term weakness. The coming weeks should continue to provide valuable insight about the near-term direction of the S&P 500, but it seems to remain in a long-term bullish pattern for now.
*Chart created at StockCharts.com
Stocks moved lower on tariff jitters, though corporate earnings remain strong.
After gains in the previous two weeks, stocks moved lower as President Trump announced a plan to introduce tariffs on steel and aluminum. These tariffs would effectively add an additional tax of 25% on steel and 10% on aluminum imported to the US. While this may be mildly positive for the trade balance in these materials, steel and aluminum account for less than 3% of total US imports, so the net economic impact will likely be fairly small if the tariffs remain in place longer-term. However, many investors fear the retaliation risk from other countries spanning across other industries. Immediately following the announcement on Thursday, US companies that supply these raw materials soared while US companies that purchase large amounts of steel and aluminum fell sharply.
While investors speculated about the impact these tariffs could have on broad financial markets, Q4 2017 earnings season has started to wind-down. With 97% of the companies in the S&P 500 having already reported results, 74% of companies have beat earnings expectations. The blended S&P 500 earnings growth rate currently stands at 14.8%, compared to the initial expectation of 11% before the earnings season began. If this growth rate holds, it will mark the highest level of earnings growth since Q3 2011. Furthermore, the first couple of months in 2018 has seen the largest number of upward earnings revisions to start the year since FactSet began tracking the data in 2002, illustrating many analysts expect continued strong corporate earnings through 2018.
Though shorter-term market momentum has been volatile and somewhat negative, the longer-term prospects of 2018 remain mostly positive as corporate earnings and economic fundamentals remain strong. Even in the strongest of bull markets, stocks will not rise every day / week / month, and periodic pullbacks should be expected. These shorter-term pullbacks can even be considered healthy for the continuation of a longer-term bull market.
Short-term market corrections are only a small blip on the radar for long-term investors. However, economic data and market sentiment can change quickly. This is why it is still important to include a broad range of asset classes in your portfolio for more consistent and more stable longer-term results, rather than chasing short-term returns.
As investors, we need to stay committed to our long-term financial goals. All the short-term news and market movements can be the most debilitating of all when it comes to making sound investment decisions; especially if we allow them to influence knee-jerk decisions.
More to come soon. Stay tuned.
Derek Prusa, CFA, CFP® Senior Market Analyst