Around my house, we’re starting to get ready–although very slowly–for the return to school for our kids. We love summer, so it’s a bit sad that it’s coming to a close. But, autumn is becoming my favorite season, since we’ll get a break from the heat and humidity and, with any luck, I’ll get to see some college football.
Usually, when Labor Day rolls around, the stock market is at about the same level as it was on Memorial Day. This year, though, is anything but normal (there was a hurricane in Iowa!?), so we can set aside usual market patterns. It’s been an amazing year for stocks, with most of them suffering a terrible first quarter before rebounding sharply since then. As I write this on August 18, the S&P 500 index is very near an all-time high. This doesn’t seem to make sense, with the economy clearly not firing on all cylinders.
It’s important to remember that the stock market is a leading indicator of the economy, with investors putting their money where they think we are headed, not where we are right now. Obviously, investors think the economy will be healing soon.
There’s more to the story than that, though. Central banks all over the world, including our own Federal Reserve, have flooded the markets with liquidity in an effort to keep the financial infrastructure of our economy running at full throttle. I think that’s what explains how stocks, bonds, gold, and real estate prices have all risen over the past quarter. Ordinarily, without all of the liquidity being added, I would expect bonds and gold to fall when stocks rise, and vice-versa. But I think that all of that money being added to the system is chasing after a limited number of assets, causing (nearly) all prices to rise. It’s supply and demand.
While the market-cap weighted index of the largest U.S. stocks is near a record high (the S&P 500), the equal-cap weighted index is still down about 4% for the year. This tells us that the rebound in the market is being led by a small number of the very largest stocks. If you didn’t own that small list of stocks (the big technology stocks, for example), you may not have seen your portfolio rebound as quickly. That’s okay, though…that means that if the economy continues to move forward, the rest of those stocks could play catch-up.
Going forward, I would expect stocks to continue to be good investments. We are being cautious right now, though, preferring to add new money into stocks on a pullback. With ever-changing news about COVID and an election coming up, the odds of a pullback seem pretty high. There’s plenty of uncertainty out there, so we’re not willing to chase stocks now.
Bonds, especially corporates (as opposed to government-issued), in my opinion look attractive. The Federal Reserve has been buying corporate bonds to provide even more support for the markets, which gives corporate bonds a sort of “safety net.” Of course, the Fed could stop buying at any point, and the bonds that are issued are only as strong as the company backing them, so you do have to be careful. Lower-rated bonds have enjoyed a great rally from their lows, so we’re less likely to be investing in those for our clients now.
Our favorite areas of the stock market continue to be technology and consumer discretionary. Many industrial sector stocks look interesting too. While there are great opportunities in energy (oil and gas), we are not ready to move back in there, yet. The same is true for basic materials stocks. We’re also underweighting utilities.
Like a hurricane in Iowa, the possibility for the unexpected is always out there. We’re busy evaluating lots of investment options for different scenarios (including the election), making preparations before the storm hits. If you have any questions regarding your portfolio’s preparedness, please give your financial advisor a call, or you can respond to this email.
I hope you enjoy the rest of your summer, and that you stay well and avoid the coronavirus.