Markets fell this week as the outlook for Fed rate increases shifted. With inflation rising and the economy recovering at a brisk pace, the central bank is now expected to raise rates twice by the end of 2023. Retail sales also disappointed markets, missing expectations in both the headline figures and core figures. In spite of inflation risks, the economy remains well positioned to perform exceptionally in 2021 based on overall macroeconomic position. New COVID-19 infections decreased slightly this week, with 7 day moving averages falling by nearly 3K a day over the prior week. The most recent infection data keeps the moving average near lows not seen since March 2020 during the pandemic’s first wave.
Overseas, developed markets underperformed emerging markets. European indices were negative, while Japanese markets returned negligibly positive performance for the week. Improving prospects against the pandemic as well as improved prospects for economic recovery should continue to help lift markets globally over time.
Markets were negative this week as investors continue to assess the state of the global economy. While fears concerning global stability and health appear to be in decline, the recent volatility serves as a great reminder of why it is so important to remain committed to a long-term plan and maintain a well-diversified portfolio. When stocks were struggling to gain traction last month, other asset classes such as gold, REITs, and US Treasury bonds proved to be more stable. Flashy news headlines can make it tempting to make knee-jerk decisions, but sticking to a strategy and maintaining a portfolio consistent with your goals and risk tolerance can lead to smoother returns and a better probability for long-term success.
Chart of the Week
The one-two punch of underwhelming retail sales as well as a more hawkish Fed caused a tumble in equities this week. Investors were seemingly unprepared for the news, likely spurring the selloff.
Broad market equity indices finished the week down, with major large cap indices outperforming small cap. Economic data has been mostly encouraging, but the global recovery has a long way to go to recover from COVID-19 lockdowns.
S&P sectors were mostly negative this week. Technology and consumer discretionary outperformed, returning 0.09% and -0.07% respectively. Financials and materials underperformed, posting -5.21% and -5.31% respectively. Energy maintains its lead in 2021 with a 36.97% return.
Oil rose this week as crude oil inventories shrunk more than expected. Energy markets have been highly volatile in the COVID era, but it appears that price stability or possibly even rising prices may be more of the norm given recent market fundamentals. Demand is still low compared to early 2020, but as global economies are continuing to open up, oil consumption is rising rapidly. On the supply side, operating oil rigs are still well under early 2020 numbers, but trending upwards. In addition to supply and demand, a volatile dollar is likely to have a large impact on commodity prices.
Gold fell this week as the U.S. dollar strengthened. Gold is a common “safe haven” asset, typically rising during times of market stress. Focus for gold has shifted again to include not just global macroeconomics surrounding COVID-19 damage and recovery efforts, but also inflation and its possible impact on U.S. dollar value.
Yields on 10-year Treasuries fell this week from 1.4518 to 1.4381 while traditional bond indices rose. Treasury yield movements reflect general risk outlook, and tend to track overall investor sentiment. Expected increases in future inflation risk have helped elevate yields since pandemic era lows in rates. Treasury yields will continue to be a focus as analysts watch for signs of changing market conditions.
High-yield bonds fell this week as spreads loosened. High-yield bonds are likely to remain more stable in the short to intermediate term as the Fed has adopted a remarkably accommodative monetary stance and major economic risk factors subside, likely helping stabilize volatility.
Lesson to be Learned
Opportunities come infrequently. When it rains gold, put out the bucket, not the thimble.”
FormulaFolios has two simple indicators we share that help you see how the economy is doing (we call this the Recession Probability Index, or RPI), as well as if the US Stock Market is strong (bull) or weak (bear).
In a nutshell, we want the RPI to be low on a scale of 1 to 100. For the US Equity Bull/Bear indicator, we want it to read at least 66.67% bullish. When those two things occur, our research shows market performance is typically stronger, with less volatility.
The Recession Probability Index (RPI) has a current reading of 17.07, forecasting a lower potential for an economic contraction (warning of recession risk). The Bull/Bear indicator is currently 100% bullish, meaning the indicator shows there is a slightly higher than average likelihood of stock market increases in the near term (within the next 18 months).
It can be easy to become distracted from our long-term goals and chase returns when markets are volatile and uncertain. It is because of the allure of these distractions that having a plan and remaining disciplined is mission critical for long term success. Focusing on the long-run can help minimize the negative impact emotions can have on your portfolio and increase your chances for success over time.
The Week Ahead
This week we will see updated manufacturing and services PMI numbers. We will also see updates to the Fed’s preferred inflation index, the PCE price deflator. Additionally, Fed Chair Powell will testify before the house to answer questions relating to the Fed’s pandemic era policies.
More to come soon. Stay tuned.