Stocks trended lower all week until a solid gain Friday narrowed the decline. For the week, the Dow lost 0.6% and both the S&P and Nasdaq declined 0.8%. Gold continues to show weakness as the dollar strengthens, hitting four-year lows and falling 1.8% on the week. Oil hit the lowest level in over a year with a 4.1% loss to close at $89.74 per barrel. The international Brent oil hit its lowest level in over two years to close at $92.82 per barrel. This is great news for gas prices.
Source: Yahoo Finance
The factors moving the market this week were much the same as the last few weeks: slowing economies abroad and an expensive stock market here at home.
The week started with jitters out of China as pro-democracy protestors flooded the streets in Hong Kong. This is important because Hong Kong is the biggest city in China for business, especially internationally. Weaker economic growth is already a worry in the country, so this only added to the concerns.
Europe, too, continues to show weakness. Because of that weakness, many were expecting the head of the European Central Bank (ECB) to announce an expansion in their stimulus program at a meeting this week. Unfortunately from them, he did not. The sell-off in the market early Thursday was the result.
As we’re seeing with Europe, far too often do we hear of lack of stimulus as the cause of poor economic growth. It completely ignores the fundamentals of that economy, where they have bad economic policies, too many regulations, restrictions on labor, high costs, etc. Stimulus may paper over the problems but the fundamental issues are not solved. We don’t see a fix in their economy until structural changes are implemented. Stimulus prevents this from happening.
As for the U.S., this week was full of economic data. The two main focuses of the Fed are on increasing inflation and employment, both of which had data released this week. With stock prices high and a potential reduction in stimulus looming, investors were paying close attention to these reports.
The inflation report released this week (the personal consumption expenditure, a more wonky inflation report), showed inflation running below their target. This indicated the Fed would be less likely to pull back on its stimulus. Worth noting, the report may have showed little inflation, but the food component showed the biggest annual gain in two years. Most people wouldn’t agree that there is no inflation.
The employment report for September was also released this week, coming in better than expected. We added 248,000 jobs and previous month’s figures were revised higher. Plus, the unemployment rate hit the lowest level since 2008, although this was due more to people leaving the labor force than conditions improving. Stocks rose strongly on this news, which was somewhat surprising since a solid employment picture would indicate less need for stimulus. Good news was actually good news.
Other economic data this week leaned to the negative side. Both the service and manufacturing sectors showed smaller increases from the previous month, while the gains in home prices slowed.
Next Week
Next week will be fairly busy. We won’t get a whole lot of economic data, but corporate earnings for the third quarter will start to roll in. There will also be several regional Fed presidents will be making speeches. There will be a lot of info to move markets, so it may be another active week.
Investment Strategy
Thursday looked like a good buying opportunity, at least for the short term. The market is still on edge as the Fed pulls back from its stimulus, but stocks may head higher in the short run.
High yield bonds continue to be a good leading indicator for the broader stock market. We’ve updated the chart below, with the black line representing high yield bonds and the orange line is the broader stock market. In the chart, this week you can see the bonds turning higher and stocks following. We’ll keep watching this indicator, but keep in mind that no indicator is perfect. Recently the market has moved on the words of central bankers, which are inherently unpredictable.
The week started with jitters out of China as pro-democracy protestors flooded the streets in Hong Kong. This is important because Hong Kong is the biggest city in China for business, especially internationally. Weaker economic growth is already a worry in the country, so this only added to the concerns.
Europe, too, continues to show weakness. Because of that weakness, many were expecting the head of the European Central Bank (ECB) to announce an expansion in their stimulus program at a meeting this week. Unfortunately from them, he did not. The sell-off in the market early Thursday was the result.
As we’re seeing with Europe, far too often do we hear of lack of stimulus as the cause of poor economic growth. It completely ignores the fundamentals of that economy, where they have bad economic policies, too many regulations, restrictions on labor, high costs, etc. Stimulus may paper over the problems but the fundamental issues are not solved. We don’t see a fix in their economy until structural changes are implemented. Stimulus prevents this from happening.
As for the U.S., this week was full of economic data. The two main focuses of the Fed are on increasing inflation and employment, both of which had data released this week. With stock prices high and a potential reduction in stimulus looming, investors were paying close attention to these reports.
The inflation report released this week (the personal consumption expenditure, a more wonky inflation report), showed inflation running below their target. This indicated the Fed would be less likely to pull back on its stimulus. Worth noting, the report may have showed little inflation, but the food component showed the biggest annual gain in two years. Most people wouldn’t agree that there is no inflation.
The employment report for September was also released this week, coming in better than expected. We added 248,000 jobs and previous month’s figures were revised higher. Plus, the unemployment rate hit the lowest level since 2008, although this was due more to people leaving the labor force than conditions improving. Stocks rose strongly on this news, which was somewhat surprising since a solid employment picture would indicate less need for stimulus. Good news was actually good news.
Other economic data this week leaned to the negative side. Both the service and manufacturing sectors showed smaller increases from the previous month, while the gains in home prices slowed.
Next Week
Next week will be fairly busy. We won’t get a whole lot of economic data, but corporate earnings for the third quarter will start to roll in. There will also be several regional Fed presidents will be making speeches. There will be a lot of info to move markets, so it may be another active week.
Investment Strategy
Thursday looked like a good buying opportunity, at least for the short term. The market is still on edge as the Fed pulls back from its stimulus, but stocks may head higher in the short run.
High yield bonds continue to be a good leading indicator for the broader stock market. We’ve updated the chart below, with the black line representing high yield bonds and the orange line is the broader stock market. In the chart, this week you can see the bonds turning higher and stocks following. We’ll keep watching this indicator, but keep in mind that no indicator is perfect. Recently the market has moved on the words of central bankers, which are inherently unpredictable.
While stocks may have some room to the upside in the short term, we have serious concerns for the longer run. Stocks and bonds appear overvalued from a longer term perspective, especially as our central bank cuts back on stimulus. Other central banks around the world are picking up the slack, but there is still reason for caution. Europe is a particular worry as they drift back into recession with record levels of overvalued debt. At some point we see this correcting in a painful way, but it is anyone’s guess as to when this will occur.
As for the bond market, bonds rose in price this week (so yields fell) as stocks sold off. A short position has not done well here (where your profit increases when prices fall) and may continue to do poorly if stocks fall further. However, a longer term perspective suggests bonds may fall as central banks increase rates. Floating rate bonds are also gaining popularity for this same reason, but they tend to be riskier, so caution is warranted.
European bonds look extremely expensive at the moment and also look like fantastic short opportunities.
Bonds to protect against inflation, or TIPs, remain a good long term hedge for inflation. They have not done well recently, but are intended to be a longer term investment. Some municipal bonds look attractive for the right client, but not as good as they did several months ago. 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 worries and falling once they are out of the headlines. It hasn’t fared well lately, but remains a good hedge for the long run.
We like other commodities for the long term, especially due to weaker currencies around the globe. This is a longer-term play, so buying on the dips may work with a longer time horizon.
Finally, in international stocks, we see weakness around the globe and favor neither the developed or emerging markets.
Please note, these day-to-day and week-to-week fluctuations have little impact on positions we intend to hold for several years or longer. Our short and medium term investments are the only positions affected by these daily and weekly fluctuations.
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.
As for the bond market, bonds rose in price this week (so yields fell) as stocks sold off. A short position has not done well here (where your profit increases when prices fall) and may continue to do poorly if stocks fall further. However, a longer term perspective suggests bonds may fall as central banks increase rates. Floating rate bonds are also gaining popularity for this same reason, but they tend to be riskier, so caution is warranted.
European bonds look extremely expensive at the moment and also look like fantastic short opportunities.
Bonds to protect against inflation, or TIPs, remain a good long term hedge for inflation. They have not done well recently, but are intended to be a longer term investment. Some municipal bonds look attractive for the right client, but not as good as they did several months ago. 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 worries and falling once they are out of the headlines. It hasn’t fared well lately, but remains a good hedge for the long run.
We like other commodities for the long term, especially due to weaker currencies around the globe. This is a longer-term play, so buying on the dips may work with a longer time horizon.
Finally, in international stocks, we see weakness around the globe and favor neither the developed or emerging markets.
Please note, these day-to-day and week-to-week fluctuations have little impact on positions we intend to hold for several years or longer. Our short and medium term investments are the only positions affected by these daily and weekly fluctuations.
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.
