Welcome to our active management update on the market

I took a look at the markets overnight and thought I would share a couple of items. Since the U.S. stock market is what many investors watch to gauge the condition of all markets, I thought I would start by discussing the mixed state of that market. The U.S. stock market is often referred to as a single entity, but it has distinct subdivisions that can send different signals, as they are doing today.

The following graph shows three different U.S. stock market indexes: the NASDAQ 100, the Russell 2000, and the S&P 500. Both the NASDAQ 100 and the Russell 2000 have posted new all-time highs above their respective January high. Only the S&P 500 has lagged. Many attribute the S&P 500’s recent performance to two things that tend to impact S&P 500 companies more than the companies in the other indexes: (1) rising interest rates and the impact on the rising dollar, and (2) implementation of international trade tariffs.

After a three-month substantial advance, a pullback by the leading indexes should not come as a surprise. A technical zone of support for the two leading indexes will be at approximately the level of the January high.

NASDAQ 100, the Russell 2000, and the S&P 500

Let’s take a closer look at the following weekly basis graph of the S&P 500. Markets can correct in both time and price. The corrections A and B take the Stochastic RSI (Relative Strength Index) indicator at the bottom of the graph from overbought to oversold via a correction that was mostly a sideways move over many weeks. Correction C was a sharp downward price move that took only two weeks. Both types of correction had the same technical impact of getting the index from overbought to oversold.

The S&P 500 is once again in overbought territory, where it can stay for a long time. However, when the time comes to reset the market by moving back to an oversold condition, we will have to see which form of correction gets us there.

Here’s another item to note: Looking at the MACD (moving average convergence divergence) indicator in the middle of the graph, the downtrend line D from the January high has been broken to the upside. This is a bullish intermediate-term development suggesting the downward corrective action from the January high has concluded. Importantly, this action all took place above the zero line for the indicator.

Lastly, I think it will be interesting to see if we spend the majority of the “summer doldrums” in the zone established by the January high and the February low. I have drawn parallel lines pointing to the right to indicate this zone. Any correction in the S&P 500 that ends and turns up before reaching the lower boundary of this zone will be a sign of strength.

weekly basis graph of the S&P 500

In a previous post, I mentioned that I would expand on the relationship between the U.S. dollar and emerging markets. The following graph below shows the U.S. dollar index against the EEM emerging-market ETF since the end of 2015. It is easy to see that their primary trends routinely move in opposite directions. There are a number of reasons for this, and most of them are macroeconomic in nature. As with many such global market relationships, it comes down to understanding where the money is flowing.

So here are two theories: (1) A rising interest-rate environment bolsters the U.S. dollar, and a rising U.S. dollar makes it much more expensive (in terms of local currency) for emerging markets to borrow money, which is often denominated in U.S. dollars. (2) The U.S. dollar often strengthens as a safe-haven currency, and when safe havens are sought, money tends to shy away from emerging markets.

These are by no means the only influences on emerging markets. For example, global growth is solid, and that is generally a very powerful influence on the demand for raw commodities, which drives many emerging-market economies. In today’s global economy, those influences, however, are having a lesser influence due to concerns over the impact of trade tariffs on the world economy.

U.S. dollar index against the EEM emerging-market ETF since the end of 2015

For buy-and-hold investors, all of the items here should be fairly noteworthy. However, for those of us who rely on strategically diversified, actively managed portfolios, all of this is just a piece of what is quantitatively taken into consideration every day, week, and month as markets are measured and analytically subjected to the rules of our strategies.

It may be interesting to be able to understand and explain the movement of capital through the world’s markets, but explaining it is nowhere near as important as measuring it and acting on it as needed—as we do in virtually all of our strategies and portfolios constructed using those strategies. Of great importance and value is our ability to stress-test strategies and portfolios via our crash-test analysis. This extremely valuable insight—along with many other proprietary strategy and portfolio evaluation tools—can only be gotten through Flexible Plan.

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