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 U.S. stock market indexes finished lower last week. The Dow Jones Industrial Average lost 1.1%, the S&P 500 Index gave back 1.4%, the NASDAQ Composite tumbled 2.3%, and the Russell 2000 small-capitalization index dropped 2.1%. The 10-year Treasury bond yield rose 5 basis points to 1.63%, taking bonds lower for the week. Gold was the only winner. Spot gold closed at $1,843.43, up $12.19 per ounce, or 0.67%.

Stocks

Normally, I illustrate the fortunes of the stock market with a price chart of the S&P 500. This week I’m using the NASDAQ 100. It better demonstrates the weakness experienced in the once-front-running Technology sector of the stock market.

While last week’s stock market volatility took the S&P 500 Index to just above its influential 50-day moving average, the NASDAQ 100 Index has plunged below it. When it last did this in March, it spelled another month of flat to down performance for stocks.

Currently, only about 29% of NASDAQ 100 stocks are above their 50-day moving average. In contrast, 70% of the S&P 500 stocks are above this measure. While 60% of NASDAQ issues continue above the longer-term 200-day moving average, 90% of the S&P 500 issues are higher.

The tech-heavy composition of the NASDAQ Index is the primary reason for the difference. Techs continue to be under assault while value stocks outperform. Most tech stocks peaked around the middle of February. Apple, for example, has lost over $150 billion in market value since February 16.

Earnings season is ending. More than 80% of companies have already reported. This time around, even those issues that beat the analysts’ estimates did not seem to prosper in the aftermath of their announcements.

The season started strong, with over 80% of announcing firms beating those estimates. But by last week, the figure had tumbled to about 60%. Since stocks tend to perform in line with earnings, this is beginning to be concerning.

The decline in stocks last week came despite a continued improvement in the COVID crisis. Almost overnight, the CDC changed its guidelines to say that fully vaccinated people can resume most activities (inside and out) without wearing a mask. Cases, hospitalizations, and deaths continue to decline, with the latter registering the lowest level since last July. The economy continues to open up, and that should be a positive for stocks.

But higher taxes and inflation are upsetting investors. The latter roiled stocks last week. As bad as the week finished, it was even worse just after the latest inflation readings were broadcast. The S&P 500 tumbled over 4% before recovering a bit by week’s end to finish down “only” 1.4%.

The April consumer price index registered a year-over-year change of 4.2%, up from the 2.6% rate in March. Core goods shot up over 27% in pricing, registering the highest jump on record. Even broad inflation measures returned to levels not seen since the mid-1970s and mid-1980s.

After already spending trillions on COVID relief and other congressionally favored items, the federal government has announced requests for even more spending. This, combined with the Federal Reserve’s billions of asset purchases, has flooded the markets with a tsunami of cash. A seemingly unending river of dollars chasing a limited amount of goods, made especially small by pandemic shutdown producers, is logically viewed by investors as a precursor of inflation.

On the plus side, bullish sentiment among small investors plunged. Over the last month, the reading of over 55% that caused me concern a month ago has tumbled to just over 35%. Sentiment is a contrarian indicator. Such a quick reversal has historically led to stock market gains during at least 80% of past periods ranging from one week to one year thereafter.

Bonds

Bond yields have neither broken down nor rushed to new highs. Rather they have continued to trace a path along their 50-day moving average. Of course, they did jump higher midweek on the inflation news, but since then rates have dipped a bit and bonds rallied as the week ended.

Despite this rally, and despite the claims of the Federal Reserve and Treasury Secretary Janet Yellen that higher inflationary expectations will soon moderate, investors expect that interest rates will move higher in the months to come. These higher rates could prove troublesome to bond investors as we begin the summer months. Still, if rates break sharply below the 50-day moving average, a rally would likely commence.

Gold

Gold prices reached levels not seen in three months Friday (May 14). Again, the reason most cited for the rally has been the growing evidence of rising inflation.

Also aiding the rise has been the leveling of interest rates. Should they begin to move higher, it could mean an end to the rally. Seasonal history also suggests that this will be the case. May is generally a weak month for the precious metal.

In addition, the continued weakness in the U.S. dollar has been pushing gold higher. Concerns about a higher federal deficit and inflation are leading to expectations of a lower dollar.

Gold continues to approach the top of a long-term declining channel that extends back to last August. We will be watching to see if the yellow metal will break out of the channel, signaling a new rally, or if it will instead start a return journey to the bottom of the price conduit that has held it captive for so long.

Flexible Plan is the subadvisor to the only U.S. gold mutual fund, The Gold Bullion Strategy Fund (QGLDX), designed at its introduction almost 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 negative but recovering. Many traditional market indicators are suggesting weakness over the next month. This coincides with weakness signaled over the same period by our Political Seasonality Index. The Index peaked on May 6 and heads lower until May 26. (Our QFC Political Seasonality Index is available post-login in our Weekly Performance Report section under the Quantified Fund Credit category.)

Still, our very short-term-oriented QFC S&P Pattern Recognition strategy used the low point of last week’s sell-off to double its 80% equity exposure to the S&P 500 Index to 1.6X.

Our intermediate-term tactical strategies are also uniformly positive, although to varying degrees. The Volatility Adjusted NASDAQ (VAN) strategy has a 40% exposure to the NASDAQ, the Systematic Advantage (SA) strategy continues to be 120% 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 reduced its exposure to 80% 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 Volatility composite (gold, bond, and stock market) has a High and Rising reading, which favors stock returns over gold and then bonds. This stage occurs about 23% of the time and is represented by mediocre, although positive, returns for all asset classes, with a higher-than-average risk for gold and stocks.



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