Week in Review
Stock markets remained choppy as trade tensions between the US and China continued to drive returns. Broad markets opened sharply lower on Monday following China’s announcement of $3 billion in new tariffs against the US in retaliation of the recently announced aluminum and steel tariffs. Stocks climbed higher the next three days as trade worries eased, though there were some large intra-day swings such as the Dow Jones Industrial Average opening 2.5% lower on Wednesday before closing the session almost 1% higher. However, after pushing into positive territory for the week by Thursday’s close, markets sold-off again on Friday as President Trump announced the consideration of an additional $100 billion in tariffs on Chinese goods.
The S&P 500 has now advanced or declined by more than 1% in 12 of the 14 weeks so far in 2018, with only 13 such weeks in all of 2017. Though recent investor sentiment has been somewhat negative, many analysts are looking for the upcoming earnings season to help stocks regain positive footing. If earnings are as strong as many analysts hope, it could result in fundamentals reestablishing a positive trend, rather than geopolitical fears continuing to control market direction.
While markets have been volatile in recent months, it is important to stay focused on the bigger picture. Even in the strongest of bull markets, stocks will not rise every day / week / month / quarter, and periodic pullbacks should be expected. These pullbacks can even be considered healthy for the continuation of a longer-term bull market. Higher levels of volatility can be expected during short-term market corrections, but the longer-term prospects of 2018 remain mostly positive as corporate earnings and economic fundamentals remain strong.
Short-term market corrections are only a small blip on the radar for long-term investors. However, economic data and market sentiment can change quickly. This is why it is still important to include a broad range of asset classes in your portfolio for more consistent and more stable longer-term results, rather than chasing short-term returns.
As investors, we need to stay committed to our long-term financial goals. All the short-term news and market movements can be the most debilitating of all when it comes to making sound investment decisions; especially if we allow them to influence knee-jerk decisions.
Chart of the week
The S&P 500 finished the week negative as equity markets remained volatile. While shorter-term momentum has pushed the S&P 500 lower, longer-term momentum remains intact as the Index is still within the trading range that has been in place over the past two years. The Index briefly fell through the lower bound of this trading range during the week, but rallied to close right at the lower threshold. Due to the continued support near this level, there may be a continuation of the longer-term bull market despite the shorter-term weakness. However, if the Index falls (and remains) below this support threshold for a longer period of time, it could result in further downward pressure as markets fall into a more bearish posture. The coming weeks should continue to provide valuable insight about the near-term direction of the S&P 500, but it seems to remain in a long-term bullish pattern for now.
*Chart created at StockCharts.com
Broad equity markets finished the week negative as large-cap US stocks experienced the largest losses. All S&P 500 sectors were negative for the week with defensive sectors outperforming cyclical sectors.
So far in 2018 technology and consumer discretionary are the only sectors with positive performance, while all other sectors are displaying negative performance year-to-date. Telecommunications, consumer staples, and energy have been the worst performing sectors so far this year.
Commodities were negative as oil prices dropped 4.43%. While OPEC-led production cuts have supported a longer-term positive trend in oil prices, higher than expected US oil exports combined with reignited fears of a global trade war have derailed the upward trend in the short-term.
Gold prices were positive with a 0.66% gain despite an increase in the dollar index for the sixth time in seven weeks. While a stronger dollar generally pushes gold prices lower, recent geopolitical uncertainties have supported the metal.
The 10-year treasury yield increased from 2.74% to 2.77%, resulting in slightly negative performance for traditional US bond asset classes. Yields had been trending higher since late last year, but despite the Fed hiking rates 0.25% following the March 21 meeting to a range of 1.50 – 1.75%, longer-term bond yields have remained suppressed in recent weeks as demand for treasuries as a safe-haven asset class has increased.
High-yield bonds were mostly flat for the week as a decrease in credit spreads offset higher broad interest rates. If the economy remains healthy, higher-yielding bonds are expected to continue outperforming traditional bonds in the long-run as the risk of default is moderately low.
All asset class indices, with the exception of commodities, are currently negative in 2018.
Lesson to be learned
Bottoms in the investment world don’t end with four-year lows; they end with 10- or 15-year lows.”
Short-term market corrections can be unnerving, but they are an inevitable part of investing and are often short-lived in relation to a longer-term bull market trend. However, there are certain times where these market corrections can turn into a prolonged bear market (such as 2008). This is why it is important to maintain a disciplined investment strategy focused on longer-term market tendencies rather than focusing on the daily market noise.
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 the scale of 1 to 100. For the US Equity Bull/Bear indicator, we want it to read least 67% bullish. When those two things occur, our research shows market performance is strongest and least volatile.
The Recession Probability Index (RPI) has a current reading of 21.60, forecasting further economic growth and not warning of a recession at this time. The Bull/Bear indicator is currently 83% bullish. This means our models believe there is a slightly higher than average likelihood of stock market increases in the near term (within the next 18 months).
The Week Ahead
Through the upcoming week, it will be important to watch how the markets respond to the recent volatility and trade war fears. News on the economic front will be lighter as investors begin to shift focus to the upcoming earnings season.
More to come soon. Stay tuned.
Derek Prusa, CFA, CFP®
Senior Market Analyst