May 2, 2018 Weekly Update
Broad markets were slightly negative for the week as rising rate concerns offset strong earnings and economic data. On Tuesday, the 10-year treasury yield officially reached the psychological threshold of 3% for the first time since January 2014. As rates continued to rise early in the week, equity markets slumped as investors feared higher interest rates could result at the end of the bull market that began in early 2009.
Despite increasing investor anxiety about rising rates, strong GDP and earnings growth helped stocks recoup most of the mid-week losses. According to the government’s first estimate, Q1 2018 GDP grew at an annual rate of 2.3%, beating the expected 2% growth rate. While the growth was modest, it was widespread as consumer spending, business investment, and government spending were all positive contributors.
Earnings data continued to surprise on the upside as well. Approximately 53% of companies in the S&P 500 have reported Q1 2018 earnings so far. Of the companies that have already reported, 79% have reported earnings above the average estimate. Total S&P 500 earnings are now expected to grow at 23.2% for the quarter, which is higher than initial 17.3% expectation before earnings season began.
While markets have been volatile since early February, corporate earnings and economic fundamentals remain strong. Nevertheless, 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. Staying focused on our long-term investment objectives and maintaining a disciplined investment strategy can reduce daily market noise and increase the odds of a successful outcome over time.
Chart of the week
The S&P 500 finished the week little changed 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 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 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
Broad equity markets finished the week negative as large-cap US stocks experienced the largest losses. S&P 500 sectors were mixed with defensive sectors outperforming cyclical sectors.
So far in 2018 consumer discretionary, technology, energy, and healthcare 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.
Commodities were slightly negative as oil prices fell 0.53%. While an unexpected increase in crude oil inventories put downward pressure on prices, concerns that the US may reimpose sanctions on Iran limited losses. If the sanctions are renewed, it would likely further suppress Iranian oil exports, leading to lower global supply.
Gold prices were negative with a 0.92% loss as the dollar index gained on rising interest rate and inflation expectations. While it was a negative week, a relatively weaker dollar combined with geopolitical uncertainties has resulted in slightly positive performance for the metal so far this year.
The 10-year treasury yield remained steady at 2.96% week-over-week, despite climbing as high as 3.03% on Wednesday. This resulted in mostly flat performance for traditional US bond asset classes.
High-yield bonds were slightly negative for the week as credit spreads increased. 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.
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 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.
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 21.60, forecasting further economic growth and not warning of a recession at this time. The Bull/Bear indicator is currently 83% 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).
The Week Ahead
Federal Reserve policymakers will meet May 1 – 2. While it seems unlikely the Fed would move to raise rates following this meeting, the tone of the statement could provide valuable insight into the expected path of rates through the end of 2018. The jobs report on Friday will also be important to keep an eye on.