Happy Monday. Summer is moving fast! Hope you made the most of it last weekend. Now less than 7 weeks until Labor Day!
Surprise! The U.S. stock market (S&P 500) had a loss last week. Though the S&P hit yet another new high to start the week, it drifted lower into week’s end, and prices are starting off the new week lower, too. About the only asset classes higher last week were bonds (Aggregate Index), emerging markets, and commodities. A loss last week also snapped the longest weekly winning streak for the Nasdaq 100 since May 2019.
Speaking of new highs though, the S&P has hit 39 of them this year so far. According to Bespoke Investments, this would rank as the 12th best year for number of new highs since World War II. At this point, given the current pace, it could be the 2nd best year for new highs as we’re on pace for 72 new highs. In 1995, there were 77 new highs for the S&P 500.
Short-term though, it would seem reasonable to see price action sputter and volatility to increase. It’s summertime, and this is often the case. Lower trading volumes make the market easier to push around and the seasonal factors also suggest below-average returns. Given the solid performance of the market already this year – with its above-average gains with below-average volatility – it would be natural and normal for the market to lose some short-term momentum.
This could be the case even though overall earnings reports are expected to be stellar for the second quarter over the coming weeks with profit growth estimated at over 60% year-over-year for the quarter, according to FactSet. That would be the biggest quarterly profit increase since 2009. Earnings expectations for this quarter are partly exaggerated due to the fact that Q2 2020 had such bad earnings reports due to the peak of the pandemic. These earnings comparisons may not be as out of place as they seem with longer-term comparisons.
The top headline concerns for many investors are the rise in recent inflation numbers and the resurgence of COVID cases. In the case of the former though, the market mostly appears to be siding with the Fed’s views that it’s mostly temporary/transitory factors causing the uptick and inflation pressures should subside. In the case of the latter, the COVID news is disheartening, but the odds of economic lockdowns at this point seem slim.
Let’s riff a bit more on the big inflation numbers last week, as they created some snazzy headlines. The headline Consumer Price Index in June, for instance, increased +0.9% MoM in June vs. +0.5% consensus. This brought the year-over-year pace to +5.4% vs. +5.0% May and +4.9% anticipated. Core-CPI also outpaced expectations at +0.9% MoM vs. +0.4% forecast and +0.7% prior. The yearly pace jumped to +4.5% vs. +3.8% prior and +4.0% expected. For context, this is the highest headline YoY since July 2008, highest core YoY since Sep 1991. It should be noted that used autos accounted for a third of the gain, according to CNBC.
Despite the inflation data, bond yields have been very well behaved. Ten-year Treasury bond yields, for instance, moved from 1.37% to 1.31% last week. (They are at 1.22% of this writing though). This is not normally expected behavior from bonds given the current economic backdrop. As noted by the investment firm Marketfield:
As for inflation, this continues to run far ahead of expectations, with the Citigroup Inflation Surprise index hitting an all‐time high at 72.9 in June (data starts in 1998), reflecting the degree to which forecasters have underestimated the speed and strength of the price rebound. However, this has had no effect on the bond market, which continues to view the breakout as a temporary phenomenon rather than a sign that things may be changing over the longer term. We can understand the dismissal of esoteric price surges in categories such as Used Car Prices in CPI (responsible for a remarkable 1.4% of headline CPI over the last 12 months), or the “reopening effect” on some leisure prices, but the overall inflationary effect looks to be much broader than this, and the decline in bond yields increasingly out of step with economic reality. To put this in perspective, it now takes almost exactly 4 years for the current 10‐ year treasury coupon to compensate for one year of current CPI, a ratio that we have never come close to seeing in over 50 years of data. The spread between the 10 year yield and Core CPI is almost as impressive at ‐300 bp, a level only seen before during the 1973/4 energy shock and the surge of inflation in early 1980.
Again, about 1/3 of the increase in core CPI is related to a hike in used car prices. We have had the largest monthly increase for the used car and trucks index, which was first published in January 1953. This speaks further to the idea that although the Core CPI figures were dramatic, it may still be telling a story of transitory inflation.
Probably a bit more of a concern is that while the overall market might be near all-time highs, the average stock has clearly underperformed over the last month. According to Morgan Stanley, on a rolling one-month basis, breadth is extremely poor: only 30% of the constituents have outperformed the SPX over the last month, which is near all-time lows.
As reported last week as well, it has been a busy year for ETF launches, according to the Financial Times and CFRA research. 200 ETFs were launched in the US during the first half of 2021, up from 131 during the same period last year and 100 between January and June 2019. The 2021 figures include mutual funds from Dimensional Fund Advisors (DFA) that were converted into ETFs. This is notable, because DFA once took a hard stance against the idea of ETFs.
With so much new investor interest and demand, here is more ammo for why investors need advisors and professional money management. Again, from the “grumpy German” on his daily blog: No, retail traders aren't the smart money As Joachim Klement concludes his short comment: “So, can we please lay the argument that retail investors are a force to be reckoned with in markets to rest? Retail investors really are the patsies in the market, and the Robinhood crowd doesn’t even realize it.”
And even more “the value of advice” from the best BeFi (behavioral finance) voice in the business @DanielCrosby. I would encourage following him on Twitter.
The next episode of Orion’s Weighing Machine released this week will be with repeat guest Sal Gilbertie of Teucrium Investments. Sal is fascinating in several ways. Check out his views on how to potentially diversify portfolios (our favorite topic), including agricultural commodities and crypto.
For more resources on the economy and markets, including partner content, please review the OPS Financial Advisor Success Hub.
As always, please let me know if you have any feedback or questions: rusty@orion.com. You can also reach out to benjamin.vaske@orion.com.
Have a great week!
2049-OPS-7/19/2021
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