Large declines early in the week put stocks in a hole they couldn’t climb out of. Through Friday’s close, the Dow and S&P were both down 0.5% and the Nasdaq fell 0.7%. Bond yields continued to move higher, hitting their highest level since 2011. Gold moved lower for another week, off 2.0%. Oil keeps climbing, up 1.0% this week to close at $71.35 per barrel. The international Brent oil, which is used for much of our gas here in the East, hit its highest level since 2014 to close at $78.71.
It would figure that last week – the week we were out of the office – would be the best week in two months and see stocks higher every day. This week – where we were back in the office – was a little more challenging.
We’ll get to stocks in a minute, but the bond market continued to be a big story this week.
This week bond yields hit their highest level since 2011 (which means prices hit their lowest level), as measured by the 10-year government bond (which is seen as a benchmark for the bond market).
We’ll get to stocks in a minute, but the bond market continued to be a big story this week.
This week bond yields hit their highest level since 2011 (which means prices hit their lowest level), as measured by the 10-year government bond (which is seen as a benchmark for the bond market).
Two factors have been behind the falling prices and rising yields for bonds. One is the improving economy. Investors move out of stocks and into the safer bond market when they are worried about the future. As the economy improves, this reverses.
Another major factor is the Federal Reserve, who have set a a path of raising interest rates, albeit at a slow pace.
Why are bond yields important? They make it more expensive to borrow money, since you will have to pay the money back at a higher interest rate. For example, mortgage rates are now at the highest level since 2011, which makes it more expensive to buy a home.
Another major factor is the Federal Reserve, who have set a a path of raising interest rates, albeit at a slow pace.
Why are bond yields important? They make it more expensive to borrow money, since you will have to pay the money back at a higher interest rate. For example, mortgage rates are now at the highest level since 2011, which makes it more expensive to buy a home.
These higher rates are impacting the stock market. Just this week, losses were mostly confined to sectors that don’t do well when interest rates rise – sectors like real estate and utilities. These sectors offer a high dividend so they are popular when bond yields are low. They lose appeal when bond yields rise, hence the selloff this week.
The improving outlook on the economy is also causing the U.S. dollar to strengthen. The dollar has seen an increase of 4% already this month.
A stronger dollar is generally good for the U.S., but it can have some drawbacks. Companies that sell their items overseas, for example, tend not to do as well since the stronger dollar makes our items look more expensive to foreign buyers and therefore reduce sales.
For this reason, the stronger dollar played a part in the recent volatility in the market.
One area that does well in an improving economy and strong dollar is small cap stocks. This sector hit a new record high this week.
For this reason, the stronger dollar played a part in the recent volatility in the market.
One area that does well in an improving economy and strong dollar is small cap stocks. This sector hit a new record high this week.
Smaller companies are not as internationally-focused and get more of their sales here in the U.S. Some people believe they give a better idea of the strength of the economy because of this. These small companies also have another tailwind from the new tax law, since they tend to pay higher tax rates than larger companies.
Altogether, small cap stocks are in a pretty good place here.
Switching gears, corporate earnings season for the first quarter is now largely complete. Companies have reported earnings growth of 25% according to Factset, which is the best quarter since 2010. This quarter was impressive, but more companies are warning that while the rest of the year looks solid, this was likely the best quarter of the year.
Earnings reports are the past and investors are forward looking, so this news has added to the volatility in the market.
Next Week
Next week will be fairly quiet. Earnings season is nearly over, but we’ll get a trickle of earnings, mostly from retail companies. It looks to be fairly quiet for economic data, too, where the only big reports will be info on housing and durable goods.
Investment Strategy
Stocks quickly moved from looking cheap to expensive on a short term basis last week, so it wasn’t surprising to see them stall out this week. Markets still have more risk to the downside at this point – which doesn’t necessarily mean a decline is coming, but we would be cautious about adding new money here.
The longer term direction of the market remains difficult to predict. Fundamentals are still very good with pro-business policies out of Washington providing a solid tailwind. However, rising interest rates are like Kryptonite to stocks and could pull markets lower. It’s tough to say where we think the market will go the long run.
Bonds are also volatile at this time. Yields have broken out higher in the last few weeks (so prices moved lower), but we think they are near the high end of their range right now.
As for the rest of the portfolio, bonds to protect against inflation, or TIPs, remain a good long term hedge for inflation. Floating-rate bonds will do well if interest rates do rise.
Some municipal bonds look attractive for the right client, too. We like buying individual, insured names for these bonds, avoiding muni index bonds if possible. We keep a longer term focus with these investments.
Gold is another good hedge for the portfolio. It is only a hedge at this point – rising on geopolitical issues as a flight to safety.
Finally, in international stocks, we prefer developed markets to emerging ones at this time.
This commentary is for informational purposes and is not investment advice, an indicator of future performance, a solicitation, an offer to buy or sell, or a recommendation for any security. It should not be used as a primary basis for making investment decisions. Consider your own financial circumstances and goals carefully before investing. Past performance cannot guarantee results.
Altogether, small cap stocks are in a pretty good place here.
Switching gears, corporate earnings season for the first quarter is now largely complete. Companies have reported earnings growth of 25% according to Factset, which is the best quarter since 2010. This quarter was impressive, but more companies are warning that while the rest of the year looks solid, this was likely the best quarter of the year.
Earnings reports are the past and investors are forward looking, so this news has added to the volatility in the market.
Next Week
Next week will be fairly quiet. Earnings season is nearly over, but we’ll get a trickle of earnings, mostly from retail companies. It looks to be fairly quiet for economic data, too, where the only big reports will be info on housing and durable goods.
Investment Strategy
Stocks quickly moved from looking cheap to expensive on a short term basis last week, so it wasn’t surprising to see them stall out this week. Markets still have more risk to the downside at this point – which doesn’t necessarily mean a decline is coming, but we would be cautious about adding new money here.
The longer term direction of the market remains difficult to predict. Fundamentals are still very good with pro-business policies out of Washington providing a solid tailwind. However, rising interest rates are like Kryptonite to stocks and could pull markets lower. It’s tough to say where we think the market will go the long run.
Bonds are also volatile at this time. Yields have broken out higher in the last few weeks (so prices moved lower), but we think they are near the high end of their range right now.
As for the rest of the portfolio, bonds to protect against inflation, or TIPs, remain a good long term hedge for inflation. Floating-rate bonds will do well if interest rates do rise.
Some municipal bonds look attractive for the right client, too. We like buying individual, insured names for these bonds, avoiding muni index bonds if possible. We keep a longer term focus with these investments.
Gold is another good hedge for the portfolio. It is only a hedge at this point – rising on geopolitical issues as a flight to safety.
Finally, in international stocks, we prefer developed markets to emerging ones at this time.
This commentary is for informational purposes and is not investment advice, an indicator of future performance, a solicitation, an offer to buy or sell, or a recommendation for any security. It should not be used as a primary basis for making investment decisions. Consider your own financial circumstances and goals carefully before investing. Past performance cannot guarantee results.
