Week in Review February 4th, 2019

After dismal December, US stocks post best January since 1987

A dovish stance from the Fed, as well as stronger than expected earnings, helped markets continue their recent rally. After hiking rates four times in 2018, Fed Chairman Jerome Powell changed his tone following Wednesday’s meeting. While Powell did not rule out future increases in 2019, he stated the case for hiking rates has weakened recently, hinting the Fed will take more of a “wait-and-see” approach for determining the future path of interest rates. Furthermore, the Fed indicated it may continue to unwind its balance sheet more slowly than originally anticipated, placing downward pressure on longer-term interest rates. These actions signal a shift away from gradual policy tightening, toward a more accommodative Fed policy.

Many earnings reports were better than expected as well, helping support market gains. Of the 25% of S&P 500 companies that reported earnings throughout the busy week, major names such as Apple and Facebook received a boost after beating expectations. About half of the companies in the S&P 500 have reported earnings results so far this quarter, with 70% of these companies beating earnings estimates. The Index is on pace to report an earnings growth rate of 12.4% for the quarter, which would mark the fifth consecutive quarter of double-digit earnings growth.

Stocks have rallied significantly since the late December lows, with the S&P 500 gaining over 15.1% since Christmas. However, there are still many headwinds to further expansion, including softening global growth and continued trade uncertainties between the US and China. With conflicting signals, it is reasonable to expect continued heightened levels of volatility as markets remain sensitive to major headlines. This market noise can make it tempting to make knee-jerk decisions, but as investors, we need to stay committed to our long-term financial goals and risk tolerance. Staying focused on our long-term investment objectives and maintaining a disciplined investment strategy can help reduce market noise and increase the odds of a successful outcome over time.

Chart of the Week

Around this time last year, the S&P 500 registered a 5.73% gain to start off what turned out to be an extremely volatile year. Closing out last month, the S&P 500 posted its best January in over 30 years as it gained almost 8% on the back of a dovish Fed. Additionally, corporate earnings surprises have been restoring investor appetite to US equities. While such a strong start could lure in more investors, it would be healthy and ordinary if the market experienced a pullback before it continued to climb higher (if it does climb higher). Current market technicians are monitoring the 2,700 level as they believe, if fully breached, could act as a new support level.

*Chart source: Bloomberg

Market Update

Equities

Broad equity markets finished the week positive as large-cap US stocks experienced the largest gains. S&P 500 sectors were mixed, with defensive sectors outperforming cyclical sectors.

So far in 2019 energy and industrial stocks are the strongest performers while utilities have been the worst performing sector.

Commodities

Commodities were positive as oil prices increased by 2.92%. Oil prices rose along with the US stock market as bullish investors helped drive returns. Additionally, sanctions on Venezuela are tightening supply as data shows Venezuelan tankers remain at port as American refineries scale back operations. Currently, for the fourth week, US energy firms have reduced the number of operating oil rigs. These changes along with OPEC’s commitment to lower supply in 2019 have the power to drive prices back up. In the upcoming months, investors will be carefully monitoring ongoing geopolitical risks to better determine its effect on supply and demand.

Gold prices increased by 1.37%, closing the week at $1,322.10/oz. Investor appetite in the metal is being restored amidst a dovish Fed. Last year, gold was heavily impacted by rising rates driving the dollar higher. Since the metal is a dollar-denominated asset, a stronger greenback makes the metal more expensive for foreign investors. This drove the metal down to $1,182.70/oz last summer – the lowest level in over two years. Currently, analysts believe if gold can maintain momentum above the $1,300 mark it could continue to climb higher.

Bonds

The 10-year Treasury yield decreased from 2.76% to 2.70%, resulting in a positive performance for traditional US bond asset classes. Although positive economic data pushed the yield higher near week-end, investors are feeling comfortable purchasing longer-term Treasuries as short-term interest rates appear to be stabilizing. In 2018, a big concern was the spread between the 10 and 2-year treasury. This is because if short term rates rise higher than long term rates, the yield curve becomes inverted. An inverted yield curve is typically seen as a precursor to recessions. However, so far in 2019 the spread between both ends seems to be widening – a positive sign for the economy.

High-yield bonds were positive for the week as riskier asset classes rose. As long as economic fundamentals remain healthy, higher-yielding bonds have the potential to experience further gains in the long-run as the risk of default is still moderately low.

Asset class indices are positive so far in 2019, with small-cap stocks leading the way and traditional US bonds lagging behind.

Lesson to be learned

“If investing is entertaining, if you’re having fun, you’re probably not making any money. Good investing is boring.”

– George Soros

It can be easy to get caught up in the excitement of chasing a “hot” investment tip. This can make for great dinner party conversation if you are lucky enough to hit it big, but continuously speculating is not a sustainable way to achieve investing success. If you want to be successful in the long run, it is important to base investment decisions on rational information and maintain the discipline to a strategy over time. By taking emotions out of the equation, we can avoid making irrational mistakes which can be detrimental to a portfolio when luck runs out.

FFI Indicators

FormulaFolios has two simple indicators we share that help you see how the economy is doing (we call this the Recession Probability Index, or RPI), as well as if the US Stock Market is strong (bull) or weak (bear).

In a nutshell, we want the RPI to be low on the scale of 1 to 100.  For the US Equity Bull/Bear indicator, we want it to read least 66.67% bullish.  When those two things occur, our research shows market performance is strongest and least volatile.

The Recession Probability Index (RPI) has a current reading of 28.30, forecasting further economic growth and not warning of a recession at this time. The Bull/Bear indicator is currently 100% bearish, meaning the indicator shows there is a slightly higher than average likelihood of stock market decreases in the near term (within the next 18 months).

The Week Ahead

It will be another busy week for earnings as 20% of S&P 500 companies report results. Also, several delayed data reports caused by the government shutdown could be released this week.

More to come soon.  Stay tuned.