Notes and Thoughts for November 5th, 2018
I’m headed to New York for a CFA conference as well as a few manager meetings. Before I go I wanted to share a few observations:
- A stock market correction is upon us, obviously. Support for the S&P 500 is around 2550-2570. We bounced off the 2600 level on October 29th. Hopefully we will not retest that level and break through, because if we do the charts say we could go all the way down to 2200. I believe the stock market is oversold and this, combined with positive seasonal factors, will take us back over 2800. If we get within a percent or so of the all-time highs near 2935, however, I am going to lighten up on stocks.
- Technically, emerging markets are in a bear market (the 50-day moving average is below the 200 day moving average, the latter is declining, and the current price is below both). International developed markets are also in a bear market, and U.S. midcap and small cap stocks are close. Midcaps will almost certainly see a negative “golden cross” by weeks’ end, but small cap stocks have a very good chance to avoid it if the stock rebound continues.[i]
- Long term treasuries gave up all of the 2.5% gains they made from October 8th to October 29th.[ii] Flight to quality buying was unimpressive when the stock market was struggling, and the gains were immediately given up when markets stabilized. This is a SHOUT to advisors than 60/40 is probably not going to help you if the “40” is high quality long-term bonds, because investors do not fear recession.
- Gold added almost 4% over the last 4 weeks to go from -9% to -5.5% for the year.[iii] That said, it is not telling you that the economic recovery or the path of interest rates was broken by the market decline. Gold experienced a counter-cyclical rally within an on-going bear market, at least for now. Gold’s bull market will begin when the economy starts to falter and investors decide that the Fed hiking cycle is over.
- Some prominent tech stocks had rough days in October but the technology sector as a whole did not underperform other prominent sectors (financial, health, energy, materials) on the month. Therefore, it cannot be argued that tech is particularly If we are in the process of wringing out the excesses in order to set the stage for another leg to this secular bull market, then tech must decline further. I think this is behind the current weakness in that sector. Dividend stocks may well be better performers for the rest of the year.
- High yield bonds are starting to de-couple from floating rate bonds. Over the last 4 weeks high yield bonds lost around -1.8%, while floating rate lost about -0.17%.[iv] Like stocks, I believe the selling wave is over for the time being. I would use an end-of-the-year bounce as an opportunity to upgrade credit.
- Small cap stocks went into a correction before large caps did (early September), but now seem to be recovering a little better. It appears that relative strength may be starting to rotate, and I no longer prefer large cap stocks over small caps, nor do I prefer growth to value. We will have to see what the narrative of the next rally is, and then position ourselves accordingly.
- International small caps had a very strong week, finally.[v] They had gone almost steadily lower since January (no higher highs), and they were ridiculously oversold in October. Some funds were down as much as 20% YTD. I really think this is the most attractive area of the market from a earnings growth versus price standpoint, but liquidity here is still weak and probably will be until tax selling season is over.
-Mark Carlton, CFA
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[i] Source: YCharts.com, MSCI Emerging Market and MSCI EAFE
[ii] Source: YCharts.com as measured by the iShares 20+ Year Treasury Bond ETF
[iii] Source: YCharts.com as measured by the SPDR Gold Shares ETF
[iv] Source: Ycharts.com as measured by the iShares iBoxx High Yield Corporate Bond ETF and iShares Floating Rate Bond ETF
[v] Source: YCharts.com as measured by the iShares MSCI EAFE Small cap ETF