Macro Musings April 2019
FIRST QUARTER 2019 REVIEW
- The rebound in the MACROCAST™ score is led by improvements in our Technical indicators, while the Valuation category is a headwind.
- It was a big quarter for all major asset classes. A rebound in risk appetite combined with a less aggressive Fed led to both higher stock and bond returns. Commodities also rose, led by gains in oil prices.
- Historically, one year after the curve has inverted, the median market return was more than 10%
- Strong starts to the year have historically been a positive indicator for the rest of the year. When the market registered double digit gains in Q1, returns for the final 9 months were positive in all but one instance.
The Message FROM MACROCAST™
As a reminder, MACROCAST™ is Corbett Road’s proprietary investment model. MACROCAST™ measures the appeal of risk assets by assessing the VITALS of the market—Valuation, Inflation, Technical Analysis, Aggregate Economy, Liquidity, and Sentiment. By looking at multiple factors, we can better gauge market conditions and the probability of a major market decline.
The most recent score for MACROCAST™ is +10, up 3 points from last month and 5 points above the multi-year low registered in February. The current score suggests a large, sustained market decline is unlikely.
Technical indicators saw the biggest improvement. All major stock markets are back above their 200-day moving averages, or long-term trendline. The market is considered in an uptrend if it trades above the trendline and in a downtrend if it is below. On April 23, 2019, the S&P 500 reached a new all-time high, surpassing the previous high recorded on September 20, 2018.
Valuations were the biggest detractor. This is not a surprise; the S&P 500 is up 16% since the start of the year and almost 24% since the Christmas Eve bottom. Although earnings estimates for S&P 500 companies have risen since hitting a low in February, the market is up a lot more, causing the Price to Earnings ratio (P/E) of the market to expand.
Despite the rally,
The monthly University of Michigan sentiment survey indicates declining confidence that the market will continue to rally over the next year (from bullmarkets.co):
This drop is unusual, as expectations typically follow market moves. The latest data does not include March, but the market was higher in both January and February and expectations still fell.
Investors have also been reluctant to put money back into the market. According to the Investment Company Institute, which tracks fund flows for mutual funds and ETFs, investors have sold equities since the beginning of the year. A reversal of this trend could drive stock prices higher.
FIRST quarter Asset class review
Here is what we found most interesting about Q1 results:
- Everything went up. After a poorly timed December rate hike, the Fed signaled to the world that it was taking a break from raising rates. This helped trigger two things in the market: 1) it renewed risk appetite, as the possibility the Fed would send us straight into recession dropped and 2) the pause in rate increases contributed to the fall in interest rates, which pushed up bond prices and interest rate sensitive sectors like REITs (more on that below).
- Among stocks, the US led the way. The US was the worst performing major stock market in the 4th quarter of 2018, so it is not surprising that it has rebounded the most. It outperformed both developed and emerging markets by 4%. Both international developed and emerging markets held up better than the US in Q4 but still rallied double digits to start the year.
- REITs surprised with the best performance. Real Estate Investment Trusts were up even more than the market in Q1. REITs don’t usually outperform the broader market during a big rally, but they pay good dividends and act as a bond proxy. Lower interest rates helped drive them higher (since 3/31, they have pulled back a little).
A START THIS STRONG IS HISTORICALLY BULLISH
Since 1960, strong starts have led to further gains, not losses. When the market gained 10% in Q1, it continued to rise nine out of ten times in the final three quarters. 1987 was the one down year, and even then, you saw further gains of 21% before the crash in October (table from LPL):
Corrections still occurred after strong starts. Each year saw a pullback of at least 4.4% and median decline of 9%. So far in 2019, the market’s drawdown is 2% (chart from JPM):
We’ve shared the above chart many times, but it is an important reminder that even in good market years, a decline of at least 5% is the base case scenario.
BUT BIG GAINS MIGHT LEAD TO LOWER VOLATILITY
There seem to be signs that large gains at the start of the year lead to lower than average volatility. As shown in the following table, when returns through Easter are up 10%, the market resolved higher each time. The sample size is small, but the most interesting statistic is the standard deviation, or volatility of future returns (Table from Schaffer’s Investment Research):
When the market was up over 10% through Easter Sunday, it exhibited lower volatility than if the market was positive but had lower returns. This is counterintuitive because you would think bigger returns lead to more volatility (like they often do with individual stocks), but that has not been the case.
POSITIVE ON THE REST OF 2019
An improving MACROCAST™ score and strong momentum in the market leaves us with a constructive outlook on the rest of 2019. We expect a market drawdown greater than the 2% we’ve seen so far, but if MACROCAST™ remains positive, we think a recessionary bear market between now and the end of the year is unlikely.
The chart(s)/graph(s) shown is(are) for informational purposes only and should not be considered as a suggestion of any investment recommendation, investment strategy, or as an offer of advice to buy, sell, or exchange any investment product or investment vehicle. Past performance may not be indicative of future results. While the sources of information, including any forward-looking statements and estimates, included in this (these) chart(s)/graph(s) was deemed reliable, Corbett Road Wealth Management, Spire Wealth Management LLC, Spire Securities LLC and its affiliates do not guarantee its accuracy.
The views and opinions expressed in this article are those of the authors and do not necessarily reflect the opinions of Spire Wealth Management LLC, Spire Securities LLC or its affiliates.
All information is based on sources deemed reliable, but no warranty or guarantee is made as to its accuracy or completeness. MACROCASTTM is a proprietary index used by Corbett Road Wealth Management to help assist in the investment decision-making process. Neither the information provided by MACROCASTTM nor any opinion expressed herein constitutes a solicitation for the purchase or sale of any securities, and should not be relied on as financial advice. The phrase “the market” refers to the S&P 500 Total Return Index unless otherwise stated. The phrase “risk assets” refers to equities, REITs, high yield bonds, and other high volatility securities. Past performance is no guarantee of future results.
Spire Wealth Management, LLC is a Federally Registered Investment Advisory Firm. Securities offered through an affiliated company, Spire Securities, LLC, a Registered Broker/Dealer and member FINRA/SIPC