The market opened the week with a strong gain, only to trend lower thereafter. For the week, the Dow was slightly lower by 0.2%, the S&P was up 0.3%, and the Nasdaq fared the best with a 1.1% gain. Gold moved lower, off 2.0%. Oil prices were higher, gaining 1.8% to close at $47.67 per barrel. The international Brent oil, which is used in much of our gas here in the East, rose to $49.29.
Source: Google Finance
Before we get into the week, we should first note that it was exactly one year ago when the markets last reached new all-time highs. Over the past year stocks have seen very large swings and now stand about 4% below those highs of a year ago.
This volatile period is a stark contrast to the previous five years where the market rarely moved lower. Of course, those previous five years also saw unprecedented Fed involvement in boosting the market. They have since begun pulling back from these policies and it’s not a coincidence the market is volatile when the stimulus is pulled back.
As for the week, it was oddly similar to last week. Early on, we saw the Dow rising over 200 points, only for it to lose over 200 points the next day and trend lower thereafter. This week it was news from the Fed causing the volatility.
Minutes from the last Fed meeting were released and the tone was much different than many traders expected. The Fed’s discussions suggested an increase in interest rates at their next meeting in June is very possible.
Very few investors thought a June rate hike was possible. The CME puts out a handy tool which analyzes bond market data to determine the odds the market is giving to a Fed rate hike (LINK). On Monday, the odds of a June rate increase stood at 4%. Immediately after the release of the Fed minutes, the odds rose above 50%. The level has since moderated and now stands at 30%, but it is still a significant increase from the beginning of the week.
Low interest rates have helped the stock market rise, so stocks sold off as rate-hike odds increased.
Continuing with bonds, the behavior of the bond market was a big story this week. Bonds can be boring, but the bond market can be a very good leading indicator so stay with us here as this can be a little dry.
The yield curve is an important metric in the bond market, where a graph is drawn to show the relationship between Interest rates (yields) and maturities. Short term bonds generally pay a lower interest rate and longer term bonds pay a higher rate. This is shown graphically where the line slopes upward to the right.
Why is this important? Sometimes the slope of the line is flat or down (also referred to as inverted), which signals trouble is ahead. Shorter-term bonds have higher yields than longer-term ones. The yield curve is trending that way right now and is at its flattest level since 2007. We all remember how much the market fell shortly thereafter.
To see this visually, below is a chart showing the slope of the yield curve at present. Also are two other charts with inverted curves – sloping downward from left to right – which came right before market collapses.
This volatile period is a stark contrast to the previous five years where the market rarely moved lower. Of course, those previous five years also saw unprecedented Fed involvement in boosting the market. They have since begun pulling back from these policies and it’s not a coincidence the market is volatile when the stimulus is pulled back.
As for the week, it was oddly similar to last week. Early on, we saw the Dow rising over 200 points, only for it to lose over 200 points the next day and trend lower thereafter. This week it was news from the Fed causing the volatility.
Minutes from the last Fed meeting were released and the tone was much different than many traders expected. The Fed’s discussions suggested an increase in interest rates at their next meeting in June is very possible.
Very few investors thought a June rate hike was possible. The CME puts out a handy tool which analyzes bond market data to determine the odds the market is giving to a Fed rate hike (LINK). On Monday, the odds of a June rate increase stood at 4%. Immediately after the release of the Fed minutes, the odds rose above 50%. The level has since moderated and now stands at 30%, but it is still a significant increase from the beginning of the week.
Low interest rates have helped the stock market rise, so stocks sold off as rate-hike odds increased.
Continuing with bonds, the behavior of the bond market was a big story this week. Bonds can be boring, but the bond market can be a very good leading indicator so stay with us here as this can be a little dry.
The yield curve is an important metric in the bond market, where a graph is drawn to show the relationship between Interest rates (yields) and maturities. Short term bonds generally pay a lower interest rate and longer term bonds pay a higher rate. This is shown graphically where the line slopes upward to the right.
Why is this important? Sometimes the slope of the line is flat or down (also referred to as inverted), which signals trouble is ahead. Shorter-term bonds have higher yields than longer-term ones. The yield curve is trending that way right now and is at its flattest level since 2007. We all remember how much the market fell shortly thereafter.
To see this visually, below is a chart showing the slope of the yield curve at present. Also are two other charts with inverted curves – sloping downward from left to right – which came right before market collapses.
The bond market is important to keep an eye on. However, we believe the market is skewed due to the massive involvement of central banks printing money and buying bonds. This distorts the market, we just aren’t sure to what extent.
Next Week
Next week looks to be a little quieter. We’ll get economic data on housing, retail sales, and the revision to first quarter GDP. All economic data will be closely scrutinized now, with positive reports likely weighing on the market since it increases the chances of a Fed rate hike in June.
There will also be a handful of regional Fed presidents making speeches, plus Fed Chief Janet Yellen will be speaking on Friday. These always have the potential to move the market.
Investment Strategy
It looks to us like the stock market is at a slightly oversold level in the short-term and wouldn’t be surprised if stocks moved a little higher.
We are still cautious as the slightly-longer term trend looks to be lower. We’d need to see the market move much lower from here before putting any significant amount of new money in. Much of the direction of the market depends on economic data and the Fed, though, as a decision whether or not to raise rates will have more impact on the market than any other factor. This is inherently unpredictable.
We are very cautious on market in the longer-term, though. This could be a year or more out, though. The stimulus of the last several years masked many problems, causing a misallocation of resources and allowing bubbles to form. It also prevented necessary changes from occurring at both a corporate and political level. If the stimulus is ever forced to end, those flaws become more apparent. We’re now seeing lower corporate earnings, massive debt levels, poor economic growth, and potential for recession. This will weigh on the market at some point, but the question remains as to when.
Bond prices fell this week (so yields rose) as the odds of a Fed rate hike increased. However, bond yields are still within the range we’ve seen over the last three months and we don’t see any significant moves happening any time soon as demand will keep prices high and yields low.
Bonds to protect against inflation, or TIPs, remain a good long term hedge for inflation. Floating-rate bonds will do well if interest rates eventually 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 and a flight to safety.
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.
Next Week
Next week looks to be a little quieter. We’ll get economic data on housing, retail sales, and the revision to first quarter GDP. All economic data will be closely scrutinized now, with positive reports likely weighing on the market since it increases the chances of a Fed rate hike in June.
There will also be a handful of regional Fed presidents making speeches, plus Fed Chief Janet Yellen will be speaking on Friday. These always have the potential to move the market.
Investment Strategy
It looks to us like the stock market is at a slightly oversold level in the short-term and wouldn’t be surprised if stocks moved a little higher.
We are still cautious as the slightly-longer term trend looks to be lower. We’d need to see the market move much lower from here before putting any significant amount of new money in. Much of the direction of the market depends on economic data and the Fed, though, as a decision whether or not to raise rates will have more impact on the market than any other factor. This is inherently unpredictable.
We are very cautious on market in the longer-term, though. This could be a year or more out, though. The stimulus of the last several years masked many problems, causing a misallocation of resources and allowing bubbles to form. It also prevented necessary changes from occurring at both a corporate and political level. If the stimulus is ever forced to end, those flaws become more apparent. We’re now seeing lower corporate earnings, massive debt levels, poor economic growth, and potential for recession. This will weigh on the market at some point, but the question remains as to when.
Bond prices fell this week (so yields rose) as the odds of a Fed rate hike increased. However, bond yields are still within the range we’ve seen over the last three months and we don’t see any significant moves happening any time soon as demand will keep prices high and yields low.
Bonds to protect against inflation, or TIPs, remain a good long term hedge for inflation. Floating-rate bonds will do well if interest rates eventually 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 and a flight to safety.
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.
