“Good investors gather information, put that information into current and historical context, then make sound decisions.”
After an exceptional rally from the Christmas Eve correction low that brought major market indexes back to their previous highs, equity markets are taking a breather. The month of May has been defined by two significant selling days that effectively broke the short-term uptrend, followed by the establishment of a trading range, or sideways market trend that remains within 5% of the April and all-time highs. The May selling was accompanied by a spike in the Volatility Index which we monitor closely as it serves as an excellent measure of institutional investors’ concerns about their very short-term outlook for large cap equities.
Understanding how much technical terminology was included in the first paragraph, I will now work to explain how that translates to our market expectations. Technical analysis is a process that seeks to interpret market activity in very definitive terms, exclusive of all the ‘chatter’ that is largely comprised of personal opinions and agendas. We analyze market activity primarily with respects to price action. Equity markets are driven by the collective opinions of huge institutional investors, such as mutual funds, state retirement plans and university foundations. These institutional investors may be based in the U.S. or may be international. They manage hundreds of billions of dollars and are unaffected by individual investor activities. I say this not to diminish our efforts, but to illustrate the importance of monitoring institutional investors’ activities closely. We believe this is best accomplished through technical analysis.
It is still important to be aware of the primary fundamental factors that determine economic and market cycles. These include corporate earnings, interest rate trends, the general state of the economy, and inflation. Secondary factors may include the political cycle and international stability, but these are ultimately secondary to primary factors, especially for U.S. equity markets. During trading range markets, like our current market scenario, the secondary factors can make a lot of noise and appear to overpower fundamental factors. But it’s just noise. This is especially important in today’s environment, where the primary news is produced and not just reported. Almost all of the major U.S. news services are owned by the entertainment industry, which thrives on drama and social agenda, thus the ‘spin’ on the news.
While equity markets have been consolidating, bond markets are providing very steady returns. Interest rates, specifically mortgage rates, have been declining since their November highs. This is a strong positive for bond returns, and for industries which are strongly affected by interest rates, such as the housing industry. While high yield corporate bonds continue to be the YTD top performing sector, investment grade, government, mortgage, and municipal bond indexes are all enjoying excellent returns. Every bond market sector that we monitor is firmly in positive territory for the year, with strong uptrends.
International equity markets are not having the same experience as U.S. equities. The Russell Europe index is only up +1.64% YTD, and the Russell Emerging Markets Index is at -0.05%. This is in contrast to the Russell 3000 Index’s YTD return of +13.87%. Europe’s markets are still embroiled in the Brexit controversy, punctuated by the British Prime Minister’s resignation last week. China is once again demonstrating their untrustworthy nature in trade negotiations. This brings the focus back to the leadership of U.S. equity markets, the U.S. economy, and the strength of the U.S. Dollar, all currently the best in the world.
This begs the question, if the U.S. is the best investment market in the world, and the U.S. economy is the strongest in the world, why does the news media make it sound as if we are on the verge of destruction? A good deal of the blame probably resides in the politics that has infected the news reporting industry. This is not going to improve any time soon, especially with the 2020 elections on the horizon. Mud-slinging now appears to be more important than searching for solutions. With everyone so intent on finding something shockingly wrong with the other side, it is no wonder that so little positive legislation is being produced. Once upon a time politics did not drive the economy, the economy drove the politics. Guess what? That is still true, although it may be difficult to discern with so much ‘chatter.’
Edward D. Foy, Manager, SELECTOR® Money Management.
Sources: Bloomberg.com, Marketwatch.com, StockCharts.com, Morningstar.