Week 16 Sitrep

Stock markets around the world rallied last week on expectations for slower growth in COVID-19 cases and a potential deal for production cuts in oil by OPEC member countries. While the U.S. stock market has reclaimed some of its lost value since March 23rd, we have yet to see actual evidence of how the recent events will impact the stock market or U.S. economy in the coming months. We do not believe the market prices are currently reflecting the potential damage to the U.S. economy for the 2nd quarter.

Source: J.P. Morgan Asset Management, Weekly Market Recap, 4/13/20

 

Markets often experience “mean reversion” after going through an extreme period of underperformance. Mean reversion simply means that those stocks that had performed the worst during the downturn should experience a short-term reversal. It appears that was the case last week as the stocks and sectors most severely hit from February and March were the best performers for the week. We try not to get too caught in short-term swings like this as the longer-term trend of year-to-date performance is the trend to consider. The difference in returns between large growth companies and all others is substantial.

Source: J.P. Morgan Asset Management, Weekly Market Recap, 4/13/20

 

While the stock market has moved higher in the last two weeks, a snapshot of 2020 shows that the market has not yet recovered 50% of the loss since February. A key benchmark many analysts use to determine recovery is whether the index is trading above or below its 50-day moving average or its 200-day moving average. Despite two 10% rallies higher, the S&P 500 Index remains below both moving averages. The Dow Jones Industrial Average and NASDAQ Index are in a similar situation. Despite significant outperformance by smaller companies last week, the Russell 2000 small company index remains the farthest from its moving averages – nearly 10% below the 50-day moving average!1

Source: Bespoke Investment Group, The Bespoke Report, 4/9/20

 

Heightened volatility is usually a sign of uncertainty in the stock market. Uncertainty continues to reign in the U.S. economy and stock markets and the amount of change in stock prices each day reflects that uncertainty. The current level of daily volatility is only seen in the most extreme cases of economic ambiguity. Bespoke notes the only time we have seen the average daily volatility of stock prices higher than today was in the stock market crash of 1929. Bespoke has also reported that stock indexes do not normally return to prior levels until the volatility subsides.2

Source: Bespoke Investment Group, The Bespoke Report, 4/9/20

 

Reduced expectations is a reality for U.S. corporate earnings for the next three months. However, there is a wide dispersion of forecasts from the various analysts when it comes to how much a reduction we will see. Historically, analysts tend to be a gloomy bunch and expect the situation to be far worse than what U.S. companies are able to deliver. Yet the first week of earnings reports have come in worse than was forecast. John Butters of Factset Insight states that corporate earnings from the S&P 500 companies are expected to decline 10%, the largest year-over-year decline since the third quarter of 2009. Estimates from the beginning of 2020 were that S&P 500 earnings would increase 4.3% and every sector in the S&P 500 is now expecting lower growth.3

Source: Factset Insight, John Butters, 4/3/20

 

The same can be said for economic uncertainty as many forecasts are already expecting both second and third quarter GDP growth to be negative. A recession is technically defined as two back-to-back quarters of negative GDP growth. Similar to corporate earnings reports, the first few weeks of economic data has been below forecasts, especially unemployment claims. The various forecasts from difference analysts reflect the amount of uncertainty, however, we would urge caution on listening to any forecast beyond the second quarter. Until we have some clarity on the economy and businesses returning to work, the outlook for anything beyond this summer is very vague. For now, expect significantly negative growth in the second quarter but do not count on a recession until we know the framework of the economic restart.

Source: Bespoke Investment Group, The Bespoke Report, 4/3/20

 

The broad reach of the economic shutdown is reflected in everything from unemployment to sales of movie theater tickets. Our friends at First Trust have built a nice blog tracking the release of many economic statistics to reveal how challenging the U.S. economy has been and to get an idea of when things start to normalize. The most recent chart is shown below reflecting some amazing statistics on unemployment (up 3,154%), weekly retail sales (up 4.8%) and hotel occupancy (down 68.5%).4 This is one of the many tools we are using to monitor the change in trend for the U.S. economy over the next few months.

Source: First Trust Advisors, Brian Wesbury, 4/13/20

 

Our market indicators remain in a mixed state with the long-term and short-term indicators in positive mode while the intermediate indicator remains negative. There has been tremendous change in the short-term indicator as the markets have swayed back and forth. Just 15 days ago the short-term indicator reflected zero sectors in demand mode while Monday showed 29 out of 26 sectors back in demand mode. We remain encouraged that the long-term indicator has not moved significantly since the mid-March drop and reflects the desire for investors to continue to own U.S. stocks on a long-term basis.

Interest rates continue to trade in a narrow range compared to March. The benchmark 10-year U.S. Treasury Bond closed last week at 0.73% telling us that U.S. economic activity remains tepid. The decline in rates also reflects the very low expectations for inflation in the coming months. The economic uncertainty has dramatically slowed new home construction, but refinancing activity continues to rise.

Source: J.P. Morgan Asset Management, Weekly Market Recap, 4/13/20

 

There will be many impacts in the stock market from the economic shutdown that need to be considered in a portfolio. Our initial risk analysis in January highlighted the risk in stock market valuations, weaker credit ratings and the economic risk in Europe. However, we have updated our current risk analysis to address the changed outlook for corporate earnings and economic growth. An important side effect of the recent slowdown includes the pressure on U.S. companies’ ability to pay their promised dividend. Bespoke recently quoted S&P research that dividend payments were expected to grow by double digits at the beginning of 2020. However, the concern has quickly changed to expect a double-digit decline. At the end of March, S&P reports that 76 companies had either cut or eliminated their dividends.5 Many of the cuts were from a variety of sectors, including energy, consumer discretionary and especially retail. Analysts expect many more announcements as we get closer to the end of the second quarter. The changing dividend landscape presents a risk to individual stocks that needs to be considered in a portfolio.

 

Source: Bespoke Investment Group, The Bespoke Report, 4/9/20

Our webinar series has begun, and we will be hosting three webinars in the coming weeks.

  • Tuesday, April 28th – Retirement & Tax Planning Strategies
  • Thursday, April 30th – Market & Investment Portfolio Updates
  • Wednesday, May 6th – Portfolio Investment Update for existing clients only

If you have not received an invitation for these but would like to join us, please reply to this email and we will be sure to send an invitation. We have been encouraged by the responses from the first few webinars and believe these will be a regular activity for us going forward.

 

If you’d like to schedule a time to discuss your portfolio or the markets in detail, please feel free to call our office at (281) 616-5935 or send an e-mail to cameron.malott@engravewealth.com. We welcome the opportunity to sit down with you and learn more about your situation so we can help you optimize your portfolio to meet your financial goals for years to come.

Engrave Wealth Partners Investment Committee

Bill Day, CFP®, CIMA

Taylor Parker, CFP®

Greg Parker


Footnotes:
1. Bespoke Investment Group, The Bespoke Report, 4/9/20
2. Bespoke Investment Group, The Bespoke Report, 4/9/20
3. Factset Insight, John Butters, 4/13/20
4. Bespoke Investment Group, The Bespoke Report, 4/9/20
5. Bespoke Investment Group, The Bespoke Report, 4/9/20

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