Written by Dave Young, President and Founder of Paragon Wealth Management
In terms of market volatility, it’s been a quiet year so far — mild back-and-forth movement with a general upward bias. Unusually quiet.
Stocks outperformed bonds in the second quarter. The NASDAQ Composite was the leader for U.S. markets. Emerging Markets had a strong showing. International markets surprisingly outperformed the U.S. The weakest trades were commodities, gold and the U.S dollar.
The market has appeared stable because of the primary indexes like the Dow and S&P 500. Also, large cap stocks have been fairly consistent through the first half of the year.
However, under the surface, it has been difficult to latch on to any consistency. There has been a random movement between growth and value, small caps and mid-caps, sectors and industries.
In the sectors and industries, the trends have been the most divergent. The Trump trade stalled as congress stopped implementing his agenda, while the FANG trade from 2015 (Facebook, Apple, Netflix, Google) reemerged. Also, the drop in oil prices and the flattening of the yield curve contributed to the dispersion.
All in all, mostly positive so far.
It is always interesting to compare what the “experts” predict versus what actually happens. At the beginning of 2017, Wall Street strategists projected the S&P 500 to end the year up about 5.5%, according to Birinyl Associates.
For the first six months, the index is up 8.2%. No one predicted that only five tech companies — Facebook, Apple, Amazon, Microsoft and Google — would account for about one third of the indexes gain.
In contrast with predictions, The VIX, which measures market volatility and is known as the “fear index,” plummeted to its lowest level in 20 years.
The Fed told us they were going to keep raising interest rates this year — and they have. That factor, combined with the Trump Administration’s pro-growth policies, led investors to plan for the Ten Year Treasury interest rate to move up. Instead, surprisingly, the yield dropped from 2.446% to 2.298% over the past six months.
The U.S. Dollar was supposed to strengthen in 2017. Instead, it has dropped 5.6% since the beginning of the year.
Oil prices were predicted to stabilize after major producers agreed to limit output in late 2016. Instead, U.S. oil prices fell into a bear market in the middle of June and are down 14% year-to-date.
It seems stock prognosticators and fortune tellers still have a lot in common. This is why we ignore forecasts and base our decisions on models that interpret what is actually happening in real time.
WHERE FROM HERE?
The last time we saw a 5% correction was after the surprise Brexit vote. You probably missed that correction if you weren’t watching the market daily — it came and reversed in a matter of days.
The Brexit correction was 250 market days ago, which set another record of the longest period of time (in the past 20 years) we have gone without a 5% correction.
This low volatility is not normal. Following the first quarter’s low volatility, we only saw two days in the past quarter where the market moved up more than 1% (April 24th) or down more than 1% (May 17th).
In my opinion, we are in a difficult spot. On the one hand, the market is not cheap. But if the S&P 500 is not reasonably priced, then why does everyone keep adding money to it?
There are three pillars holding the market up.
First, the lack of other alternatives has kept the money coming into stocks. Investment options are banks and money markets, which pay nothing. Treasury notes and bonds also pay nothing, and they have significant downside if interest rates go higher. There are annuities, which shouldn’t even be classified as investments, in my opinion. Or there’s real estate, which you have to search long and hard to find anything of value. There just aren’t many decent options.
Second, the economy is fundamentally sound. Historically speaking, stock corrections aren’t usually bad when the economy is on solid footing. If we start to see signs of a recession on the horizon, the risk to the market increases significantly.
Third, the Trump hope. The market took off when Trump got elected. That didn’t make any sense if you read the papers or listened to the nightly news. However, it did make sense to investors. When the market rallied, investors believed Trump was going to reduce taxes, reduce regulations, fix healthcare and move our economy back toward its free market roots.
Then congress got involved and the Trump hope waned. That is where we are now. However, there is still some of that hope intact. Many investors no longer believe his changes are a slam-dunk, but they do think the changes still “might” happen. The fact it is still a possibility is the third pillar holding up the market.
These three pillars are what’s making an expensive market get more expensive. This is why every time the market acts like it is getting ready to sell off … it doesn’t. So far, everyone who has been sitting on the sidelines lamenting they are missing this run, jumps in when the market starts to go down.
How long will this last? It has already lasted longer than normal. It can keep going until it dies of exhaustion or one of the three pillars is taken out.
IN THE MEAN TIME
Rule one: Don’t worry. It doesn’t change anything. It makes you feel bad. It is completely pointless.
Rule two: Stick with the basics. Invest according to your risk tolerance. Make sure how you’re invested is aligned with how much money you’re willing to put at risk. Even though it seems like a great idea to get more aggressive when markets are good (like they are now), don’t take the bait. Stay the course. This is a long-term project. Stay invested in a way that makes sense through good and bad market environments. Feel free to reach out to us — we are always happy to re-evaluate your investment strategy and risk tolerance.
Finally, if you haven’t had a chance to look at our new Private Income Fund, give us a call. It is a good option to consider in this market environment.
Have a great summer!
Disclaimer: 1. Investment performance reflects time-weighted, size-weighted geometric composite returns of actual client accounts. 2. Investment returns are net of all management fees and transaction costs, and reflect the reinvestment of all dividends and distributions. 3. The S&P Index is a market-value weighted index comprised of 500 stocks selected for market size, liquidity, and industry group representation The Barclays Aggregate Bond Index is a benchmark index made up of the Barclays Government/Corporate Bond Index. 4. Benchmarks are used for comparative purposes only. The Paragon Top Flight Portfolio is not designed to track the S&P Index and will have results different from the benchmark. The Paragon Managed Income Portfolio is not designed to track the Barclays Bond Aggregate Index. 5. Past performance is no guarantee of future results. Investments in securities involve the risk of loss. Paragon Wealth Management is a provider of managed portfolios for individuals and institutions. Although the information included in this report has been obtained from sources Paragon believes to be reliable, we do not guarantee its accuracy. All opinions and estimates included in this report constitute the judgment as of the dates indicated and are subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security. Past performance is not a guarantee of future results.