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The stock markets continue to rise over the last month with the Value sector leading the way. The energy, financial, airlines, cruise ship sector and more have followed right along the last few months as well. Over the short term the Value sector still looks good going forward with the recovery of the economy and the realization that the Covid 19 virus will soon subside. I still like the growth sector involving technology over the longer term, but the sector that should outperform shorter term as the economy is recovering is the value sector. On the Bartometer at the end of last year I thought the S&P 500 would hit 4200-4400. As of Friday the S&P was 4094. My AIQ Trading Expert and my other technical computer algorithms are still at a BUY-HOLD signal. Remember that this market is very overvalued and is selling at 24 times earnings, and is currently 21% overvalued based on earnings and interest rates.. Earnings growth has to be great for this market to continue higher.
Interest rates have climbed to the 1.7% level on the 10-year government bond. Bonds, in general, have fallen this year from 0-to 13%, with Floating rate bonds actually rising 2% in 2021. Floating rate bonds and variable interest rate bonds both pay a higher rate as interest rates rise. The interest rate rise over the short term should be more subdued based on Federal Chairman Reserve Powell’s testimony that he is dovish on interest rate rises. I believe over the longer term with the deficit continuing to rise that the market will push interest rates higher. I also believe that inflationary pressures will also push the need for interest rates to rise over the next year or two. Allocations for bonds in your portfolio should be more concentrated in shorter duration, and in the floating rate bond sector/ Treasury inflation-protected Strips or TIPS. Please call me to strategize your portfolio holistically.
Some of the INDEXES of the markets both equities and interest rates are below. The source is Morningstar.com up until April 09, 2021.
Dow Jones +10.97% S&P 500 +10.0% EQUAL WEIGHTED S&P 500 +14% NASDAQ Aggressive growth +7.58% Large Cap Value +9.68% I Shares Russell 2000 ETF (IWM) Small cap +13.34% Midcap stock funds +14.0% International Index (MSCI – EAFE ex USA +9% International Emerging Markets +3.6% Financial stocks +13% Energy stocks +28% Healthcare Stocks +.9% Moderate Mutual Fund Investment Grade Bonds (AAA) Long duration +5.1% High Yield Merrill Lynch High Yield Index +1.4% Floating Rate Bond Funds +1.7% Short Term Bond +.0% Multi sector bond funds +.3% Gold -8.43% Long Term 20 year Bond fund -12% 10 year Bond Yield 1.62%
Classicalprinciples.com and Robert Genetskis Excerpts
Market Outlook
Stocks turned in a mixed performance this past week. The Nasdaq and QQQs had the biggest gains while the S&P500 and Dow rose to new all-time highs. In contrast, small-cap stocks fell ½%. Weekly moves show stocks rotating into and out of different areas, while the overall market trend continues to be positive.
The main force behind the upward move is a highly expansive Fed policy. Monetary stimulus creates a surplus of liquidity for stocks and ignited gains in business activity. This week’s sharp reversal in longer-term interest rates provided another spark for sending prices higher
The Biden Administration tried to discourage investors by proposing more destructive policies. Investors were not discouraged. Cautious statements by some Democrats are viewed as a possible barrier to the more these destructive policy proposals. The Fed continues to add kindling to the inflationary fire and promises it will continue to do so. Although longer-term interest rates moved lower this past week, implied inflation expectations remain high. The implied inflation expectation is currently 2.3%. It is measured by subtracting the inflation-adjusted 10-year T-bond yield from the actual 10-year T-bond yield.
Although core inflation rates remain very low, the bond market expects higher inflation. The market is more reliable. As for stocks, the gains in the S&P500 move the index to 21% above fundamental value.
Stocks are overextended and the risks of a reversal, or at least a leveling off, are rising. In spite of the heightened risks and the likelihood for some temporary setback, ongoing monetary stimulus has the potential to continue to drive stock prices higher.
The market weighted S&P 500 which weights the largest companies like Apple, Microsoft, Google and more. This index is up 10% in 2021. 500 of the largest stocks in the USA are in this index. If you look to thchart above you will see an ASCENDING CHANNEL. An ascending channel is Bullish and if it breaks out above the top of the channel it can signal a Continuation of the move higher. Many times the market will top out at the top of the channel, right where it is now. If it breaks down below the channel then it can signal a possible trend change. There is a definite channel trend here HIGHER. But could have a short term setback here.
The indicator below the price chart is the MACD, or momentum indicator has turned to the upside, See the pink line breaking out of the blue line, another Bullish signal
The bottom indicator is SD-SK Stochastics is now above the 88 line and clearing shows an overbought situation in the stock market. Even though the market indicators are BULLISH, and 21% overvalued, we have to be wondering when all of this upside will stop. I thought 4200 to 4400 on the S&P 500. That is a 2-7% move from here. It can go higher than that, we will see. Earnings are coming out and if they show a clear cut blowout in earnings then the market should continue higher, but we have to keep aware of the overvalued nature of the market.
Chart Source: AIQsystems.com
Support levels
S&P 500 4040, 3919, 3870, 3655. NASDAQ 13,611, 13,472, 13012. Dow Jones 33280, 29280 These may be safer areas to get into the equity markets on support levels slowly on the accumulation areas.
THE BOTTOM LINE:
The market continues to look ok albeit very overvalued based on earnings and interest rates. I still think the market could reach my 4200-4400 or higher before the end of the year or higher and the economy should be higher than where we are today. I am worried that interest rates over the next year or so will be higher than 2% on the ten-year bond. Markets usually have a more serious correction if the 10-year bond goes above 2.75% to 3%. We are far from that point. I still like Value stocks for the short term and growth for the mid to long term as growth stocks is where the real growth in the economy should be. The NASDAQ stocks have underperformed for the year but, if you are longer-term investors then have a mix of growth and Value stocks or funds. I have been suggesting a higher percentage of small and midcap value and growth funds over the last 5 months and now the smaller stocks are overvalued and a reduction of smaller stocks may be in order. In addition, the Price to Earnings in the market is over 24 times earnings, this indicates a much-overvalued market. If you are within a year of retirement you may want to take some profits if you made money and wait for a better entry. It all depends on your goals and risk tolerance.
Best to all of you,
Joe Bartosiewicz, CFP® Investment Advisor Representative
Securities and advisory services offered through SagePoint Financial, Inc. (SPF), member FINRA/SIPC. SPF is separately owned and other entities and/or marketing names, products or services referenced here are independent of SPF. 800-552-3319 20 East Thomas Road Ste 2000 Phoenix AZ 85012
If you have any questions, please call me at 860-940-7020. Joe Bartosiewicz, CFP® 92 High Street Thomaston, CT 06787 and 7501 East MCDowell RD #2172 Scottsdale, AZ 85257
Disclaimer: The views expressed are not necessarily the view of Sage Point Financial, Inc. and should not be interpreted directly or indirectly as an offer to buy or sell any securities mentioned herein. Securities and Advisory services offered through Sage Point Financial Inc., Member FINRA/SIPC, an SEC-registered investment advisor. Past performance cannot guarantee future results. Investing involves risk, including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values. Please note that individual situations can vary. Therefore, the information presented in this letter should only be relied upon when coordinated with individual professional advice. *There is no guarantee that a diversified portfolio will outperform a non-diversified portfolio in any given market environment. No investment strategy, such as asset allocation, can guarantee a profit or protect against loss in periods of declining values. It is our goal to help investors by identifying changing market conditions. However, investors should be aware that no investment advisor can accurately predict all of the changes that may occur in the market.
The price of commodities is subject to substantial price fluctuations of short periods and may be affected by unpredictable international monetary and political policies. The market for commodities is widely unregulated, and concentrated investing may lead to Sector investing may involve a greater degree of risk than investments with broader diversification.
Indexes cannot be invested indirectly, are unmanaged, and do not incur management fees, costs, and expenses.
Dow Jones Industrial Average: A weighted price average of 30 significant stocks traded on the New York Stock Exchange and the NASDAQ.
S&P 500: The S&P 500 is an unmanaged indexed comprised of 500 widely held securities considered to be representative of the stock market in general.
NASDAQ: the NASDAQ Composite Index is an unmanaged, market-weighted index of all over the counter common stocks traded on the National Association of Securities Dealers Automated Quotation System
(IWM) I Shares Russell 2000 ETF: Which tracks the Russell 2000 index: which measures the performance of the small capitalization sector of the U.S. equity market.
A Moderate Mutual Fund risk mutual has approximately 50-70% of its portfolio in different equities, from growth, income stocks, international and emerging markets stocks to 30-50% of its portfolio in different categories of bonds and cash. It seeks capital appreciation with a low to moderate level of current income.
The Merrill Lynch High Yield Master Index: A broad-based measure of the performance of non-investment grade US Bonds
MSCI EAFE: the MSCI EAFE Index (Morgan Stanley Capital International Europe, Australia, and Far East Index) is a widely recognized benchmark of non-US markets. It is an unmanaged index composed of a sample of companies’ representative of the market structure of 20 European and Pacific Basin countries and includes reinvestment of all dividends.
Investment grade bond index: The S&P 500 Investment-grade corporate bond index, a sub-index of the S&P 500 Bond Index, seeks to measure the performance of the US corporate debt issued by constituents in the S&P 500 with an investment-grade rating. The S&P 500 Bond index is designed to be a corporate-bond counterpart to the S&P 500, which is widely regarded as the best single gauge of large-cap US equities.
Floating Rate Bond Index is a rule-based, market-value weighted index engineered to measure the performance and characteristics of floating-rate coupon U.S. Treasuries, which have a maturity greater than 12 months.
Truth be told I am not much of a “stock picker”. Oh, I can pick ‘em alright just like anyone else. They just to don’t go the right way as often as I’d like. I also believe that the way to maximize profitability is to follow a momentum type approach that identifies stocks that are performing well and buying them when they breakout to the upside (ala O’Neil, Minervini, Zanger, etc.) and then riding them as long as they continue to perform. Unfortunately, I’m just not very good at it.
Back when I started out, there was such a thing as a “long-term investor.” People would try to find good companies selling at a decent price and they would buy them and hold them for, well, the long-term. Crazy talk, right? As I have already stated, I am not claiming that that is a better approach. I am just pointing out that it was “a thing.”
An Indicator
There is an indicator (I will call it VFAA, which is short for vixfixaverageave, which – lets face it – is a terrible name) that I follow that was developed as an extension of Larry William’s VixFix Indicator. There is nothing magic about it. Its purpose is to identify when price has reached an exceptionally oversold level and “may” be due to rally. The code for this indicator appears later.
For the record, I DO NOT systematically use this indicator in the manner I am about to describe, nor am I recommending that you do. Still, it seems to have some potential value, so what follows is merely an illustration for informational purposes only.
The Rules
*We will look at a monthly bar chart for a given stock
*A “buy signal” occurs when VFAA reaches or exceeds 80 and then turns down for one month
*A “sell (or exit) signal” occurs when VFAA subsequently rises by at least 0.25 from a monthly closing low
Seeing as how this is based solely on monthly closes it obviously this is not going to be a “precision market timing tool.”
Some “Good Companies” with “Troubled Stocks”
So now let’s apply this VFAA indicator to some actual stocks. Again, I AM NOT recommending that anyone use this approach mechanically. The real goal is merely to try to identify situations where a stock has been washed out, reversed and MAY be ready to run for a while.
Ticker BA
Figure 1 displays a monthly chart for Boeing (BA) with VFAA at the bottom. The numbers on the chart represent the hypothetical + (-) % achieved by applying the rules above (although once again, to be clear I am not necessarily suggesting anyone use it exactly this way).
From March 2019 into March 2020 BA declined -80%. It has since bounced around and VFAA has soared to 110.88. VFAA has yet to rollover on a month-end basis, so nothing to do here except exhibit – what’s that word again – oh right, “patience.”
Ticker GD
Figure 2 displays a monthly chart for General Dynamics (GD) with VFAA at the bottom.
Are these “world-beating numbers”? Not really. But in terms of helping to identify potential opportunities, not so bad. VFAA gave a “buy signal” for GD at the end of July. So far, not so good as the stock is down about -6%.
Ticker WFC
Figure 3 displays a monthly chart for Wells Fargo (WFC) with VFAA at the bottom.
There are not many “signals” but the ones that occurred have been useful. Between 2018 and 2020 WFC declined -65%. It has since bounced around and VFAA has soared to 102.44. VFAA has yet to rollover on a month-end basis. But at some point it will, and a potential opportunity may arise.
VFAA Formula
Below is the code for VFAA
VixFix is an indicator developed many years ago by Larry Williams which essentially compares the latest low to the highest close in the latest 22 periods (then divides the difference by the highest close in the latest 22 periods). I then multiply this result by 100 and add 50 to get VixFix.
*Next is a 3-period exponential average of VixFix
*Then VFAA is arrived at by calculating a 7-period exponential average of the previous result (essentially, we are “double-smoothing” VixFix)
Are we having fun yet? See code below:
hivalclose is hival([close],22).
vixfix is (((hivalclose-[low])/hivalclose)*100)+50.
vixfixaverage is Expavg(vixfix,3).
vixfixaverageave is Expavg(vixfixaverage,7).
VFAA = vixfixaverageave
EDITORS NOTE: The AIQ Expert Design Studio code for the indicator is available to download from here. Save this file to your /wintes32/EDS Strategies folder https://aiqeducation.com/VFAA.EDS
Summary
One thing to note is that VFAA “signals” on a monthly chart don’t come around very often. So, you can’t really sit around and wait for a signal to form on your “favorite company”. You have to look for opportunity wherever it might exist.
One last time let me reiterate that I am not suggesting using VFAA as a standalone systematic approach to investing. But when a signal does occur – especially when applied to quality companies that have recently been “whacked”, it can help to identify a potential opportunity.
Jay Kaeppel
Disclaimer: The information, opinions and ideas expressed herein are for informational and educational purposes only and are based on research conducted and presented solely by the author. The information presented represents the views of the author only and does not constitute a complete description of any investment service. In addition, nothing presented herein should be construed as investment advice, as an advertisement or offering of investment advisory services, or as an offer to sell or a solicitation to buy any security. The data presented herein were obtained from various third-party sources. While the data is believed to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information. International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Past performance is no guarantee of future results. There is risk of loss in all trading. Back tested performance does not represent actual performance and should not be interpreted as an indication of such performance. Also, back tested performance results have certain inherent limitations and differs from actual performance because it is achieved with the benefit of hindsight.
Well that sounds like a pretty alarming headline, doesn’t it? But before you actually take a moment to locate the nearest exit please note the important difference between the words “Please locate the nearest exit” and “Oh My God, it’s the top, sell everything!!!”
You see the difference, right? Good. Let’s continue. First, a true confession – I am not all that great at “market timing”, i.e., consistently buying at the bottom and/or selling at the top (I console myself with the knowledge that neither is anyone else). On the other hand, I am reasonably good at identifying trends and at recognizing risk. Fortunately, as it turns out, this can be a pretty useful skill.
So, while I may not be good at market timing, I can still make certain reasonable predictions. Like for example, “at some point this bull market will run out of steam and now is as good a time as any to start making plans about how one will deal with this inevitable eventuality – whenever it may come”. (Again, please notice the crucial difference between that sentence and “Oh My God, it’s the top, sell everything!!”)
First the Good News
The trend in the stock market is bullish. Duh. Is anyone surprised by that statement? Again, we are talking subtleties here. We are not talking about predictions, forecasts, projected scenarios, implications of current action for the future, etc. We are just talking about pure trend-following and looking at the market as it is today. Figure 1 displays the S&P 500 Index monthly since 1971 and Figure 2 displays four major indexes (Dow, S&P 500, Nasdaq 100, Russell 2000) versus their respective 200-day moving averages.
Figure 2 – Dow, S&P 500, Nasdaq 100, Russell 2000 w respective 200-day moving average (Courtesy AIQ TradingExpert)
It is impossible to look at the current status of “things” displayed in Figures 1 and 2 and state “we are in a bear market”. The trend – at the moment – is “Up”. The truth is that in the long run many investors would benefit from ignoring all of the day to day “predictions, forecasts, projected scenarios, implications of current action for the future, etc.” that emanates from financial news and just sticking to the rudimentary analysis just applied to Figures 1 and 2.
In short, stop worrying and learn to love the trend. Still, no trend lasts forever, which is kind of the point of this article.
So now let’s talk about the “Bad News”. But before we do, I want to point out the following: the time to actually worry and/or do something regarding the Bad News will be when the price action in Figure 2 changes for the worse. Let me spell it out as clearly and as realistically as possible.
If (or should I say when?) the major U.S. stock indexes break below their respective 200-day moving averages (and especially if those moving average start to roll over and trend down):
*It could be a whipsaw that will be followed by another rally (sorry folks, but for the record I did mention that I am not that good at market timing and that I was going to speak as realistically as possible – and a whipsaw is always a realistic possibility when it comes to trend-following)
*It could be the beginning of a significant decline in the stock market (think -30% or possibly even much more)
So, the proper response to reading the impending discussion of the Bad News is not “I should do something”. The proper response is “I need to resolve myself to doing something when the time comes that something truly needs to be done.”
You see the difference, right? Good. Let’s continue.
The Bad News
The first piece of Bad News is that stocks are overvalued. Now that fact hardly scares anybody anymore – which actually is understandable since the stock market has technically been overvalued for some time now AND has not been officially “undervalued” since the early 1980’s. Also, valuation is NOT a timing tool, only a perspective tool. So high valuation levels a re pretty easy to ignore at this point.
Still, here is some “perspective” to consider:
*Recession => Economic equivalent of jumping out the window
*P/E Ratio => What floor you are on at the time you jump
Therefore:
*A high P/E ratio DOES NOT tell you WHEN a bear market will occur
*A high P/E ratio DOES WARN you that when the next bear market does occur it will be one of the painful kind (i.e., don’t say you were not warned)
Figure 3 displays the Shiller P/E Ratio plus (in red numbers) the magnitude of the bear market that followed important peaks in the Shiller P/E Ratio.
Repeating now: Figure 3 does not tell us that a bear market is imminent. It does however, strongly suggest that whenever the next bear market does unfold, it will be, ahem, significant in nature. To drive this point home, a brief history:
1929: P/E peak followed by -89% Dow decline in 3 years
1937: P/E peak followed by -49% Dow decline in 7 months(!?)
1965: P/E peak followed by 17 years of sideways price action with a -40% Dow decline along the way
2000: P/E peak followed by -83% Nasdaq 100 decline in 2 years
2007: P/E peak followed by -54% Dow decline in 17 months
Following next peak: ??
As you can see, history suggests that the next bear market – whenever it may come – will quite likely be severe. There is actually another associated problem to consider. Drawdowns are one thing – some investors are resolved to never try to time anything and are thus resigned to the fact that they will have to “ride ‘em out” once in awhile. OK fine – strap yourself in and, um, enjoy the ride. But another problem associated with high valuation levels is the potential (likelihood?) for going an exceedingly long period of time without making any money at all. Most investors have pretty much forgotten – or have never experienced – what this is like.
Figure 4 displays three such historical periods – the first associated with the 1929 peak, the second with the 1965 peak and the third with the 2000 peak.
Figure 4 – Long sideways periods often follow high P/E ratios
*From 1927 to 1949: the stock market went sideways for 22 years. Some random guy in 1947 – “Hey Honey, remember that money we put to work in the stock market back in 1927? Great News! We’re back to breakeven! (I can’t speak for anyone else, but personally I would prefer to avoid having THAT conversation.)
*From 1965 to 1982: the stock market went sideways. While this is technically a 0% return over 17 years (with drawdows of -20%, -30% and -40% interspersed along the way – just to make it less boring), it was actually worse than that. Because of high inflation during this period, purchasing power declined a fairly shocking -75%. So that money you “put to work” in that S&P 500 Index fund in 1965, 17 years later had only 25% as much purchasing power (but hey, this couldn’t possibly happen again, right!?).
*From 2000 to 2012: the stock market went sideways. With the market presently at much higher all-time highs most investors have forgotten all about this. Still, it is interesting to note that from 8/31/2000 through 1/31/2020 (19 years and 5 months), the average annual compounded total return for the Vanguard S&P 500 Index fund (ticker VFINX) was just +5.75%. Not exactly a stellar rate of return for almost 20 years of a “ride ’em out” in an S&P 500 Index fund approach).
The Point: When valuations are high, future long-term returns tend to be subpar – and YES, valuations are currently high.
You have been warned.
Stay tuned for Part II…
Jay Kaeppel
Disclaimer: The information, opinions and ideas expressed herein are for informational and educational purposes only and are based on research conducted and presented solely by the author. The information presented does not represent the views of the author only and does not constitute a complete description of any investment service. In addition, nothing presented herein should be construed as investment advice, as an advertisement or offering of investment advisory services, or as an offer to sell or a solicitation to buy any security. The data presented herein were obtained from various third-party sources. While the data is believed to be reliable, no representation is made as to, and no responsibility, warranty or liability is accepted for the accuracy or completeness of such information. International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Past performance is no guarantee of future results. There is risk of loss in all trading. Back tested performance does not represent actual performance and should not be interpreted as an indication of such performance. Also, back tested performance results have certain inherent limitations and differs from actual performance because it is achieved with the benefit of hindsight.
