Stock Market Analysis
After weeks of getting pummeled, stocks finally rallied. The Dow rose 0.7 percent while the small cap Russell 2000 gained 1.3 percent. That sounds promising but they are down 7.5 and 10.1 percent respectively this year. While advancing stocks did outpace losers, the number of new lows continues to swamp new highs.
The string of losses had been pulled so tight a snap back was to be expected. Sentiment had turned extremely negative and few if any folks were thinking of buying. Fortunately, that started to change a bit among the pundit class this past week. I hate to admit it, but I was one of them talking about this on CNBC this last week. As we had pointed out last week, few stocks were above their moving averages, the decline in the advance decline ratio was too steep and put volume was swamping call volume. All of these were favorable for a bounce. Even China was oversold and a rebound there helped calm our market.
Previously in the dustbin, Energy and Technology stocks rebounded nicely. Commodity prices snapped back, with oil jumping 9 percent, and the CRB Index climbing 2.4%. We have started to consider precious metals such as gold and silver since they seem to be completing a long down turn. It also provides diversification in volatile times.
I was recently asked to explain how we survived the Tech bubble that came crashing down in 2000 to 2002. I went back to our archives and looked at our Economic Outlook for 2000. In it we explained what a mania looked like and how this met the criteria. In addition, we talked about the narrow advance, the long run of growth outperforming value, the indifference toward smaller stocks and how stocks with no earnings were doing better than those with earnings. Lastly, we pointed out how Fed Chair Greenspan had created a bubble with cheap money.
Even though stocks have had a great run since 2009, it is not exactly so much a mania as it has been a lack of other options thanks to the Fed. However, it has been a growth market and small stocks have been ignored. Earnings do remain important, in fact, over the last ten years, our research shows stocks with earnings have more than doubled the returns on stocks without earnings. Certainly the circumstances are not the same as we saw in 2000. Still, some of the verses rhyme and we believe smaller, value oriented stocks should once again provide great opportunities. Until then, wise investors will keep some powder dry.
We have been recommending moderate positions in stocks, with a healthy commitment to bonds. We have also suggested that shifts in equity levels should occur during rallies. While we do not think this is 2000 or 2008, we do expect volatility to remain since the Fed is no longer inflating our stocks and our economy remains weak. Trimming out of underperforming stocks makes sense as we lower exposure to volatility.
Barry R. James, CFA, CIC
Bond Market Analysis
It was a volatile week for U.S. Treasury bonds. The 30-Year U.S. Treasury bond rallied in price early in the week but fell Thursday and Friday. Overall long bonds ended with yields up 2 basis points while the 2-Year Treasury had yields rise by 3 basis points.
Crude Oil moved opposite to U.S. Treasury prices this past week, falling below $30 a barrel early in the week and then rallying to end the week up 9.4%. Oil prices were up 9% on Friday alone.
The U.S. Dollar rose slightly last week. Comments about additional Quantitative Easing from the ECB and Japanese Central Bank probably contributed to its strength.
Precious metals have started to show some signs of recovering in 2016. Gold is up almost 3%, silver is up over 1%, however companies that mine precious metals are down 5.5%. Earlier in the week, the PHLX Gold/Silver Index, a popular index of precious metals shares, hit an all-time low going back to 1983. Contrarian investors are starting to take notice.
The Conference Board’s Co-Incident/Lagging ratio is one of our favorite indicators. This is because it helps determine where the economy is heading by ordering the economic releases according to the timeliness of the information they present. For example, New Orders tend to be leading indicators of the economy, while employment data tend to be lagging indicators. The trouble is this ratio has been trending lower and is currently very weak. In fact, if the ratio and GDP were perfectly correlated, GDP would currently be around -2% based on past historical correlations. The ratio and GDP have been reasonably correlated in the past, so this failure to recover is worrisome for the future of the economy.
The Atlanta Fed upgraded their estimate of Q4 2015 GDP last week to 0.7%. If this holds, the U.S. economy will have grown at 1.8% for all of 2015. This will be the lowest annual growth of any year since the financial crisis and less than the 2.2% and 2.4% GDP growth in 2013 and 2014 respectively.
We note our leading bond indicators are slightly positive today. We expect any correction in interest rates would be a buying opportunity for high quality bonds.
Matt Watson, CFA, CPA
