Monthly Outlook: August 2020
It was a good July for our investors, virus be damned. Stocks continued to rebound for a fourth month (remember the plunge in March) on hope and stimulus. The S&P500 is now back to positive for 2020, up 2.49% YTD. International stocks are following a similar pattern for 2020 (plunge and rebound) but are still down 2.69% YTD, unfortunately. Bonds are plugging along, doing what bonds normally do. The Barclays Aggregate Bond Index is up 7.9% YTD. Short-term bonds are only up 4.3% YTD. We can thank plunging interest rates for the strong bond returns (bond prices go up when interest rates go down). The 10-year US Treasury bond rate has dropped from 1.92% on January 1st to 0.53% today. Wow. Although bonds have done well YTD, it’s hard to fathom how they continue their run when interest rates are near 0%, but we’ll see. Lastly, it should be noted that Gold is up dramatically, up 30.3% YTD! We have had a meaningful position in gold since summer of 2019. The run in gold is surely in response to the massive printing of US Dollars by the Federal Reserve and the stimulus programs from Congress. A country simply cannot print money and not expect their currency to get devalued. Gold can’t be printed like Dollars.
Markets Have Bad Breadth
The market summary, above, really doesn’t address a key issue that has developed in markets. Although the S&P500 is up 2.49%, YTD, there is a bigger story beneath that headline. US Growth stocks are up 18.2% YTD while US Value stocks are down 12.9% YTD. A tale of two markets! Big Tech stocks are responsible for nearly all of the returns this year. Apple is up 45% YTD and Microsoft is up 31% YTD, for example. On the other hand, JP Morgan is down 29% YTD and ExxonMobil is down 37% YTD. It’s not simply a Growth vs. Value disparity either. Within Growth, the returns are highly concentrated in the 5 FAAMG stocks (Facebook, Apple, Amazon, Microsoft, and Google). These 5 stocks are so popular and overbought that they now comprise 23% of the whole S&P500 and 49% of the NASDAQ 100 Index. So goes FAAMG, goes the index now. We haven’t seen this kind of concentration or lack of (bad) breadth since 2000. Without these 5 stocks, the S&P500 returns would be negative YTD. The evenly weighted S&P500 index (where each stock is weighted 1/500th) is down 6.38% YTD.
Watch the QQQs for Clues
So, what’s the problem with bad breadth? Strong markets typically have broad appeal where most stocks are participating in the bull market. That’s not the case today. Today, the party is concentrated in a very narrow list of names (FAAMG) and this performance chasing has driven their prices and valuations to sky-high (and risky) levels. With US Value stocks already down-trending, we need to watch US Growth, especially the tech-heavy NASDAQ (ticker QQQ) for clues. It seems inevitable that the blow-off move in FAAMG stocks will correct at some point, and maybe soon. But so far, the momentum is intact and it’s too soon to sell US Growth. The last time we saw this combination of bad breadth with an overbought, overvalued Big Tech stock market was in 2000, and over the following two years the QQQs lost 83%. That’s not a prediction for today, but just a historical fact that should raise investors’ awareness of the kind of risk potential that we’re talking about here. I remember the summer of 2000 and no one thought that tech stocks would crash then, either.
Next 100 Days
The next 100 days are likely to be very interesting, and possibly volatile. The US election is now 93 days away. Coronavirus continues to run its course and we’ll have more related health and economic data to review. Will the US Growth stock bull market pull up US Value stocks or will it be the other way around? Will the Fed continue to print money and will Congress approve more stimulus? Was the March stock market plunge a precursor of things to come? Or is the recovery since March and the “V-recovery” the more accurate view? The point is, we seem to be at a tipping point in many ways with outcomes that could be very different. In this market, our iFolios strategy will stand out against hold-and-hope firms. Our intention is to remain hyper-vigilant, flexible with our portfolio allocations, and disciplined to our signals.