Earlier this month, Wall Street asked us to join in the celebration of the tenth anniversary of the present bull market. Many market watchers require a 20% decline in the S&P 500 to end a bull market. Since that has not happened since March 9, 2009, they consider March 9, 2019 the bull market’s 10-year anniversary.
When the present bull market passed the 3,453-day mark, we pointed out that the 20% definition was pretty arbitrary. After all, while a 20% decline of the S&P 500 on a closing basis did not occur during that time, it did on an intraday basis and there were three near misses of 19%+ declines even for the S&P 500. Not to mention that other indexes have surpassed the 10%-decline mark during the last 10 years.
Still, I get the industry’s drift. March 9, 2009 was a significant day. Like October 9 2002, the date marked the end of a super-bear-market period.
Since 3/9/09, the S&P 500 has risen over 400%. An investment in Apple, the top-performing stock in the current Dow Jones Industrial Average (DJIA), gained 1,373.7%, while Netflix, now in the S&P 500, turned $100,000 into $6,396,700 (and it was only the fifth best performer).
On the other side of the coin, even the worst performer among the survivors in the S&P only lost 44%. Of the current DJIA’s 30 stocks, there were no losers at all (survivorship bias is at work here, as stocks that began a period within an index may not stay in an index and as a result may fall in value more than the survivors).
So I get why people would want to celebrate the 10-year anniversary. But there is another day that a major group of the financial service industry is even happier about.
This Friday will close the books on the month of March and it is the last trade date of 2019’s first quarter. You may have noticed—most monthly financial and quarterly factsheets and performance filings publish the last 10 years of performance.
That means that beginning with this month’s or quarter’s charts, there will be no vestige of the worst decade since the depression for stocks. The last remnants of even the 2007-2008 financial crises will be gone!
Let the good times roll! For the foreseeable future, the 10-year charts of the S&P 500 will show a steady upward course leading to a compounded average annual return rate of 16%+. The performance charts will be marred by just three hiccups—three trips briefly down 19% or so.
Stocks are risky investments? What risk?
I’ll bet the champagne will soon be on ice in ETF and mutual fund board rooms throughout Wall Street!
But those of us who were invested all of this century have learned that out of sight is not out of mind.
We won’t forget the two declines—2000-2002 and 2007-2008—when the S&P 500 fell more than 50% and losses on the NASDAQ Composite exceeded 70%.
We won’t forget that the compounded average annual return from January 1, 2001 to last Friday is not 16%+ but is instead just 3.42%.
We won’t forget that if we were trying on March 24, 2000 to achieve a 9% annual compounded return from stocks, as was often suggested back in 2000, the S&P 500 still has to gain more than 180% to get there.
We won’t forget that if the S&P takes its typical super-bear-market tumble of at least 50% from today’s level, the index will be right back where it was in 2000 at that market top.
We won’t forget …
Or will we? Out of sight, out of mind.
Led by the 450-point Dow decline on Friday, the stock market indexes retreated after rallying early in the week. The inversion of the yield curve plus the manufacturing weakness in Germany sent stocks reeling on Friday.
U.S. equity markets posted losses in all three indexes last week. The NASDAQ Composite lost 0.60%, the S&P 500 lost 0.77%, and the Dow Jones Industrial Average lost 1.34%. Bonds, however, continued to rise in response to the Federal Reserve’s maintenance of its dovish stance. Gold too gained in strength as the dollar weakened.
History shows that when yield curves have been inverted (the 10-year Treasury bond yields less than the 3-month T-Bill), stocks have had a hard go of it. Since WWII stocks have been weak when the curve was inverted, losing about 1.6% over the next year. That’s not a big downside, but the concern is that inversion signals the coming of a recession. And the last two recessions have been during periods when the S&P 500 has fallen more than 50%.
It’s true that the inversion of yield curve has predicted all of the past recessions since 1962, but it is also true that every inversion has not led to a recession. In addition, history teaches us that recessions, on average, do not occur until over a year from the first inversion. Furthermore, as the chart below shows, most recessions (five of the last seven) have been preceded not only by an inversion of the curve, but also by its return to a steepening positive number. The return to positivity has been closer to the actual start of the recession.
Still, we need to put the inversion into perspective when it comes to the S&P 500. Just less than half of the time, the results a year later have been positive. And these 12-month results have varied from a high of 32.7% to a low of -41.7%. One month later, declines were, again, just above half of the results, which ranged from 5.9% to -10.5%, and averaged -1.2%.
One of the causes of the inversion could be the Federal Reserve’s decision to pause rate hikes. Ten-year bonds have been rallying to the point that they are now substantially overbought. Since yields fall as bond prices rise, this has driven the rate of the 10-year below the T-bills.
Ironically, a pause in rate hikes has historically been positive for stocks. And now with the Fed signaling last week that there will be no rate increases for the rest of the year, it appears that a year-plus pause may be the most likely scenario. According to Bespoke Investment Group, six Fed meetings without a rate increase have led to double-digit returns every time it has happened since 1990.
Pretty confusing, isn’t it? A dovish Fed is good for stocks but leads to an inverted yield curve that can weaken stock returns—quite a quandary.
Economic reports aren’t much help in solving it. Last week they split, with nine outperforming expectations and eight falling lower.
What we need is a Golden Cross to break the tie, and one is likely to occur this week as the 50-day moving average of the S&P 500 is about to surpass the 200-day version. This is considered a positive signal, with gains averaging about 4% over the next six months.
Similarly, the performance of the stock market in the fourth quarter, when combined with the likely results for this quarter, suggests higher prices. Since 1970, when stocks have fallen more than 10% in the previous quarter and then rallied at least 5% in the next quarter, stocks have rallied strongly over the next one and three quarters.
I warned last week that stocks were overbought and seasonality, as measured by our Political Seasonality Index (PSI), was turning negative. Not only was PSI’s call to sell before Friday’s downturn especially prescient, but S&P Tactical Patterns also made a good move, selling on Thursday’s close before Friday’s carnage.
S&P Tactical Patterns (SPTP) is a good example of the diligence of our Research team. SPTP had a terrible 2018. We spent the second half of the year going back to square one to rebuild the strategy. The new approach debuted at the end of 2018, and so far this year, the strategy has gained 14.45% (after max fees) through last Friday.
Our environmental indicators remain bullish. The financial markets’ volatility model supports gold and bonds versus stocks, however, while the All-Terrain measure continues most favorable for stocks.
Finally, our PSI strategy bought back into stocks at the market close today (3/25/19). According to this strategy, a bear market is out of sight and out of mind as it remains essentially bullish until early May.
All the best,
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