We will admit that corrections are not fun, but like forest fires, while being short-term destructive, they are long-term constructive. Also, while the recent volatility is scary, it is not unusual. During the current bull market that began on March 10, 2009, there have been 12 drops of at least 5%, including five corrections of at least 10%.
For this most recent market drop, there were two trade-related catalysts and one related to rising rates:
- Recent earnings outlooks, while still quite solid, started to indicate that input costs are increasing from a tight labor market and the impact of tariffs.
- There are concerns that increased pressure from US tariffs is exacerbating what would otherwise be a modest economic slowdown in China.
- Markets received news that foreign purchases of US Treasuries have slowed considerably in 2018, while at the same time there are more Treasuries because of balance sheet normalization and a growing deficit.
Last week (10/25/18) I wrote that I was getting concerned about how this correction was behaving. It started to appear that traders and trading algorithms switched from ‘buying the dips’ to ‘selling the rally’s’. Not only was the market not able to hold onto its early gains, we even witnessed acceleration to the downside in the critically important last hour and a half of the trading day.
This week has been entirely different. While Monday 10/29 was a down day, the market rallied into the close. This spilled over into Tuesday, where the market vacillated all day before surging into the close. Halloween saw the market build on the previous rally, and most importantly recapture the key 2,710 level on the S&P 500. As I’m writing this report on the morning of November 1, 2018, the market is continuing to build on the rally. It’s too soon to say the correction is over, but as long as the S&P stays above 2,710 area I feel better that the worst is over.
There are numerous positive and negative indicators right now. Overall, I see no signs of the US economy slowing significantly or any signs of a recession over the next 12 – 18 months.
- US GDP growth remains strong – 2Q 2018 revised up, 3Q 2018 initial reading above expectations
- Leading Economic Indicators remain solidly positive @ 6.9% year-over-year (see chart below)
- Positive corporate sales and earnings growth
- Wage growth remains stagnant – this could eventually impact consumer spending
- Housing market could be better – the increase in interest rates is definitely slowing housing
- Signs that global growth may be slowing down – likely due to tariffs.
Leading Economic Indicators (LEI) and Recession
source: Ladenburg Thalmann Asset Management
Additionally, there are two specific investment indicators I follow – the “Smart Money / Dumb Money Confidence Spread” and the “High Yield Bond Spread”.
The Smart Money / Dumb Money Confidence Spread looks at the confidence expressed by institutional (smart money) and individual (dumb money) investors. Well, now the “smart money” has made it all the way to bullish and the spread between the two measures has reached its widest point in favor of the “smart money” since early 2016. Over the last five years, whenever this spread has exceeded 0.5, as it is now, some sort of significant low has soon followed.
Source: Sentiment Trader
The bond/credit market is usually pretty good at sniffing out future economic and financial worries, with spreads like High Yield vs. US Treasury spreads typically spiking into recessionary and otherwise weak periods (like the end of the Dot-Com Bubble, the Financial Crisis, and the 2014-2016 oil collapse). The fact that spreads like this one are not yet flashing major caution helps support that the current stock market drop is not the beginning of something deeper.
Given all of the above, I remain concerned about the market on a short-term basis but reasonably confident that the long-term positive trend remains intact. We continue to balance the risk and reward in your portfolio and will make adjustments as necessary to help you stay on track for your goals.
November Calendar of Events (comments and additions for future months are always welcome)
- November is National Family Caregivers Month. Please consider reaching out to a family member or friend who is caring for a loved one. Why not offer to give them a day off.
November 1st Healthcare open enrollment – runs through 12/15/18 – for coverage starting Jan 1, 2018
Note: Medicare open enrollment started 10/15/18 and ends 12/7/18
November 4th Set those clocks back
November 6th Election Day – be sure to vote
November 11th Veterans Day – says thanks a Vet
November 16th Great American Smokeout – encourage a smoker to quit
November 22nd Thanksgiving – have a wonderful holiday
I hope you find this report useful. Please share it with anyone who you feel would benefit from the information.
Sources: Sentiment Trader, Ladenburg Thalmann Asset Management, CNBC.com
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