May 10, 2018 Weekly Market Update

The US economy added 164,000 jobs in April. Though this fell slightly short of the expected 193,000, the overall trend in job creation remains positive as the year-to-date average is still above 200,000. With the continued healthy pace of job creation, the unemployment rate dropped to 3.9% – its lowest level since December 2000. As the labor market is now in its ninth year of steady expansion, many experts believe the economy is nearing full employment. This could lead to a much-needed acceleration in wages through the end of 2018 as it becomes increasingly difficult for companies to find new workers.

While the labor market remains resilient, the Fed left the federal funds rate unchanged at a range of 1.50% – 1.75% following the conclusion of Wednesday’s meeting. This was the expected outcome as rates were increased 0.25% following the most recent meeting in March. However, the Fed did acknowledge the sustained health of the US economy as well as inflation moving toward its long-term target, leading many investors to speculate about a potential fourth hike sometime in 2018, compared to the expectation of only three rate hikes going into the year. Markets have already priced in a June rate hike with a 100% probability according to the CME Group’s 30-day Fed Funds future prices.

Broad equity markets have been fickle since early February, but corporate earnings and economic fundamentals remain mostly strong for the moment. Nevertheless, economic data and market sentiment can change quickly, which is why it is important to include a broad range of asset classes in your portfolio for more consistent and more stable longer-term results.

As investors, we need to stay committed to our long-term financial goals. Staying focused on our long-term investment objectives and maintaining a disciplined investment strategy can help reduce market noise and increase the odds of a successful outcome over time.

Chart of the week

The S&P 500 finished little changed despite a moderate amount of intra-week volatility. On Thursday, the Index tested the lower bound of its recent trading range, but found support and rallied on Friday as it remained in the triangle pattern that developed in early February. As illustrated in the chart below, the Index has been consolidating in recent weeks, reaching lower highs and higher lows. Generally, with these triangle patterns, markets continue to consolidate until there is a fresh breakout. If markets breakout above the upper trend line, it can indicate the start of a new bullish trend. However, if markets fall through the lower trend line, it can mark the start of a bearish trend. While shorter-term momentum has been volatile and inconclusive, longer-term momentum remains intact as the Index has held above the lower-bounds of the positive trend-line that began in early 2016. Due to the continued support near this level, there may be a continuation of the longer-term bull market despite the shorter-term weakness. The coming weeks should continue to provide valuable insight into the near-term direction of the S&P 500, but it seems to remain in a long-term bullish pattern for now.

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Market Update

Equities

Broad equity markets finished the week mixed as small-cap US stocks experienced modest gains and large-cap US stocks experienced slight losses. S&P 500 sectors were mixed with cyclical sectors outperforming defensive sectors.

So far in 2018 technology, consumer discretionary, and energy are the only sectors with positive performance, while all other sectors are displaying negative performance year-to-date. Consumer staples, telecommunications, and real estate have been the worst performing sectors so far this year.

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Commodities

Commodities were positive as oil prices rose 2.38%. Oil prices were boosted by the continued OPEC production cuts as well as the potential for new US sanctions against Iran, but gains were somewhat capped due to growing US crude inventories.

Gold prices were negative with a 0.58% loss as the dollar index continued to strengthen on rising interest rate and inflation expectations. The dollar index has been positive in eleven of the past fourteen weeks, placing downward pressure on gold prices, though the metal remains relatively flat for the year due to continued geopolitical concerns.

Bonds

The 10-year treasury yield fell slightly from 2.96% to 2.95%, resulting in slightly positive performance for traditional US bond asset classes. While yields remain near the 3% threshold, the Fed acted as many investors expected (leaving rates unchanged but hinting toward more aggressive future rate hikes), leading to relatively stable rates throughout the week.

High-yield bonds were relatively flat for the week as credit spreads inched higher. However, as long as the economy remains healthy, higher-yielding bonds are expected to continue outperforming traditional bonds in the long-run as the risk of default is moderately low.

 

Asset class indices are mixed so far in 2018, with commodities leading the way and traditional bond categories lagging behind.

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Lesson to be learned

The investor’s chief problem – and even his worst enemy – is likely to be himself.”

– Benjamin Graham

People are emotional and possess many biases when it comes to investing. A couple examples of these biases include hindsight (looking back and thinking it was easy to predict how things actually played out) and the illusion of control (the tendency for people to overestimate their ability to control events they cannot actually influence). Unfortunately, these biases make us more susceptible to short-term market noise and poor investment decision making. This is why it is important to maintain a disciplined, emotion-free, investment strategy.

 

Indicators

Our investment team 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 22.56, forecasting further economic growth and not warning of a recession at this time. The Bull/Bear indicator is currently 50% bullish – 50% bearish. This means the indicator has a neutral outlook on stock market direction in the near term (within the next 18 months).

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The Week Ahead

Earnings season will begin to wind-down this week, as 78% of companies in the S&P 500 have already reported results. It will be important to see how markets continue to react as the strong earnings data has helped support stock prices in recent weeks, despite geopolitical worries and heightened volatility

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