November was a positive month for equity investors as the US-based indexes we follow were all positive for the month as international indices continued their slide. Bonds and the dollar were slightly positive. Selling off hard for the month were commodities.
U.S. & International Stock Index Returns
|Index Novenber 2018 Year-to-Date|
|Dow Industrials 1.71% 3.31%|
|S&P 500 1.80% 3.23%|
|S&P 400 (Midcap) 2.72% (1.15%)|
|S&P 600 (Small Cap) 1.39% 2.85%|
|MSCI World (0.92%) (3.87%)|
|MSCI EAFE (0.27%) (11.49%)|
|Bloomberg Agg. Bond (1.79%)|
|CRB Commodity Index (6.25%)|
|US Dollar Index 5.35%|
All data as of 11/30/2018, 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.]
November was up and down for US equities as both the S&P 500 and the Dow Industrials ended the month higher, but below their respective inter-month highs. After a hard October it is reasonable to expect some fighting between the bulls and the bears. With the short-term trend still unresolved, we expect December to give some clarity on the market’s direction for the intermediate term.
Looking at the charts (Chart #1 & #2) the Dow looks to be in a better position than the S&P 500 as it closed the month above its 200-day moving average (which we view as the long-term trend indicator). The result is an unclear direction for the stock market.
The 10-year Treasury yield moved lower in November, closing the month at 3.028%. In our opinion, this strength is something to keep a very close eye on as the yield on the 10-year Treasury has importance beyond just its return as an investment. If what we are looking at is a true trend reversal there are a number of important factors that need to be evaluated that go beyond the bond market.
Of most importance is that yields on this bond are seen as a proxy for investor confidence both here and abroad. Seen as a safe haven due to the full backing of the United States of America, Treasury bills and bonds see increased demand when the country and/or world get nervous. In good times investors are willing to take on more risk so this safe haven will see yields rise as prices fall on weaker demand. The opposite happens when economic expectations are low, or an event or series of events cause investor panic. Even when U.S. credit ratings get downgraded Treasury bonds are still the go-to safe haven for nervous investors!!! The 10-year is also used as the benchmark for mortgage rates.
Right now we want to see how this develops in the coming weeks. With no big event that is spooking the markets, an end of the uptrend in yields would suggest the economic cycle has peaked and market expectations are for lower economic growth in the short to intermediate term. For now there is no reason for alarm.
The dollar strengthened slightly this month, although at a slower pace than the recent past. Trade issues still hang over the currency markets even after the announcement of U.S.-China détente and a 90-day hold on more tariffs on Chinese goods imported into the U.S. Without a resolution to trading issues or a severe weakening of the American economy our expectation is for dollar strength to continue.
The commodity complex was the big loser in November as the CRB Commodities Index shed 4.75% for the month. Brent oil, a major contributor to the weakness, closed November below $60 per barrel. With production at record levels (11.6 million bpd) here and both Russia and Saudi Arabia maintaining high production levels, not to mention the many waivers being granted to US sanctions on Iranian oil production, a reversal of the trend in the short-term seems unlikely.
Last month we took a dive into the economy, company earnings, and market valuations. Coming off a bad monthly performance in October it was a prudent thing to do. As I am sure we have discussed many times in the past, the seasonal trend turns positive in November with the “best 6 months” for stock market returns generally ahead of us. While some may not want to read the words that follow, we must all remember that seasonal trends are not seasonal certainties. Which is why we need to consider the current circumstances for some insight into what is likely to happen in the foreseeable future. Today we want to once again look ahead but with a bigger, broader lense.
At Magellan Financial we tend to be more interested in where the market is going in the coming months and year(s) as opposed to the coming days/weeks. We are investors by nature, not speculators or traders. Our concern is what to do with our client’s long-term wellbeing, protecting their assets and cash-flow. In any given December you will see individual stocks make unusual moves for a variety of reasons. Some will go unreasonably lower due to tax loss selling as others fly high as fund managers pile in to the momentum stock of the day. That’s all fine, but what happens on January 2, 2019 when everyone’s returns go back to 0.00%?
Fundamentally things are good with corporate earnings at record levels, bond yields normalizing, commodity pricing in check, unemployment low, and economic growth as strong as it has been in a long time. Full throttle ahead. Nothing to see here. Or is there?
Technically we are starting to see cracks in the 9+ year bull market as the S&P 500 ended the month of November below the uptrend line. Looking deeper into the market we have noticed many of the market leading stocks have suffered large corrections as well. Market leadership looks like it is moving to areas that tend to perform well at the end of a market cycle. In itself not the end of the world, it is not the ideal situation. With the S&P 500 and Dow Industrials sitting just below key levels, a few days can change this from what looks like a negative into a positive.
Intermarket activity is a little concerning. The dollar remains strong as no resolution to trade issues with our trading partners has yet to emerge. Commodities hit the skids in November, oil being hit particularly hard. The 10-year Treasury appears to be at a crossroad. The suggestion here (dollar action aside) is that the economy is not expected to be as strong in the future as it is today.
So … how does this all melt together? Without tomorrow’s newspaper where are the clues to where markets are heading?
One of the largest clues comes courtesy of Martin Pring at Stockcharts.com. In the last few major market corrections the stock-to-bond ratio has peaked a bit before the top of the market. As the chart below indicates, at this moment the ratio is high but has not yet turned lower. Concerning but not definitive.
Economically what on the onset sounds positive Is not always so. Those low unemployment numbers? That what we usually see at the top of the economic cycle. Same for the strong heavy truck sales numbers. Housing is starting to struggle due to higher interest rates and higher housing costs. Car sales may have peaked.
Right now we have a list of growing concerns as we close out 2018. The charts are not screaming more upside, the economy while still strong appears not as robust, at a time when the other financial markets are flashing caution signs. A month ago we were cautiously positive. In December our stance has moved to cautious. Right now there are too many signs pointing in wrong direction. After 9+ years of a bull market a true correction it would not be unreasonable. Or surprising.
On behalf of Magellan Financial we would like to wish all of our friends, family, clients and readers a wonderful holiday season. And 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.
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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