Market insights and analysis

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

3rd Quarter | 2021

Market insights and analysis

rss

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

By Jerry Wagner

The major U.S. stock market indexes were mixed last week. The Dow Jones Industrial Average gave up 1.4%, the S&P 500 Index rose 0.3%, the NASDAQ Composite climbed 1.2%, and the Russell 2000 small-capitalization index dropped 2.9%. The 10-year Treasury bond yield fell 2 basis points to 1.537%, sending bond prices higher for the week. Spot gold closed the week at $1,845.73, down $19.17 per ounce, or 1.03%.

Stocks

As the chart above shows, the S&P 500 hit yet another new high last week. Unfortunately, a host of daily indicators, including the advance-decline line illustrated above, did not confirm.

This could be an early warning sign of trouble for the markets despite the generally positive seasonal period that we have entered into. Or it could be corrected with just a day or two more of positive gains in the index. However, the weak breadth caused two intermediate-term indicators with decent track records to generate sell signals last week.

Both are based on a failure of market breadth to match the new highs made by both the S&P and the NASDAQ last week. SentimenTrader.com saw its New High-Low Spread with Weak 50- & 200-day Average model generate a sell. Its last signal came on February 21, 2020, just before the COVID decline. It normally points to lower stock prices over the next two months.

Similarly, we had a Hindenburg 3X Cluster signal register as well. Quantifiable Edges says that this last occurred on February 2, 2020. Again, this preceded the COVID sell-off that amounted to a 24% loss over the next 35 trading days. There have been 18 of these signals since 1980, with 61% leading to losses.

The trend indicators discussed below suggest that the market has further to run, but the generally early breadth warnings discussed above bear watching. They may suggest that a trend change is imminent.

These warnings come Thanksgiving week, which has generally been considered a bullish time. Although, in recent years, the edge seems to be wearing thin. Looking at the last 20 years, only the bullishness of Wednesday and the bearishness of the Monday after Thanksgiving have held up. December, on the other hand, has continued its tradition of strength through to the Christmas holiday.

These technical and seasonal machinations come at a time when the economic reports have been better than expected. Retail sales have advanced impressively, and although the rate of year-over-year (Y/Y) change in October was considerably less than at its peak this year, sales continue to soar at double-digit Y/Y rates. They have gained 21.1% over their pre-COVID peak and 55.7% over their recent COVID-inspired low point.

Factory orders have similarly topped their pre-COVID levels, and leading indicators outperformed economists’ expectations. Despite some sluggishness in housing starts, homebuyer expectations surprised to the upside.

The third-quarter earnings reporting season ended last week with the Walmart report. Of all U.S. companies reporting, 69% exceeded earnings expectations and 68% beat analyst predictions on revenues. While these numbers are substantially above their long-term average, they are far below the 80%-plus level of surprises registered at the start of the year.

GDP growth has fallen sharply from the gains registered at the end of last year and the beginning of this year. The last two reports saw a drop from 6.7% growth to just 2%. The fear is that with increased taxation and regulation, as well as potential lockdowns and employment shortages, that even this minimal level of growth will disappear next year.

Regardless, the U.S. stock market continues to be the best place to invest. International indexes are lagging by a wide margin. With the recent surge in COVID cases in the EU, as well as the resulting lockdowns, this seems likely to continue. Incredibly, both the MSCI World Ex US Index and its Emerging Market Index are below the levels they hit in 2007.

Bonds

Bonds surprised many experts with their recent performance. With all of the government inflation measures showing higher-than-expected levels of inflation, the 10-year government bond yield, for example, has been trending down for the last two weeks. Its recent high was, surprisingly, achieved at a level below its spring high point.

With Thanksgiving dinner priced 14% higher than last year by the American Farm Bureau Federation, it’s easy to make the case for inflation. But bond investors are not yet fully convinced, and their short-term beliefs were supported by the declines last week in the prices of gold, oil, natural gas, copper, bitcoin (-10% last week), and even lumber and shipping costs.

Gold

Gold slumped last week despite increasingly widespread talk of soaring inflation rates. The yellow metal had been on a bullish run since its low at the end of September. It had even overtaken its 50-day moving average, survived a test of that level, and then moved back above the $1,800-per-ounce mark.

Gold made this progress even though the U.S. dollar was making a bull run of its own. It has made a string of new highs since July, including a new 2021 high set last week.

Gold and the dollar usually move in opposite directions. Most commodities also move contrary to the dollar. In fact, it is the first time since 2010 that the dollar has been at a 52-week high and the CRB Commodity Index has been up 10%. What will cause the two asset classes to return to their traditional relationship? Will gold fall or the dollar? Last week’s downward action is not encouraging for gold bugs.

Flexible Plan is the subadvisor to the only U.S. gold mutual fund, The Gold Bullion Strategy Fund (QGLDX), designed at its introduction more than nine years ago to track the daily price changes in the precious metal.

The indicators

The short-term-trend indicators for stocks that we watch are positive. The very short-term-oriented QFC S&P Pattern Recognition strategy maintained its 1.6X exposure to the S&P 500 throughout the week. Our Political Seasonality Index (PSI) avoided the market from November 15–18. Since the close on November 18, our PSI has been in the market and will stay there until December 7. (Our QFC Political Seasonality Index—with all of the daily signals—is available post-login in our Weekly Performance Report section under the Quantified Fund Credit category.)

FPI’s intermediate-term tactical strategies are uniformly positive as well, although to varying degrees. The Volatility Adjusted NASDAQ (VAN) strategy has a 120% exposure to the NASDAQ, the Systematic Advantage (SA) strategy is 90% exposed to the S&P 500, our Classic strategy is in a fully invested position, and our QFC Self-adjusting Trend Following (QSTF) strategy has an exposure of 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 gold carries a substantial risk of a downturn in this stage.

Our S&P volatility regime is registering a Low and Falling reading, which favors equity over gold and then bonds from an annualized return standpoint. The combination has occurred 37% of the time since 2000. It is a stage of high returns and lower-than-average volatility for equities, average returns with high volatility for gold, and low returns and risk for bonds.



Comments are closed.