C.J. Lawrence Weekly – February Redux?  Maybe Not.

The S&P 500 Index hit a new record high on January 20th of this year.  Then, within nine trading days of the new high, it lost over 10% of its value. Sparking the sell-off was the release of some “hot” economic data, which was expected to usher in higher inflation and higher interest rates, and growing concerns about the demise of the North American Free Trade Agreement (NAFTA).  During the nine-session decline, the U.S. 10-year Treasury bond yield climbed 23-basis points putting it up 42 basis points in just one month.  During the next month the 10-year yield settled down, increasing only 4 basis points.  Over that period, the S&P 500 Index recovered most of its lost ground, rising 8% from the February 8th low.  Stocks tested lows again in April before setting course to new highs in October.

A similar pattern has emerged during the past several weeks.  The S&P 500 Index hit a new all-time high on October 5, and on the same day the 10-year Treasury bond yield reached 3.23%, its highest level since 2011. The new highs in stock prices and rapid ascent in treasury yields were accompanied by domestic economic data that some inflation watchers viewed as incendiary.  At the same time, China-U.S. trade relations appeared to deteriorate to new lows.  The news flow, perceived as negative for stocks, was like a hot spark in a drought-stricken forest.  As in January, once the selling started, the algorithmic, systematic, and technical traders took charge and the intra-day moves were indiscriminate and dramatic.  The S&P 500 finished the week down 4.1%, after being down 5.5% through Thursday.

In the January downdraft defensive sectors like Consumer Staples, Utilities, and Telecom were relative outperformers.  Then, once the market found its footing, investors returned to growth sectors, with Technology leading the way until the most recent new high.  A similar pattern was observed last week with a rotation to defensive sectors during the downdraft, with a modest recovery on Thursday and Friday in growth sectors like Technology and Consumer Discretionary.  But what’s changed in the backdrop is the calculus on global growth.  The U.S.– China tariff and trade battle has cast a pall over the global synchronized economic growth scenario, encouraging the IMF to lower its forecast for global economic growth for this year and next, to 3.7% from 3.9%, and to express concerns about capital flight from emerging markets.  Adding to the pressure on the global growth leg of the stool was the German government’s negative 2018 GDP forecast revision from 2.3% to 1.8%.  The shifts in sentiment and economic forecasts are likely to spur continued stock price volatility and periodic flights to safety.  But previous cycles have shown us that flights to safety eventually shift to flights to quality, and that market leadership narrows.  Finding stocks and groups that can grow sales and earnings in excess of market rates becomes paramount for managers and investors seeking to outperform.  Its time again to water the flowers and cut the dandelions.

S&P 500 Index vs U.S. 10-Year Bond Yield | Source: FactSet Data

S&P 500 Index vs U.S. 10-Year Bond Yield | Source: FactSet Data


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