Market insights and analysis

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

3rd Quarter | 2022

News

rss

Current market environment performance of dynamic, risk-managed investment solutions.

Market Update 11/14/22

By Tim Hanna

The major U.S. stock market indexes were up last week. The S&P 500 increased by 5.90%, the Dow Jones Industrial Average gained 4.15%, the NASDAQ Composite was up 8.10%, and the Russell 2000 small-capitalization index rose 4.60%. The 10-year Treasury bond yield fell 35 basis points to 3.81%, taking Treasury bonds higher for the week. Spot gold closed the week at $1,771.24, up 5.31%.

Stocks

Equity markets finished the week higher as investors cheered Thursday’s (November 10) October consumer price index (CPI) report, which came in lower than expected and much better than feared. The midterm elections last week resulted in Democrats retaining control of the Senate. Control of the House remains undecided.

Total CPI increased 0.4% month over month in October, less than the 0.6% forecast (most recent print in the following graph). Core CPI, which excludes food and energy, increased 0.3% month over month compared to expectations of 0.5%. After last week’s report, total CPI is up 7.7% year over year, which is less than September’s reading of 8.2%. Core CPI was up 6.3% year over year, 0.3% less than the reading of 6.6% in September.

Investors speculate that the report may validate the view that inflation has peaked and that the Federal Reserve may take a less aggressive approach to interest-rate hikes in next month’s Federal Open Market Committee (FOMC) meeting. Following the CPI news, the S&P 500 had its largest daily gain since April 2020 on Thursday (November 10). The largest gains were seen in growth stocks, primarily technology stocks. These stocks are believed to benefit the most from falling yields, as this typically increases the perceived value of future profits.

Most of the other economic news last week was in line with consensus expectations. Unemployment claims were at 225,000, slightly higher than the 220,000 forecast. One surprise was the preliminary results of the University of Michigan Consumer Sentiment Index, which came in at 54.7, lower than the 59.5 expected. This unexpected fall brings the Index to its lowest value since July. The lead researcher for the survey attributed the drop, in part, to poor buying conditions for durable goods due to high prices and interest rates.

The S&P 500 Index continued its advance above its 50-day moving average with last week’s gains. The Index remains in its downward-sloping bear price channel, with price narrowing in on the upper trend line (the black negative-sloping line on the following chart). The first level of resistance is at the 200-day moving average, which is right below the upper trend line of the bear channel. The 200-day moving average is a measure widely used by technicians to identify long-term trends and levels of support and resistance.

Last week’s moves were extreme not only for stocks but also bonds and the U.S. dollar. Bespoke Investment Group studied the magnitude of last week’s moves relative to history and found that the S&P 500 had its 15th-largest one-day gain since 1980 following the CPI report on Thursday (November 10).

On the same day, the 10-year Treasury had its 17th most extreme downside move since 1980.

The U.S. dollar, which has been in a consistent uptrend for most of this year, had its ninth-largest daily decline since 1980.

The U.S. dollar’s 2% decline on Thursday (November 10) and 1.5% loss on Friday (November 11) contributed to some massive outperformance of international stocks relative to the S&P 500. The following chart shows that the relative strength of the S&P 500 versus the MSCI All Country Worlds Index has tended to track movements in the U.S. Dollar Index. Since 2021, domestic stocks have steadily outperformed as the U.S. dollar rallied. Last week, however, investors may have seen the start of a trend reversal—if not the initial move of a reversal, then at least a pause relative to movements since the beginning of 2021. If the Federal Reserve does begin to take a less aggressive monetary policy, international stocks could see a turnaround.

Some market participants believe that last week’s CPI reading indicates that inflation has peaked, while others think it’s too early to tell. Dynamically risk-managed strategies are able to respond to changing market conditions as the changes are reflected in asset prices. In recent weeks, as markets have moved higher and experienced less downside volatility, a number of our momentum-based strategies moved into more risk-on positioning, and strategies that were inverse have reduced or eliminated their short exposure.

If prices continue higher with low volatility, systematic trend-following algorithms are designed to recognize the price momentum and participate in a risk-on fashion. If volatility resurfaces and prices turn south, systematic momentum strategies are designed to identify the change and move to more defensive positioning.

The following chart shows the year-to-date performance of the Quantified Managed Income Fund (QBDSX, -3.4%) compared to the iShares Core US Aggregate Bond ETF (AGG, -15.0%). The Quantified Managed Income Fund is an actively managed income fund that can seek various income classes as well as the safety of cash when market exposure is undesirable. The Fund is a key defensive component in several actively managed strategies at Flexible Plan Investments.

Bonds

The yield on the 10-year Treasury fell 35 basis points, ending last week at 3.81% as the bond market saw some relief from its battle with a long-term trend of rising interest rates. Last week’s large drop in yields puts the 10-year Treasury right around its 50-day moving average (green line on the following chart), which has been seen as a level of support most of this year.

The major catalyst for the decline in rates last week was the October CPI report. Bond investors speculate that if inflation has peaked then the Federal Reserve will take a less aggressive rate-hike approach during December’s FOMC meeting. Last week, the two-year Treasury yield plunged 32 basis points to 4.31%.

T. Rowe Price traders observed “heightened activity in the investment-grade corporate bond primary market, with issuance largely front-loaded during the holiday-shortened week. The level of new deals surpassed weekly expectations, and the new issues were met with generally strong demand. … Below investment-grade bonds rallied along with equities after the release of softer-than-expected CPI data. … The technical picture for bank loans continued to improve amid slowing outflows from loan funds as well as marginal positive flows for exchange-traded funds.”

Gold

Gold gained 5.31% last week after setting a 52-week low the first week in November. The yellow metal shot through its 50-day moving average with ease and is now closing in on its 200-day moving average. The early July sell-off resulted in a death cross (when the 50-day moving average crossed below the 200-day moving average), but last week’s move helped narrow the difference. The 50-day moving average is now in an upward slope.

Until November, the U.S. dollar’s strength (the purple line in the following chart) had made it difficult for gold to rally. A strong dollar is a restraint on global liquidity and a headwind for inflation in the U.S. In general, a stronger dollar lowers the price of imports. The U.S. dollar and other non-equity or bond exposures are available asset classes for consideration within certain strategies at Flexible Plan Investments.

While the fundamental case for gold in 2022 was strong as geopolitical tensions, recession fears, and the impact of Fed rate hikes held center stage, the technicals have not resembled that positive backdrop, until last week. Most notably, the U.S. dollar broke out of its uptrend (upward-sloping black line on the previous chart). If weakness in the U.S. dollar continues, the 200-day moving average is the next level of resistance for the yellow metal.

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

The indicators

The very short-term-oriented QFC S&P Pattern Recognition strategy started the week with 40% long exposure. Exposure changed to 10% short at Monday’s close, 70% short at Tuesday’s close, 30% short at Wednesday’s close, 0% exposed at Thursday’s close, and 30% short at Friday’s close. Our QFC Political Seasonality Index started the week defensively positioned, moved to stocks at Tuesday’s close, and moved back to defensive positioning at Friday’s close. (Our QFC Political Seasonality Index is available—with all of the daily signals—post-login in our Weekly Performance Report section under the Domestic Tactical Equity category.)

Our intermediate-term tactical strategies have been varied in their degree of defensive positioning. The key advantages these strategies offer to investors are their ability to adapt to changing market environments, participate during uptrends, and adjust exposure to more defensive posturing during downtrends.

The Volatility Adjusted NASDAQ (VAN) strategy started the week 40% short the NASDAQ and moved to 60% short at Thursday’s close, remaining there to end last week. The Systematic Advantage (SA) strategy is 60% exposed to the S&P 500. Our QFC Self-adjusting Trend Following (QSTF) strategy was 100% short until Thursday’s close when it moved to 0% exposure. VAN, SA, and QSTF can all employ leverage—hence the investment positions may at times be more than 100%.

Our Classic model was invested in stocks throughout last week. Most of our Classic accounts follow a signal that will allow the strategy to change exposure in as little as a week. A few accounts are on platforms that are more restrictive and can take up to one month to generate a new signal.

Flexible Plan’s Growth and Inflation measure is one of our Market Regime Indicators. It shows that we remain in a Normal economic environment stage (meaning a positive monthly change in the inflation rate and positive monthly GDP reading). Historically, a Normal environment has occurred 60% of the time since 2003 and has been a positive regime state for stocks, bonds, and gold. Gold tends to outpace both stocks and bonds on an annualized return basis in a Normal environment but carries a substantial risk of a downturn in this stage. From a risk-adjusted perspective, Normal is one of the best stages for stocks, with limited downside.

Our S&P volatility regime is registering a High and Rising reading, which favors equities over gold and then bonds from an annualized return standpoint. The combination has occurred 23% of the time since 2000. It is a stage of lower returns and higher volatility for all three major asset classes.

Showing 0 Comment


Comments are closed.