The stock market only moves in one direction … or so it seems these days. May was another good month for equity investors with all the major indices we follow producing positive gains. Laggards were the S&P 500 and the mid-cap S&P600 indexes as the MSCI EAFE led the march higher. The weakened dollar may play a role in the outperformance of international stocks. The Aggregate Bond Index was modestly lower. Commodities continued to surge, recording a 3.54% gain for the month.
All data as of 06/01/2021, Source: Wells Fargo Investment Institute. [Wells Fargo Investment Institute, Inc. is a registered investment advisor and wholly-owned subsidiary of Wells Fargo Bank, N.A., a bank affiliate of Wells Fargo & Company.]
The stock market has once again been kind to investors. For the month of May we have seen the averages continue to produce new all-time high levels as the US economy continues to reopen for business. The laggard for the month was the S&P 400, which posted a slight gain for the month, but is up more than 18% for 2021. Overseas indices are lagging on a year-to-date basis, but the reopening process in Europe has been 6-8 weeks behind the US, and places like Japan have started to see a boost in Covid-19 cases.
Much to the surprise of many observers, US Treasury Bond yields have remained below pre-Covid levels (current yield is 1.60% vs. 1.90% prior to the March 2020 shutdown). This suggests that the commodity price inflation we are seeing in the CRB Index is expected to be a bump in the road, not a secular change in direction. We are fully expecting that once global supply chains get back to normal functionality the pricing pressure will subside.
In the category of sometimes clients say the most darned things: A few weeks ago we met with a younger client who has done very well over the past 10 years. In reviewing his portfolio and 401k information I noted his total assets and we discussed where he was financially a decade ago. I also noted the nice performance he has had so far in 2021.
His retort (in a kidding not kidding way): “well, the stock market never goes down, right?”
This got us thinking about the big picture for the stock market, the current economy, and where we might be in the current investment cycle. If you’ve been investing for more than the past few years you know that every good bull market eventually comes to an end. The business channels have talking heads on every week to argue both sides of the argument. In our opinion, such chatter trivializes the issue at hand.
Markets move in cycles of varying lengths. The discussion here is not concerned with the short-term cycles and fluctuations of the markets, but a big picture look at the most fundamental question for stock market returns: are we in a secular Bull Market or a Secular Bear Market?
What Drives Secular Markets?
According to Investopedia, “a secular market is a market that is driven by forces that could be in place for many years, causing the price of a particular investment or asset class to rise or fall over a long period.” In our opinion, having an understanding of the big picture – knowing if you are in a bull or bear market – can help drive the investor to better decision making.
According to Crestmont Research, the three components of general stock market returns that matter are earnings growth, dividend yield and the change in P/E (price-to-earnings) over the investment period. These three components are driven by a number of underlying factors, including interest rate levels, corporate earnings, and general economic conditions. All have roots in finance or economics. All estimated over long-term periods based on a set of underlying assumptions.
Most of the time markets are in a trend, be it a bull market moving higher or a bear market moving down or sideways. When we are trending – be it up, down or sideways – we find the most appropriate strategy is to make investment decisions based on the larger secular trend. In a bull market that could mean buy the dips. In a secular bear market, a more nuanced strategy is appropriate. Where things get tricky is when markets are moving from one market environment to the other.
The move from bull to bear and bear to bull occurs when the underlying conditions change enough to alter the current economic assumptions. As the chart above plainly shows, these moments are few and far between. Really, they aren’t moments. A better phrase would be “period of transition.”
What is the Current Secular Trend?
The million-dollar question!!!
In early 2013 the S&P 500 broke above the 1565 level that was the peak of both the end of the previous secular bull market in 2000 and again in October 2007 at the start of the financial crisis. After breaking above what feels like ridiculously low levels today the S&P500 never looked back. Currently we are in a secular bull market.
Chart #3 shows the long upward trend the market has been in since the 2013 break above long-term resistance levels for the index. There have been less than happy times for investors in the short-term. From mid-2015 into February 2016 the market corrected almost 20% from peak to troth; The final three months of 2018 were not pretty as investors revolted in what is now referred to as the “Taper Tantrum”; And let’s not forget the ugly price action in March 2020 as the economy shut down due to the pandemic.
What all these corrections have in common is they all ended before the market continued to move back to new all-time high levels. This is how secular bull markets work. And in retrospect, while feeling not-so-great at the time, all three pullbacks were opportunities to take advantage of, in our opinion, not run away from.
How Long Can We Expect the Secular Bull Will Last?
Well … it depends. Secular markets are lengthy by definition. With a start date in 2013 we are 8+ years into the current trend, which could be the halfway point. Or not. While all trends have commonalities, they are all different in nature. Mark Twain might say that markets trends won’t repeat but they will rhyme with each other.
In 2019 JPM put out a piece titled “Why we’re in the early innings of a secular bull market” that argues for annualized double digit stock market returns until 2033-2035 as the S&P 500 approaches 10,000 … which is a very bold prediction. That said, the timeline given is about the average length of a secular bull market. It may sound and feel unreasonable at first glance, but it is a thought process based in historical data.
While we would love to tell you this will work out just as planned, the honest truth is it may or may not work out that way.
From a big picture perspective, we need to look at the underlying conditions Crestmont Research indicates as important. A fundamental breakdown in these areas would preclude a change in the secular market direction.
- Interest Rates: Currently rates are low and look to stay low for the foreseeable future. Federal Reserve Chairman Powell expects to keep its key rate near zero through 2023 and long-term rates have remained low. History tells us that the spread between short-term and long-term rates can only widen so far before market participants come in and close the gap. Interest rates do not look to be an issue of concern in the next few years.
- General Economy: OECD expects 2021 GDP growth to be 5.8%, with 2022 projected to be 4.4%. For comparison, the last year real GDP grew more than 4.4% was 1999. While we do understand the economy could return to the baseline of 2% it was growing at for the past few decades, we don’t see that happening in the next 18 months. One key factor could be the proposed infrastructure plan that is making its way through Congress at this time. If it passes in something close to what is being negotiated, we view that as positive for future GDP growth.
Corporate Earnings: Earnings have bounced back surprisingly well as the economy continues the reopening process. Looking ahead we see continued positive signs as companies take advantage of the current economic environment. Pricing power is apparent in many sectors with additional business prospects as the world changes for other companies and sectors. With a growing economy, new opportunities, and pricing power we have no concerns about corporate earnings in the near to intermediate term.
It is always easy to find reasons (excuses) for why the stock market will move higher or lower on any given day. There are people who make a living doing just that. We have never claimed to have the ability to predict where the markets will be in the coming weeks or months. Heck, we won’t even forecast what we expect on a yearly basis. What we do feel comfortable with, however, is the secular direction for the stock market, which is what really is important in our opinion. Within a secular bull market there will be times the market pulls back. Could happen because of a short-term event or a fear that overcomes the market. The 2015 pullback was related to a crash in oil prices, 2018 was the taper tantrum, and last year was the pandemic.
Right now we see no reason to believe there will be a fundamental change in the overall market direction. Do we expect the occasional “pullback” or “correction?” You bet we do! But we also believe lower stock prices would be a temporary situation. A reason to become more bullish. The times will change … just not right now.
We remain bullish on the stock market for the long term.
For More Information About our Complimentary Portfolio Review Service,
Contact Our Team Of Financial Advisors Today!
On behalf of Magellan Financial we would like to thank you for taking the time out of your busy day to take in our thoughts and opinions. If you found this helpful, please forward it on to others. If you have any questions on the materials presented, would like to be added to our email list, or would like our help with your investments, we can be contacted at 610-437-5650 or via email.
Wells Fargo Advisors Financial Network did not assist in the preparation of this report, and its accuracy and completeness are not guaranteed. The opinions expressed in this report are those of the author(s) and are not necessarily those of Wells Fargo Advisors Financial Network or its affiliates. The material has been prepared or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Additional information is available upon request.
All investing involves risks including the possible loss of principal invested. Past performance is not a guarantee of future results.
Index returns are not fund returns. An index is unmanaged and not available for investment.
Dow Jones Industrial Average: The Dow Jones Industrial Average is a price-weighted index of 30 “blue-chip” industrial U.S. stocks.
S&P 500 Index: The S&P 500 Index consists of 500 stocks chosen for market size, liquidity, and industry group representation. It is a market value weighted index with each stock’s weight in the Index proportionate to its market value.
S&P Midcap 400 Index: The S&P Midcap 400 Index is a capitalization-weighted index measuring the performance of the mid-range sector of the U.S. stock market, and represents approximately 7% of the total market value of U.S. equities. Companies in the Index fall between the S&P 500 Index and the S&P SmallCap 600 Index in size: between $1-4 billion.
S&P Small-Cap 600 Index: The S&P SmallCap 600 Index consists of 600 domestic stocks chosen for market size, liquidity (bid-asked spread, ownership, share turnover and number of no trade days) and industry group representation. It is a market value-weighted index (stock price times the number of shares outstanding), with each stock’s weight in the index proportionate to its market value.
MSCI World Index: The MSCI World Index is a free float-adjusted market capitalization index that is designed to measure global developed market equity performance.
MSCI EAFE® Index: The MSCI EAFE Index is designed to represent the performance of large and mid-cap securities across 21 developed markets, including countries in Europe, Australasia and the Far East, excluding the U.S. and Canada.
Bloomberg Barclays U.S. Aggregate Bond Index: Bloomberg Barclays U.S. Aggregate Bond Index is a broad-based measure of the investment grade, US dollar-denominated, fixed-rate taxable bond market.
NASDAQ Composite Index: The NASDAQ Composite Index measures the market value of all domestic and foreign common stocks, representing a wide array of more than 5,000 companies, listed on the NASDAQ Stock Market.
Russell 2000® Index: The Russell 2000® Index measures the performance of the 2,000 smallest companies in the Russell 3000® Index, which represents
Technical analysis is only one form of analysis. Investors should also consider the merits of Fundamental and Quantitative analysis when making investment decision. Technical analysis is based on the study of historical price movements and past trend patterns. There is no assurance that these movements or trends can or will be duplicated in the future.
Stocks offer long-term growth potential, but may fluctuate more and provide less current income than other investments. An investment in the stock market should be made with an understanding of the risks associated with common stocks, including market fluctuations.
Investing in foreign securities presents certain risks not associated with domestic investments, such as currency fluctuation, political and economic instability, and different accounting standards. This may result in greater share price volatility.
Investments in fixed-income securities are subject to market, interest rate, credit and other risks. Bond prices fluctuate inversely to changes in interest rates. Therefore, a general rise in interest rates can result in the decline of the bond’s price. Credit risk is the risk that the issuer will default on payments of interest and/or principal. The risk is heightened in lower rate bonds. If sold prior to maturity, fixed income securities are subject to market risk. All fixed income investments may be worth less than their original cost upon redemption or maturity.
Investing in commodities is not suitable for all investors. The commodities markets are considered speculative, carry substantial risks, and have experienced periods of extreme volatility. Investments in commodities may be affected by changes in overall market movements, commodity index volatility, changes in interest rates or factors affecting a particular industry or commodity. Exposure to the commodities markets may subject an investment to greater share price volatility than an investment in traditional equity or debt securities. The prices of various commodities may fluctuate based on numerous factors including changes in supply and demand relationships, weather and acts of nature, agricultural conditions, international trade conditions, fiscal monetary and exchange control programs, domestic and foreign political and economic events and policies, and changes in interest rates or sectors affecting a particular industry or commodity. Products that invest in commodities may employ more complex strategies which may expose investors to additional risks, including futures roll yield risk.
Investment products and services are offered through Wells Fargo Advisors Financial Network, LLC (WFAFN), Member SIPC, a registered broker-dealer and a separate non-bank affiliate of Wells Fargo & Company. Magellan Financial, Inc. is a separate entity from WFAFN.
Robert I Cahill, Managing Partner Rob.Cahill@wfafinet.com
Jeffrey T. Bogert, Partner
Jonathan D. Soden, Partner Jon.Soden@wfafinet.com
Robert Sweeney, Financial Advisor Bob.Sweeney@wfafinet.com
Jay Knight, Associate Financial Advisor Jay.Knight@wfafinet.com