Bear Trend Likely to Continue?!
Summary
A bear trend is a market trending down, putting in a series of lower lows and lower highs.
The recent rally in stocks looks to be another rally within a bear trend, with the major averages having recently put in another lower high (a failed rally).
The bond market is signaling a potential recession and these signals are getting stronger.
Valuations remain at generational highs.
In March the Federal Reserve Bank ended their quantitative easing program (mortgage bond purchases) and started to raise interest rates.
Failed Rallies – Bear Trend Continues
The Wilshire 5000 Index is comprised of all of the large cap, mid cap, and small cap publicly traded stocks in the United States. The trend is breaking down, most recently putting in a lower high. The index will have to move above 49,100 to regain a bull trend. Chart courtesy of stockcharts.com.
Value Line Geometric Index – representative of approximately 1,600 publicly traded stocks in the United States, equally weighted, which gives us a glimpse into how the average company is doing. On average we can see that the index has broken into a bear trend and is putting in a series of lower highs and lower lows. Chart courtesy of stockcharts.com.
NYSE FANG Plus Index – comprised of the mega-cap technology stocks that have driven the stock market over the past decade, many consider this the leadership group. The recent rally has failed, trending down from it’s high in November of 2021; since then we see a series of lower highs and lower lows. The index would need to rally significantly to regain the bull trend. Chart courtesy of stockcharts.com.
Bond Market Signaling Recession – Don’t Fight the Fed
Almost every recession in the U.S. has been proceeded by an inversion of the yield curve (the yield on the 10 Year Treasury [which is considered a proxy for future growth] falling below the yield on the 2 Year Treasure [an inflation gauge, which reflects expenses]). [Source: Federal Reserve Economic Data – FRED – St. Louis Federal Reserve Bank]. The yield curve started to drop dramatically after the first of the year, signaling a slow down in the economy. A revaluation of the stock market is likely to follow.
Many feel that the Fed is too late and will need to raise interest rates much higher than expected since inflation is still high, higher than they would have had they started in 2021 when the economy was accelerating and inflation would have been easier to tamp down. As a result the Fed could cause a hard landing to the economy, negative GPD, and a recession. Historically this has been very bad for stock market investors.
The first chart below is from stockcharts.com, illustrating the dramatic drop in the yield curve. The second chart is the Atlanta Federal Reserve’s GDP Now forecast, showing a dramatic slowdown in economic growth in Q1, which briefly went negative.
GDP is weak.
Historically Highs Valuations – The Everything Bubble
According to many, the U.S. stock market is trading at extremely high valuations as measured by numerous valuation metrics. One of the broadest measures of stock market valuation is the ‘equity market cap to GDP’ metric; Warren Buffett’s favorite coincidently. Simply, some investors gauge the value of the stock market compared to the economy (value of all stocks divided by GDP, as determined by the sources listed at the bottom of the graph below) and high multiples reflect an ‘over valued condition’.
Between 1870 and 1996 the stock market has typically traded at 50% of the value of GDP. The dot.com bubble pushed the ratio up to a ratio of 150%. The money printing by the Federal Reserve Bank and the US Government, after the 2008 Credit Bubble, has pushed the ratio up to about 200%. The U.S. stock market is currently trading at four times the historical average.
Highcroft Wealth Shield – Preserving Capital
Highcroft Wealth Shield –Highcroft Investments Advisor’s Wealth Shield program is a discipline that has capital preservation as its’ primary objective. Using a rules-based discipline the program exits investments that have broken into a bear trend, shifting those investments into alternatives that are in a bull trend or into a defensive position (cash and U.S. Government bonds). The discipline aims to mitigate losses and preserve gains by seeking to prevent declines and may at times result in client accounts holding 100% cash at any given time.
We believe that investment management should comprise a plan for growth of assets as well as preservation of assets. Wealth Shield acts as a brake when investments and markets generate downward momentum. The rules-based system is designed to help preserve capital and help avoid investments that are in a bear trend.
Highcroft Wealth Shield Availability - The Highcroft Wealth Shield program is only available in Strategic Asset Management (SAM) accounts managed on a full discretion basis in the Highcroft Investment Advisors, the program is not applied to other SAM accounts or to any brokerage or 401k accounts. The strategy is not suitable for all investors and this is not a recommendation that all investors adopt this strategy.
Caution is Warranted – Don’t Fight the Fed
The saying goes “Don’t Fight the Fed”. Investors should be aware of the likely ramifications of the Federal Reserve ending their quantitative easing program, raising interest rates, and reducing its’ balance sheet (moving from a buyer to a seller of bonds). The Fed has clearly stated that its’ intent is to fight inflation, in doing so it will have to slow economic growth.
Given that stock market valuations are at a generational high caution is warranted. Don’t fight the Fed, their actions could pose high risks to investors in the stock market. Investors should examine their retirement plans and understand how much of their investment accounts they want subject to a potential, major correction in the stock market. Significant economic developments or geopolitical events could cause major losses for investors.
Note: past performance is not an indication of future results and expectations might not materialize. Current investor concerns could evaporate as fast as they occurred.
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DEFINITIONS
10 Year Treasury Constant Maturity Minus 2 Year Treasury Constant Maturity – Also known as the yield curve. Treasury bond data used in calculating interest rate spreads is obtained directly from the U.S. Treasury Department. Series is calculated as the spread between 10-Year Treasury Constant Maturity (BC_10YEAR) and 2-Year Treasury Constant Maturity (BC_2YEAR). Both underlying series are published at the U.S. Treasury Department.
Atlanta Fed GDPNow – The Atlanta Fed GDPNow estimate is a model-based projection. It is not an official forecast, it is best viewed as a running estimate of real GDP growth based on available economic data for the current measured quarter. There are no subjective adjustments made to GDPNow, the estimate is based solely on the mathematical results of the model. The model does not capture the impact of COVID-19 and social mobility beyond their impact on GDP source data and relevant economic reports that have already been released. The model does not anticipate future economic reports.
Blue Chip Economic Indicators – Utilized by the Atlanta Fed GDPNow. Each month since 1976, Blue Chip Economic Indicators has polled America's top business economists, collecting their forecasts of U.S. economic growth, inflation, interest rates, and a host of other critical indicators of future business activity. Our 30+ year track record of providing corporate and government decision-makers with our survey results has made Blue Chip Economic Indicators synonymous with the latest in expert opinion on the future performance of the American economy. The editor of the Blue Chip Economic Indicators is Joseph Aguinaldo.
Blue Chip Financial Forecasts – Utilized by the Atlanta Fed GDPNow. The forecast provides the latest in prevailing opinion about the future direction and level of U.S. interest rates. Survey participants such as Bank of America, Goldman Sachs & Co., Swiss Re, Loomis, Sayles & Company, and J.P. MorganChase, provide forecasts for each of the next six quarters for the following variables: Federal Funds Rate, Prime Rate, LIBOR, 3-month, Commercial Paper, 1-month, Treasury Bills, 3-month, 6-month, 1-year, Treasury Notes, 2-year, 5-year, 10-year, Average Long-term Treasury Yield, Corporate Aaa Bond, Corporate Baa Bond, State & Local Bond, Home Mortgage Rate, Fed's Major Currency Index, Real GDP, GDP Chained Price Index, Consumer Price Index.
Blue Chip Survey – Utilized by the Atlanta Fed GDPNow. The Blue Chip Survey is comprised of the top 10 average forecasts and the bottom 10 average forecasts.
NYSE FANG PLUS Index - An index that provides exposure to 10 of today’s highly-traded tech giants. The index launched on 09/26/2017, prior performance (09/19/2014 to 09/25/2017) is based upon backtested index calculations. Gross total return variants are shown for all of the indices in the chart. The NYSE FANG+™ Index is an equal-weighted index.
Value Line Geometric Index - The Value Line Composite Index is a stock index containing approximately 1,675 companies from the NYSE, American Stock Exchange, Nasdaq, Toronto, and over-the-counter markets. The Value Line Composite Index has two forms: The Value Line Geometric Composite Index (the original equally weighted index) and the Value Line Arithmetic Composite Index (an index which mirrors changes if a portfolio held equal amounts of stock.)
Highcroft Wealth Shield –Highcroft Investments Advisor’s Wealth Shield program is a discipline that has capital preservation as its’ primary objective. Using a rules-based discipline the program exits investments that have broken into a bear trend, shifting those investments into alternatives that are in a bull trend or into a defensive position (cash and U.S. Government bonds). The discipline helps to limit losses or lock in gains, helping to prevent precipitous declines, and can result in a clients’ account holding 100% cash at certain points.
We believe that investment management should comprise a plan for growth of assets as well as preservation of assets. Wealth Shield acts as a brake when investments and markets generate downward momentum. The rules-based system is designed to help preserve capital and help avoid investments that are in a bear trend.
Highcroft Wealth Shield Availability - The Highcroft Wealth Shield program is only available in Strategic Asset Management (SAM) accounts managed on a full discretion basis in the Highcroft Investment Advisors, the program is not applied to other SAM accounts or to any brokerage or 401k accounts. The strategy is not suitable for all investors and this is not a recommendation that all investors adopt this strategy.
Wilshire 5000 Composite Index - The Wilshire 5000 Total Market Index, or more simply the Wilshire 5000, is a market-capitalization-weighted index of the market value of all US-stocks actively traded in the United States. As of December 31, 2019, the index contained only 3,473 components.[1] The index is intended to measure the performance of most publicly traded companies headquartered in the United States.
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