Market insights and analysis

How dynamic, risk-managed investment solutions are performing in the current market environment

1st Quarter | 2021

Market insights and analysis

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Updates on how dynamic, risk-managed investment solutions are performing in the current market environment.

By Jerry Wagner

The major stock market indexes finished mixed last week. The Dow Jones Industrial Average gained 1.4%, the S&P 500 Index rose 1.4%, and the NASDAQ Composite increased 0.7%. In contrast, the Russell 2000 small-capitalization index lost 1.5%. The 10-year Treasury bond yield and its price ended the week essentially flat. Last week, spot gold closed at $1,898.02, up $14.59 per ounce, or 0.8%.

For 2020, the S&P 500 rallied 18.4%, the 7-10 year Treasury bond returned 9.9%, and the price of gold grew 24.8%. Despite a rocky start as the pandemic broke upon the world and a contentious election took place in the U.S., investors ended up faring quite well in 2020.

Stocks

Stocks ended the year one day after making a new all-time high on many domestic stock market indexes. With new vaccines being administered, and a new stimulus act, equity markets were freed up to follow their normal year-end upward path. The Santa Claus rally proved once again to be a great success.

Unfortunately, the first trading day of the year was not true to form. Normally the first two days of a new year are positive, but that certainly was not the case in 2021. Historically, though, it may just be an early beginning to the usual price stumble that occurs sometime in the first trading week, and following a presidential election year, continues until just after Inauguration Day. This is especially the case when there is a change in party, as is the case this year. In addition, gains of more than 10% in the S&P in the final quarter of a year have most often led to weaker returns than average in the subsequent year.

On the economic front, most economic indicators seem to have lost their upside momentum. For the first time since April, the number of indicators improving their year-over-year performance declined in November (the last full month of comparable data). This return to the negative side of the ledger could presage a choppy market environment like 2018 and the beginning of 2019 when such weakness was also prevalent.

Bonds

Treasury bonds have been relatively flat for the last month, with the 7-10 year maturity declining just 0.3%. Still, the trend in bond prices is certainly down since August, as can be seen in the chart above. With prices bumping up against their declining 50-day moving average, further price declines seem likely.

While the Federal Reserve has continued its stimulus policy with the largest purchases of bonds and ETFs in history, last week saw the Fed’s holdings drop by $41 billion, the third-biggest drop of all time. In addition, some pundits are already warning that while the Fed is aggressive now, that stance will probably change in the coming year to become less accommodative. Instead of a tailwind pushing stocks and bonds higher, Fed actions may become a headwind that both asset classes will have to overcome at some point this new year.

Gold

After four months of declines, gold moved strongly higher in December, taking the yellow metal to its best year in the last 10. In doing so, gold decisively broke out above its 50-day moving average.

The fear of rising interest rates to come had halted previous attempts to put together a rally. In December, it appears that these fears were overcome by the precipitous decline in the U.S. dollar against most currencies. Gold has long been perceived as holding the line against deteriorating purchasing power. And it is rare to see gold go anywhere but up when the dollar is falling.

In addition, all of the Fed’s stimulus and the enormous fiscal giveaways by the government have raised the specter of rising inflation. Gold bugs have a hard time finding any significant evidence that this is occurring so far in the government reports on inflation. Yet anecdotal evidence of key commodity price changes in the futures markets seems to suggest that it is just a matter of time before prices in these reports start to reflect what participants in these markets are already seeing coming to pass.

Should price changes of this magnitude start to show up in government inflation reports, it is likely that the demand for gold and its price will also rise significantly.

Flexible Plan is the subadvisor to the only U.S. gold mutual fund, QGLDX, that seeks to track daily price changes in the precious metal.

The indicators

The short-term trend indicators we monitor for stocks are mixed. The very short-term-oriented QFC S&P Pattern Recognition strategy’s equity exposure has maintained 200% exposure to the S&P 500 Index, its highest level. Investor sentiment among small investors remains extremely bullish, with bearish sentiment at lows normally reserved for market tops. In addition, the percentage of stocks that have topped their 50-day and 200-day moving averages have reached levels that have normally preceded declines.

Still, our intermediate-term tactical strategies are uniformly positive, although to varying degrees. The Volatility Adjusted NASDAQ (VAN) strategy has a 200% exposure to the NASDAQ, the Systematic Advantage (SA) strategy is 137.5% exposed to the S&P 500, our Classic strategy is in a fully invested position, and our QFC Self-adjusting Trend Following (QSTF) strategy remains 200% invested. VAN, SA, and QSTF can all employ leverage—hence the investment positions may at times be more than 100%.

Among the Flexible Plan Market Regime indicators, our Growth and Inflation measure shows that we are in a Normal economic environment stage (meaning a positive monthly change in the inflation rate and positive monthly GDP reading). This occurs about 60% of the time and favors gold and then stocks over bonds, although in this stage gold carries a substantial risk of a downturn.

Our Volatility composite (gold, bond, and stock market) is showing a Low and Falling reading, which favors stock returns over gold and then bonds. This stage occurs about 37% of the time and is a stage represented by decent returns for all asset classes. Gold is likely to be the most volatile asset class during this regime stage.

All of us here at Flexible Plan wish you and your family health and prosperity in the new and very welcome year of 2021.



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