Jul 2, 2013 - What happened in the stock/bond markets last week?

Stock Market Analysis

Conclusions: It was a good week for the major indices as the Dow rose 0.74 percent and the small cap Russell 2000 almost doubled it, rising 1.43 percent. We got mixed signals from the market internals. More than twice as many stocks rose as fell but we saw four times as many stocks hitting new lows as new highs. We continue to see more volume on down days than on up days.

Halfway through the year, the stock market is still riding high. The S&P 500 is up 13.8% while the Small Cap Russell 2000 is up 15.9%. Gold is down about 27%, oil is up about 5% and the dollar has strengthened against the Yen and Euro. Bonds have wilted recently and the Long Term Treasury index is down 7.8%. From the sector standpoint, Healthcare, Financial and Cyclical stocks are up about 20% while Basic Material and Technology stocks have only seen very modest gains. By and large, value stocks have been outperforming growth stocks.

Much has been made of potential Federal Reserve moves. The market has gotten used to Quantitative Easing and many have moved to more risky assets. In the last month, stock mutual fund sales have picked up while bond mutual fund sales have slowed. The bulls have recently had the upper hand and despite the once 6% pullback, sentiment remains very bullish.

The market may get a boost as Congress will be out of session with the Fourth of July Celebration. However, we really don’t see much change in our risk indicators. Many are expecting a better second half of the year for the economy and I’ve spoken with a number of folks who are anxiously getting more aggressive toward stocks. They may be right, but we don’t have the all clear yet and expect some further troubles for stocks. We would maintain a conservative posture toward equities for the time being.

Barry R. James, CFA, CIC

Bond Market Analysis

Conclusions: Bonds recovered some this week but have had a rough year. Long term treasuries were up 1.1 % while high yield bonds actually fell slightly. Of course, in the first six months of the year, long term treasuries were down 7.8% while high yield bonds rose 1.4%.

The bond market had built up considerable negative sentiment and the Federal Reserve had made comments the week before about curtailing Quantitative Easing. This week, the Fed was jawboning about keeping up Quantitative Easing, even if they let up on the accelerator a little. They seem to have plenty of room and reasons to keep easing. GDP for the first quarter was revised downward and the Personal Consumption Expenditures Price Index rose a measly 0.1% for the month and only 1% over the last year. In the end, the Fed doesn’t actually control longer term rates as they are driven by demand, the economy and inflation.

If we pay attention to the Fed, they expect a nice pickup in second half of the year. However, the head of Darden Restaurants reported that they stopped using Fed projections because they were so inaccurate. The Fed did have some actual activity reports this week and two were negative while two moved ahead.

The economic picture is mixed at best. On the positive side, new orders for durable goods expanded and the housing picture continues to improve. The housing picture seems to be encouraging to consumers as surveys show they have growing confidence. On the other hand, corporate profits fell in the first quarter as GDP saw a slowdown in the growth of personal consumption. Furthermore, personal income, spending and savings all remain muted by historical measures and the Chicago Purchasing Manager report fell significantly below estimates.

The bond market has been running scared and rates have backed up dramatically. We should see rates stabilize but our indicators are not as positive as they once were. The bond market can be like a bucking bronco and no approach is going to catch every move. It is important to make adjustments as conditions and risk levels change so we can stay with major moves and not chase temporary ones. We believe it is wise to sell some longer term bonds to lower volatility. We still think bonds could provide cover in a stock market pullback and high quality bonds are appropriate. We think the bond outlook should start to stabilize.

Barry R. James, CFA, CIC