Week 4 Sitrep

To get right to the point: everyone has finally bought in that stocks are going higher. The U.S. stock market continues to shrug away potentially bad news (impeachment trial, Russian constitutional crisis, negative earnings revisions, etc.) and stock prices climb methodically. The S&P 500 Index was up nearly 2% last week overcoming numerous negative headlines again. International stocks represented by the MSCI EAFE Index were up 0.86%.


Source: J.P. Morgan Asset Management, Weekly Market Recap, 1/20/20

 

More of the same in terms of asset class and sector returns – the growth stocks continue to be the place to invest while technology and communication services lead all sector returns by nearly double. Last week was a favorable week for utilities and real estate as analysts raised earnings expectations for several companies in those sectors.1 Those are two sectors that had been lagging the rest of the market in the 4th quarter. As we’ve routinely stated, however, lagging the market in 2019 still produced high single-digit or low double-digit returns – hardly anything to complain about!

Source: J.P. Morgan Asset Management, Weekly Market Recap, 1/20/20

 

There are a few key drivers pushing stocks higher right now. The primary focus for our investment committee is 4th quarter earnings season, which kicked off last week. Only a small percentage of companies reported last week but the early results were positive as 72% of companies in the S&P 500 that have reported announced earnings above expectations.2 Recall that analysts are expecting overall earnings from the S&P 500 companies to be lower by 2.1% for the quarter.

Source; Facset Insight, Earnings Update, January 17, 2020

 

Our investment committee also believes that stocks are rising due to stronger demand from investors after seeing the strong performance from stocks in the 4th quarter. We have received numerous calls and emails from clients seeking more risk from stocks in their portfolio given the recent returns (don’t worry – I don’t have enough room to list all of the names!). The primary question we are being asked is “how much longer will the market continue to run up?” The answer to that question is “until it doesn’t!”.

 

The S&P 500 Index is now up just over 3% for the first twelve days of the year, a feat that is really not that unusual. We saw the exact same occurrence in 2018 and 2019. In fact, over the last ten years, our 3% return ranks as only the 5th best start to the year.3 Strong performance in January is a bit routine for the stock market as Bespoke Investment Group counts 38 times since 1928 where the market starts up more than 2% in the first twelve days.4

Source: Bespoke Investment Group, The Bespoke Report, 1/17/19

 

There is a careful balance between the rapid rise in stock prices (urging caution) and the underlying measures which support the move higher. While valuations are climbing higher than average, the broad participation by most stocks is reassuring. Bespoke reports that 125 stocks hit new 52-week highs on Friday; a healthy sign when more than 20% of the index is seeing higher prices along with the index.5 Bespoke’s additional favorite indicator, the S&P 500 Cumulative Advance/Decline Line, registered a new high last week as well.

Source; Bespoke Investment Group, The Bespoke Report, January 17, 2020

 

We also recognize the significance of this lengthy bull market and how it has benefited most stocks in the index. The stock market bottomed in the last bear market (March 2009) with only six individual stocks in the S&P 500 trading above $100 per share. In fact, 24% of the stocks in the S&P 500 had a price below $10 per share. As of last Friday, there are 235 stocks (47%) trading above $100 per share and only one stock trading below $10 per share (Ford Motor Co.).6 Although we would not advocate selecting investments based on the price per share, it is interesting to note that the highest priced stocks in the S&P 500 are up the most (more than 3.6%) in the first two weeks. We believe this trend reinforces other research showing strong demand for U.S. stocks from all investors.

Source; Bespoke Investment Group, The Bespoke Report, January 17, 2020

 

Our supply/demand indicators have reached a very high level of demand for U.S. stocks. By way of reminder, we use these measures to determine the overall direction of trends for U.S. stocks, international stocks, bonds and a few smaller sectors. The long-term indicator is built using multiple metrics to gauge the overall demand for stocks while the “indicator value” helps us to visualize daily changes in direction and strength. The current indicator for U.S. equities at 78.27 is up from 44 in December 2018. We confirm the demand trends by looking at multiple time frames, as well as looking at individual asset classes and sectors within the U.S. market. If one of the indicators were to change to a negative position, our investment committee would commence an evaluation of portfolio risk to determine if a reduction in risk were warranted.

Interest rate volatility continues to remain subdued as there are no comments from the Federal Reserve Board that would cause investors to speculate in either direction. The market does not appear to expect higher or lower interest rates in the coming months and the U.S. 10-year Treasury Bond has traded narrowly on both sides of 1.80% consistently since October. We are evaluating the markets carefully to assess any factors that could cause interest rates to rise. In the next two weeks, the markets will hear comments from many global central bank meetings including the European Union, the Bank of Japan, the central bank of China and the U.S. Federal Reserve.

Source: J.P. Morgan Asset Management, Weekly Market Recap, 1/20/20

 

One last note of encouragement we are taking from an historical earnings perspective. Bespoke Investment Group often comments that the U.S. stock market tends to favor earnings seasons where analysts are not expecting much of an increase in year-over-year corporate earnings reports.7 We often see the opportunity for stock prices to rise when companies report earnings better than expectations (called an “earnings surprise”). Historically, the fourth quarter has been a period when earnings surprises have been more common and stock prices have recorded better than average price increases. We have that exact scenario unfolding for this earnings season as analysts are expecting U.S. corporate earnings to decline by 2.1%. Through Friday, albeit a short time frame to measure, corporate earnings reports are beating estimates by 1.1%.8 We like the opportunity in the short term for stock prices to reach positively to current earnings reports.

Source; Bespoke Investment Group, The Bespoke Report, January 17, 2020

 

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. Factset Insight, Earnings Update, John Butters, January 17, 2020
2. Factset Insight, Earnings Update, John Butters, January 17, 2020
3. Bespoke Investment Group, The Bespoke Report, 1/17/20
4. Bespoke Investment Group, The Bespoke Report, 1/17/20
5. Bespoke Investment Group, The Bespoke Report, 1/17/20
6. Bespoke Investment Group, The Bespoke Report, 1/17/20
7. Bespoke Investment Group, The Bespoke Report, 1/17/20
8. Factset Insight, Earnings Update, John Butters, January 17, 2020

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