Market Update 10/5/20

The major indexes gained last week. The NASDAQ Composite finished the week up 1.48%, the S&P 500 gained 1.52%, the Dow Jones Industrial Average was up 1.87%, and the Russell 2000 small-capitalization index gained 4.37%. The 10-year Treasury bond yield rose 5 basis points to 0.70%, as Treasury bonds fell for the week. Last week, spot gold closed at $1,899.84, up 2.06%.

Stocks

Stocks rose for the first week in the last five. Still, “uncertainty” was the focus of investors’ concerns and media headlines last week. This uncertainty mainly stemmed from unresolved negotiations on the coronavirus relief package, whether a second wave of COVID cases will hit this fall, the upcoming election and “the debate,” and the status of President Trump’s (and senior advisers’) health after testing positive for the coronavirus Friday.

On the stimulus front, the news on Tuesday (October 6) that negotiators for Congress and the administration were still almost $1 trillion apart, after more than a week of wrangling, caused President Trump to call his people back from the bargaining table until after the election. The stock market, in turn, reversed course and closed down for the day.

As to the COVID epidemic, each week Bespoke Investment Group provides a collection of summary graphs that help illustrate the path of the virus. While the future is definitely not certain, for the most part, the trends shown tend to be positive.

Although the number of cases has continued to increase, as the U.S. maintains its dominant lead in testing around the world, the rate of those tests that have turned out positive has moved steadily downward to a low point on the chart. Deaths, too, have followed a similar path as the new therapeutics, and a younger population now being infected, cause these statistics to fall. Still, the number of hospitalizations did tick slightly higher, perhaps reflecting the advent of a new flu season.

In election news, the polls are continuing to show a lead for former Vice President Joe Biden. The debate was as confrontational as expected. To top that off, President Trump was diagnosed with COVID and the week ended with him at Walter Reed Hospital with many well-wishers expressing their hope for the best outcome (which we, of course, join in).

Before you ask if 2020 can get any more chaotic, know that following a pandemic, recession, protests, and riots that there is still more of 2020 in store. With the presidential election a month away and two more debates scheduled, there are many possible developments leading up to the election that could move the polling needle, and the financial markets, in either direction. All we know for certain is that nothing is certain.

September was one of the most volatile periods for equity markets this year, second only to the volatility experienced during the first quarter of this year. Depending on size and style tilt, buy-and-hold investors experienced a drawdown of more than 10% during points in the month.

October is normally more positive, but historically it often experiences a great deal of volatility of its own. The best and worst weeks of each year have often occurred in October, and this year we have little reason to expect anything but this type of volatility.

Bonds

The Treasury yield curve has continued to steepen. With yields remaining low and now trading within this recent range, bond investors are in the middle of a very challenging environment. In May, Wharton’s Jeremy Siegel declared an end to the 40-year bull market in bonds. If this is true, the historic role of bonds of providing yield and protection will certainly change.

In addition, a rising rate environment could prove difficult to navigate for traditional fixed-income investors. Actively managed fixed-income strategies that could capitalize on upward and downward moves in interest rates could be key during such unprecedented times.

With interest rates rising last week, let’s see how the iShares 20+ Year Treasury Bond ETF compared to our Government Income Tactical strategy. The actively managed strategy draws on five different strategies from two different models: long/short tactical and opportunistic long-only. The long/short tactical model contains econometric, seasonality, and pattern-based strategies. The opportunistic long-only model contains strategies that trade into government bonds funds when conditions are favorable (based on intermarket analysis) and a money market or short-term bond fund when they are not. The strategy can trade daily, which is a major advantage in such an uncertain time for yields and fixed-income securities. Last week, the iShares 20+ Year Treasury Bond ETF (TLT) lost 1.33%; Government Income Tactical was able to manage risk well, ending the week with a loss of only 0.63% after max fees.

Gold

Last week, spot gold closed at $1,899.84, up 2.06%. A few weeks ago, I provided a technical perspective on gold, which, at the time, was in a bearish-biased pattern known as a descending triangle. Here is the chart from that article.

Since then, the metal did break to the downside and is presently trading around a very familiar level, the origination of the breakout. The reason this is significant is that retests like those shown in the following chart are, in a sense, psychological levels with memory.

Think of it this way: If two weeks ago you had bet against the breakout through lower support in the triangle, where we are now may be a major decision point. Do you admit that your bet was wrong and exit around breakeven, or do you let it ride and hope you’re right? Typically, a retest of a prior value zone continues in the direction of the original move. It could be thought of as the market giving you a chance to admit you were wrong and cut a bad trade.

The scenario described above gives a glimpse into the emotional roller coaster that most investors experience. At Flexible Plan Investments, we recognized this a long time ago and have strived to help investors make rational decisions, not the impulsive, emotional decisions that can typically result in suboptimal outcomes, leaving investors questioning their actions.

The indicators

Flexible Plan’s Growth and Inflation measure, one of our Market Regime Indicators, shows that we remain in a Stagflation economic environment stage (meaning a positive monthly change in the inflation rate and negative monthly GDP reading). Historically, Stagflation has been a positive regime state for gold, which tends to outpace both stocks and bonds during such an environment.

Our Volatility composite (gold, bond, and stock market) maintains its High and Rising reading, which favors stocks over gold and then bonds. Most notably, all three asset classes have positive returns in this regime stage, and the combination has occurred 23% of the time since 2003.

Our “100% in-100% out” tactical domestic equity strategy, Classic, remains 100% invested. Our goal is to “stay ahead of the curve” through rigorous testing and regular evaluation of signals to keep the model robust. Due to the diverse inputs included, we usually see trades when multiple signals within the system are in agreement to buy or sell. This helps ensure that there is directional strength from various data inputs that affect the markets, rather than relying on just one signal. Currently, signals are still pointing to long. However, with uncertainty in the air and potential volatility on the horizon, we are keeping a close eye on what Classic is telling us.

Our intermediate-term tactical strategies remain mixed: The Volatility Adjusted NASDAQ (VAN) strategy has to a 60% exposure to the NASDAQ, the Systematic Advantage (SA) strategy is 75% exposed to equities, our Classic strategy is in a fully invested position, and our Self-adjusting Trend Following (STF) strategy remains 200% invested. VAN, SA, and STF can all employ leverage—hence the investment positions may at times be more than 100%.

PAST PERFORMANCE DOES NOT GUARANTEE FUTURE RESULTS.  Inherent in any investment is the potential for loss as well as profit.  A list of all recommendations made within the immediately preceding twelve months is available upon written request.  Please read Flexible Plan Investments’ Brochure Form ADV Part 2A carefully before investing. View full disclosures.