Stocks Erase May Decline as S&P 500 Reaches New High
Stocks climbed higher for the third consecutive week as June’s strong run continued. On Thursday, the S&P 500 closed at a new all-time-high level, officially erasing all of May’s sharp decline. The main catalyst during the week was investors anticipating a potential rate cut in the near future. While the Federal Open Market Committee voted 9-1 to keep rates unchanged, the central bank left the door open to make adjustments going forward. Following the conclusion of the meeting, Federal Reserve Chairman Jerome Powell said, “many participants now see the case for somewhat more accommodative policy has strengthened.”
Bonds also rallied during the week as interest rates fell to their lowest levels since pre-election 2016. Since reaching a recent high of 3.24% in November of last year, the 10-year Treasury yield has cratered to 2.07%, briefly dipping below 2% before recovering slightly by the end of the week. A dovish Fed, subdued global growth, and ongoing trade uncertainties have led to a persistent decline in interest rates, resulting in steady increases in bond prices so far in 2019.
While stocks have now rebounded from May’s losses, the past few months illustrates how important it is to stay committed to a plan and maintain a well-diversified portfolio. While stocks have been volatile, other asset classes (such as gold, REITs, and bonds) have experienced more steady, positive performance.
Flashy news headlines can make it tempting to make knee-jerk decisions, but 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
The Dow Jones Industrial Index closed above a key resistance level for the fourth time on Friday. Over the last couple years, the Dow has breached the level of 26,616 on four distinct occasions, with the last three proving to be unsuccessful. In order for the Dow to breach the key resistance level and sustain momentum, any pullback would need to remain above the 26,616 level. If this happens, the Index could continue to climb and potentially reach sustained higher levels. However, if history repeats itself and the index is unable to maintain momentum above the key resistance level, we could possibly be facing a short-term retreat. Currently, the Index is just under setting a fresh all-time high.
*Chart source: Bloomberg
Broad equity markets finished the week positive as large-cap US stocks fared better than small-cap stocks. S&P 500 sectors were also positive, with cyclical sectors outperforming defensive sectors.
So far in 2019, technology and real estate are the strongest performers while healthcare has been the worst performing sector.
Commodities were positive for the week as oil prices increased by 9.37% to $52.51/bl. This is the largest weekly increase since November 2017 as the United States and Iran’s relationship deteriorated. The market is actively pricing in a supply constraint as tensions between the US and Iran worsen following the Arab nations attack on US Navy drones. Although President Trump walked back the threat of military retaliation by week-end, additional sanctions are going to be placed on Iran adding to current geopolitical risk. Currently, sanctions on Venezuelan and Iranian oil have already restricted oil supply in global markets with the US and Saudi Arabia filling in supply gaps.
Gold prices rose by 4.19%, closing the week at $1,396.20/oz. This is the largest weekly increase since April 2016. Higher prices came as investors looked to hedge against geopolitical risks in the safe haven asset. Additionally, gold has recently broken above the tight trading range it has been in for the last four years. If geopolitical risks remain and the dollar weakens, the metal might see additional gains throughout the year. In the latest Fed meeting, Jerome Powell announced rates will remain unchanged but signaled an openness to cut rates. Since gold is a safe-haven asset class, it tends to perform best when interest rates are low and volatility is high.
The 10-year Treasury yield fell from 2.09% to 2.07%, resulting in positive performance for traditional US bond asset classes. During the week, Treasury yields fell on both the short and long end of the yield curve as the Fed signaled a willingness to cut rates if market and economic activity deteriorate. Currently, the probabilities for a rate cut in July and September are both 100%. This is up significantly from what was 0% at the beginning of the year. Supporting sentiment for a rate cut was the recent lackluster jobs report and a slight gain in unemployment claims. However, holistically the US continues to look relatively healthy, showing no major signs of a slowdown.
High-yield bonds were positive for the week as riskier asset classes rose and credit spreads tightened. 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 aggregate bonds lagging behind.
Lesson to be Learned
We do the worst possible thing at the worst possible time because we are most certain that we are right just when we are most likely to be wrong.”
– Jason Zweig
Investors often cost themselves money because of irrational short-term behavior. When exuberance or fear set in people tend to act on emotions, leading them to make decisions at the worst time. The best way to avoid this irrational behavior is to implement a plan with predefined steps to take ahead of time. If you stick with a plan and maintain a properly diversified portfolio, you increase your chances for a successful investment outcome in the long-run.
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 26.39, forecasting further economic growth and not warning of a recession at this time. The Bull/Bear indicator is currently 33.33% bullish – 66.67% bearish, meaning the indicator shows there is a slightly higher than average likelihood of stock market decreases in the near term (within the next 18 months).
The Week Ahead
The G20 Summit is taking place later this week, where President Trump and Chinese President Xi are scheduled to meet regarding tariffs.