Hi all,
We had a lousy September where we saw the S&P 500 fall 4.7% and the Nasdaq 100 fall 5.7% on the heels of worries about hyper-inflation, Chinese real estate developers defaulting on debt, rising interest rates, supply chain disruptions, and governmental dysfunction. Well, October has been a new month, and with it will likely come new all time closing highs for the Dow Jones Industrials, Dow Jones Transports, the S&P 500, and the Nasdaq 100. Most notable here is that NONE of the issues have been resolved, only pushed to the backburner of investor’s minds.
As we mentioned in our Q3 note to clients, “we expect most of these headwinds to resolve themselves in the next few weeks, which could set the stage for new all-time highs into year end.” We’ll try not to break our arms patting ourselves on the back with this one. The reasoning has been mostly due to the strong earnings being reported across almost all sectors of the economy. According to Factset, as of October 22nd, of the companies who have reported, 84% have shown earnings above estimates, which is above the five-year average of 76% (and the third highest percentage of any quarter in the last 10 years). All this tells us is that while there are headwinds to continued economic growth, corporations are extremely healthy.
For long time readers, you will know that when it comes to “timing” the markets, we prefer to use sentiment based analysis (fear and greed) rather than price based analysis (down 5% or 10% triggers). We do this because every dip or correction or bear market or recession have similar emotional characteristics by which sentiment deteriorates to a point where fear starts to become the primary emotion. Every cycle starts the same way; paralyzed by fear, but ends when we become blinded by greed. While the negativity of the market has certainly gone by the wayside, and some signs of greed have started to creep back into investor’s minds (crypto, return expectations), we believe this run can be sustained into year-end (albeit very possible with another small dip first before a stronger rally into year-end).
Something to always remember is that the U.S. stock market is up 20% or more in 34 of the past 95 years (since before the Great Depression). In that same time frame, it’s experienced a loss in 25 out of 95 years. So historically, you have been more likely to experience a 20% gain than any yearly loss in the S&P 500. This will be important to remember going forward as we continue to climb a wall of worry and the never before seen heights of the stock market continues to be tested.
So where do we go from here? There are still a couple pockets of underappreciated sectors in there current markets where we feel there is still opportunity to outperform and push markets to higher levels (biotech and emerging markets to name two). Don’t get caught up trying to tell yourself “we need a pullback” or “this can’t last”. The seduction of pessimism is always waiting in the back of intelligent investors’ minds, but having an optimistic outlook about the future is a major driver in achieving long-term competitive returns.
Sincerely,
Adam
P.S. We read quite a bit of research and market commentary each month, but we found one this month that is definitely in our behavioral investing wheelhouse from Josh Brown of Ritholtz Wealth Management. It’s called “The new Fear and Greed”. Please give it a read HERE if you have a few minutes. Understanding the ebb and flow of market emotion will serve investors better than an MBA ever could, in our opinion.