5-Minute Market Update | January 3, 2017
Equities: Broad equity markets finished mostly negative in the final week of 2016 with the only gains in international equities. All S&P 500 sectors finished the week negative while defensive sectors generally outperformed cyclical sectors.
Energy, financials, and telecommunications were the strongest performers in 2016 while healthcare was the only sector with negative performance.
Commodities: Commodities were positive for the week as oil prices increased 1.32%. Oil prices ended the year up 45.03% as prices seem to have stabilized from the drops experienced in 2014 & 2015. Gold gained 1.60%, snapping a seven-week losing streak. Gold finished 2016 with an 8.46% gain.
Bonds: The 10-year treasury yield decreased from 2.55% to 2.45%, leading to positive performance in treasury and aggregate bonds. This is only the second week since the election that rates have fallen, though the 10-year treasury yield remains about 30% higher than pre-election levels.
High yield bonds were slightly negative as the losses experienced in riskier assets negated the positive effects of broad interest rate declines.
All indices finished 2016 positive, with small-cap stocks leading the way.
Lesson to be learned: Benjamin Graham once said The individual investor should act consistently as an investor and not as a speculator. Nobody can predict the future, but it can be difficult to avoid the urge of speculating about hot market topics. Markets often act in ways that are unforeseen which is why it is important to maintain a smart and disciplined investment strategy while avoiding knee-jerk reactions based on daily market noise.
FormulaFolios has two simple indicators we share that help you see how the economy is doing (we call this the Recession Probability Index, or RPI), as well as if the US Stock Market is strong (bull) or weak (bear).
In a nutshell, we want the RPI to be low on the scale of 1 to 100. For the US Equity Bull/Bear indicator, we want it to read least 67% bullish. When those two things occur, our research shows market performance is strongest and least volatile.
The Recession Probability Index (RPI) has a current reading of 25.44, forecasting further economic growth and not warning of a recession at this time. The Bull/Bear indicator is currently 100% bullish. This means our models believe there is a slightly higher than average likelihood of stock market increases in the near term (within the next 18 months).
Weekly Comments & Charts
The S&P 500 closed negative in the final week of trading for 2016, but remains well above the support level that was set following the breakout in July. Prior to the presidential election, the S&P 500 had closed negative in four of five weeks, but the market has rebounded sharply and has reached new all time highs multiple times in recent weeks. With the recent momentum and upward price pressure, it appears that US equity markets are currently in an intermediate-term upward trend. The coming weeks should continue to give valuable insight about the near-term direction of the S&P 500, but it seems the sideways/downward pattern experienced since mid-2015 has shifted to a more bullish pattern for now.
Now that 2016 is in the rear-view mirror, what can we take away from the past year going into 2017?
2016 started with a bang, albeit not a positive one, as the US stock markets were off to the worst start in recorded history. Midway through February the S&P 500 was down over 10%, small-cap stocks were down almost 16%, and oil continued to plunge losing over 29%. Safe-haven asset classes such as gold (+17%) and 10-year treasury bonds (+5.7%) were significantly positive as it appeared the year was pointing towards significant losses for equities, but then the markets started to shift.
Equity markets experienced a strong rebound from mid-February through mid-June as the S&P 500 gained 16% and small-cap stocks gained 23%. Even with this market shift, safe-haven asset classes continued to experience gains (though not at the same pace experienced earlier in the year). It seemed that the markets had settled into a nice trend until June 23, when the UK voted to leave the European Union.
Following the Brexit vote, volatility hit the stock markets as US equities fell between 4% 7% over the next two trading days, only to rebound and recoup the losses two weeks later. Though US stocks rebounded quickly, the added market uncertainty from Brexit helped gold gain over 8% and 10-year treasury bonds gain 3% between June 24 and July 8. Many investors expected a continuation of the recent stock market volatility, but then the markets shifted again.
Between early July and early September, the S&P 500 experienced the narrowest trading range in history, dating back to 1928. During this two-month time period, there was a 59-day streak in which the S&P 500 had no daily moves of 1% or more. Safe-haven assets experienced some slight losses as investors shook-off the Brexit jitters, but remained largely positive for the year. The summer months were mostly uneventful, but then focus turned toward the election.
Stocks, bonds, and gold remained mostly flat in the months prior the election, as a majority of investors expected Clinton to win. During election night on November 8, when it became apparent Trump would be the next US President, US stock futures were trading down 5% from the previous close as markets began to panic. Again, it appeared the stock markets were poised for a significant downturn, until the markets experienced a complete shift. US stocks finished the day following the election positive and went on a strong run to end the year. As stocks soared to new all-time highs, interest rates began to rise, causing bonds to experience losses.
All-in-all, US stocks experienced strong returns while bonds trailed well behind by year-end. However, the final numbers do not tell the whole story of what happened to the markets in 2016. There were numerous times when bonds were outperforming and it appeared that stocks were poised for a major correction. The past year showed why it is important to stay focused on long-term investment objectives. 2016 was a perfect example of how unpredictable and unstable markets can be, and how devastating it can be to make knee-jerk decisions based on short-term news and market movements. Had an investor panicked and sold after the stock markets were down sharply in early February or immediately following the Brexit, they would have missed the gains experienced shortly after. Emotions and panic can cause investors to make poor decisions at the most inopportune times, which is why it is imperative to stay committed to a smart investment strategy over the long-run. By maintaining a non-biased, emotion-free, consistent investment philosophy, long-term success is more likely to be achieved regardless of short-term market conditions.
While market trends and history are useful for study, theres always more to investing than just the charts and trends.
More to come soon. Stay tuned.
Derek Prusa, CFA, CFP®
Senior Market Analyst