Stocks continued to slide as the Dow Jones Industrial Average posted its fifth straight weekly loss – its longest losing streak since 2011. While no new tariff news was announced, concerns over trade tensions between the US and China continued to weigh on markets. Trade worries spilled beyond stocks as crude oil prices plummeted and the 10-year Treasury yield fell to its lowest level since October 2017. As investors looked to more safe-haven asset classes, the 10-year US treasury yield once again dipped below the 3-month yield, resulting in another partial yield curve inversion.
Investors had been hoping for more trade clarity by now, but the recent spat has increased uncertainty. However, stocks rose on Friday after President Trump said he still predicts a quick end to the ongoing dispute. This helped offset negative manufacturing and business activity data, as signs of a slower growing economy are becoming more apparent.
Though markets have been more volatile in recent weeks, it is important to remember the S&P 500 is only 4% off its all-time-high closing level from late April. Even so, the past few weeks illustrate how important it is to stay committed to a plan and maintain a well-diversified portfolio. While stocks have slipped from their highs, other asset classes (such as gold and REITs) have experienced positive performance.
Flashy news headlines can make it tempting to make knee-jerk decisions. However, sticking to a strategy and maintaining a portfolio consistent with your goals and risk tolerance is imperative for long-term success. Including a broad mixture of asset classes can help with achieving more consistent long-term results, smoothing the short-term market noise and making it easier to weather these common volatility storms.
Chart of the Week
Last weeks’ volatility and downward pressure pushed the Russell 2000 Index (a gauge for small-cap stocks) below its 50, 100, and 200-day moving averages. As a fall below these averages indicates bearish sentiment, additional declines would not be unreasonable to expect. However, the Index is currently at a floor level of 1,500 and positive trade sentiment could help it bounce back. The recent sell-off, which is now a 5.77% decline from its year-to-date high, reminds us of the need to be prudent when investing and the importance of not chasing returns. In April, small-cap stocks were up over 20% for the year and the leading equity class. Such strong returns and positive momentum could have attracted additional bullish investors at the wrong time.
*Chart source: Bloomberg
Broad equity markets finished the week negative as international stocks fared better than domestic stocks. S&P 500 sectors were also mixed, with defensive sectors outperforming cyclical sectors.
So far in 2019, real estate and technology are the strongest performers while healthcare has been the worst performing sector.
Commodities were negative for the week as oil prices decreased by 6.58% to $58.63/bl. This is the first drop below the $60/bl level since the commodity breached the price ceiling three months ago. This drop marks the worst week for oil year-to-date. The fall in prices came as US crude inventories rose to their highest level since July 2017, suggesting the perceived supply deficit due to sanctions on Venezuela and Iran will not be a concern. Additionally, worries that trade negotiations between the US and China are deteriorating has investors evaluating expected oil demand. As demand forces tapper, the commodity could continue to plunge, especially if it breached the next support level of $56/bl.
Gold prices increased by 0.62%, closing the week at $1,283.60/oz. The increase came as the dollar fell 0.40%, making the metal cheaper to purchase for foreign investors. Additionally, as volatility rattles the market and the shorter-term direction of equities remains somewhat unclear, investors prefer to hedge against further potential downturns by holding safe-haven assets such as gold. Since gold is a US dollar-denominated safe-haven asset class, it tends to rise when stocks experience abnormal volatility and the dollar remains steady. Going into the remainder of 2019, gold has the potential to rise if current tensions persist.
The 10-year Treasury yield decreased from 2.39% to 2.32%, resulting in positive performance for traditional US bond asset classes. During the week, Treasuries experienced increased demand as investors looked to hedge against trade tensions by buying US safe-haven assets. The two-year note also experienced abnormal demand as investors hedged against current geopolitical risks. The spread between the 2 and 10-year treasury yield currently sits at 0.16%, down from the year-to-date high of 0.23%. However, if geopolitical tensions were to taper, the spread could widen and yields would have the potential to rise.
High-yield bonds were negative for the week as riskier asset classes fell and credit spreads loosened. However, as long as US economic fundamentals remain healthy, higher-yielding bonds have the potential to experience further gains in the long-run as the risk of default is still moderately low.
Asset class indices are positive so far in 2019, with large-cap US stocks leading the way and traditional US bonds lagging behind.
Lesson to be Learned
Many people watch the prices of stocks they have recently sold more closely than the prices of those they still own; thus they show themselves to be more concerned with justifying past actions than in planning future ones”
– John Brooks
Hindsight bias leads us to believe an event was more predictable than it actually was. Unfortunately, this is an easy trap for many investors to fall into, reliving how they would have “acted differently” now knowing the circumstances of today. We need to be careful when evaluating how past events actually impact current market conditions. The past cannot be changed, but we still have the ability to adhere to a smart investment strategy and make our portfolio better in the future. Removing emotions from the investment process can help us avoid biases like hindsight, keeping us focused on what really matters – our plan moving forward.
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 66.67% 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 29.29, forecasting further economic growth and not warning of a recession at this time. The Bull/Bear indicator is currently 66.67% bullish – 33.33% bearish, meaning the indicator shows there is a slightly higher than average likelihood of stock market increases in the near term (within the next 18 months).