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“There are far better things ahead than any we leave behind.” – C.S. Lewis”

Hi all,

As I write this post, the Nasdaq is down about 5% for the year, the Russell 2000 (small businesses) is down about 7% for the year, and the S&P 500 is down 2%.  Traditionally, after a 20%+ year for the S&P 500, weakness in the first few months is to be expected.  Also, post-election years tend to be weak at the beginning as well.

As was the case in 2024, we saw an 8% decline from all-time highs in mid-March 2024 until late April of that year.  For the moment, we view the current state of affairs in much the same way.

But Adam, haven’t you seen the tariffs, and the unprecedented political unrest!

Of course, I have.  There’s always a new REASON why the outlook starts to sour, and some of these shakeouts turn into larger problems, but trying to predict or front-run the specific falling of dominoes among countless variables just doesn’t feel possible (or smart, for that matter).

I’d rather just wait on the sidelines until all this gets figured out.

I know.  You and everyone else.  In the latest survey of the American Association of Individual Investors (AAII), we saw the fourth most bearish reading in the last 30+ years.  The other three readings?  October 2008, March 2009, and September 2022.  In the general vicinity of major market low points (best times to buy).

But in today’s case, we’re only a couple percentage points off all-time highs.  The S&P 500 made a new all-time high 13 days ago.  How did we get from all-time highs to bear market bottom sentiment?  Some people point to the fact that the survey is outdated, no longer representative of stock market positioning, etc.  They may be correct, but my research includes many different data points, and this has always just been one piece of the puzzle.  The other pieces are not flashing anywhere near the bearishness we see from the AAII survey, but that’s also changing as the market continues to struggle.

Something more interesting is that last week when the S&P 500 was only 2% off it’s all-time high, 60% of the stocks in the index were down 10% or more from their respective 52-week highs, and 33% of them were down 20% or more.  As the kids would say, “Index investing, for the win.”

We never know where the money will rotate, but we do know that people will look elsewhere when growth stock momentum starts to weaken.  Who would have thought that European stocks would be up almost 9% while the S&P struggles to tread water?  No one.  That’s why we’ve stuck with geographic diversification.

“And why is investing in stocks a good way to do this? Well, because every day, hundreds of millions of people wake up, go to work, and produce goods and services at companies.  Ultimately, by being an owner in those companies, you’ll get paid for their efforts via dividends and earnings growth.  It’s like riding capitalism’s coattails.” That’s from Eric Balchunas, author of The Bogle Effect.

Don’t get short-sighted on the opportunity the market is giving us, and learn to embrace the short-term uncertainty.   We think we’ve got more downside to go, but perhaps not too much more.  We will be prepared when it’s time to capitalize again (just as we did in late 2022, March 2020 and December of 2018).

Turn off the TV.  Go to a restaurant on a Saturday night, or talk to a small business owner.  Use more of your eyes than your ears in times like these.

Talk soon,

Adam

 

Hi all,

As you know, we’ve been cautious the last several months (especially on large cap companies) as the equity market valuations have kept us from committing some capital with relative confidence.  Hearkening back to November’s post, we wrote:

“This is not to say that the economy or the stock market is going to crash, but trees don’t grow to the sky.  It’s often the car you don’t see that causes the accident, and we continue to believe that caution in adding additional capital to equities (large cap equities specifically) at nosebleed valuations is warranted.”

We now know the “cars”:  Last week it was Deepseek, this week it’s tariffs.

One unsubstantiated media report led to the largest one day decline in terms of market cap ever in US history (Nvidia lost roughly $600B on Monday).  I am not an artificial intelligence expert, nor do I play one on TV, but the short story is that an AI firm out of China has claimed to duplicate the computational prowess of some of the fastest growing and largest US technology firms for a tiny fraction of the cost.

I have no idea if this is true.  You have no idea if this is true.  But the takeaway from this week’s decline in the stock market SHOULD be that when you build in positive assumption on top of positive assumption, you leave yourself open to a small negative possibility causing an out sized amount of pain to your portfolio.  It’s just a poor risk/reward trade.

If you are someone who wants to parse through how this potential cost-cutting technology could be revolutionary for how much spending the large technology firms won’t have to make in the future, or who the winners and losers could be in a global trade war, go ahead.  It’s a fool’s errand.  Think more about what this DOESN’T change.  The future needs for cybersecurity.  The potential applications for the future of individualized healthcare.  The ability for firms who couldn’t commit the amount of money needed to play in cutting edge technologies, now being able to implement cost savings measures in their own businesses.

Now let’s look at a few charts (my favorite) to see where we are to start 2025.

1. The NYSE Advance-Decline Line Divergence

The S&P 500 made a new all-time high in price on January 22nd, but the numbers of stocks inside the S&P 500 has not confirmed that high in price.  We had a similar divergence in November of last year that rectified itself by the advance-decline line making a new high late in the month, so that’s not to say that all divergences lead to declines, but most declines start with these types of divergences.  Something to keep a very close eye on.

2. Some rationality in valuation is a positive for this market.

Last year’s winners have started 2025 by coming back to the pack a bit.  The only sector down this year (I know it’s early) is technology.  This broadening out of the stock market is generally a net positive (unless you’re overextended in technology and semiconductors).  We see this broadening as an opportunity to continue to build positions in client portfolios in the unloved sectors from the last several years (healthcare, real estate, energy), and we will likely overweight small or mid-caps over large and value over growth.

3. Post-Election Years

While pre-election years have been the best performers over the past 75 years, a new trend has emerged in the last 40 years, with post-election years being the largest gainers.  Over the past 10 cycles, 9 out of 10 have been higher, with an average gain of 18.1% per year.  Since the market has a bullish bias anyway (stocks DO go up over time), you can always torture the data into saying what you want, but it’s certainly on the positive side of the ledger for 2025.

The net effect of all of this is that fear and uncertainty have entered the stock market in a big way to start 2025.  Most see this as a negative, but a broadening out of the bull market should simply be seen as new leaders taking the baton.  Don’t make the mistake of thinking yesterday’s winners will be tomorrow’s darlings, too.

– Adam

Hi all,

Wednesday, December 18th, was the largest one-day drop for the S&P 500 (-2.95%) on a Federal Reserve rate decision day…ever.  This month has been the third worst month for the equal-weight S&P vs. the cap-weighted S&P since 1990.  March 2020 and June 2000 were the other two (not great).

The precedent that keeps popping up in my historical research to the current time period is 1972.  August of 1972 saw the S&P 500 within 1% of an all-time high, while less than 40% of the stocks that make up the index are above their 50-day moving averages.  Over the coming months, the S&P 500 rallied to new all-time highs, but then ushered in a brutal bear market as the Nifty Fifty craze came to its inevitable end.  Here’s a few reasons why we remain very cautious in the first half of 2025.

1. Future returns from these valuations haven’t had the greatest luck over the next 10 years.  As you can see from the chart below, when starting from these levels, subsequent 10-year returns look a lot like going sideways for a decade.

2. Concentration of the S&P 500 continues to get worse.  The top 10 stocks in the S&P 500 now represent almost 40% of the index.  By itself, this isn’t a problem, but should those companies start to disappoint in terms of earnings expectations, the changing of the winds could be fast and impressive.

3. Sentiment is bullish and has remained bullish throughout the entire year.  From Jason Goepfert at Bespoke, “This will go down as a year with among the most bullish sentiment since the 1987 inception of the AAII survey.  The only two years with more consistent optimism were 1995 and 1999.”  This continues to cause us pause.

4. According to Bank of America, fund managers’ enthusiasm for stocks has hit extreme levels, with cash allocations also falling to the lowest in the last 25 years.

All of these charts aren’t meant to frighten anyone, but more to say, now is not the time to be jumping into equities with both feet.  Defense remains our posture until something changes (could be the FED changes its tune, could be valuations simply come back in line, or it could be something as simple as we go sideways while earnings catch up to expectations).

The Russell 2000 is already 11% off its all-time high, so we’re taking some air out of this balloon already, we just feel a little more patience is warranted.

Happy New Year!

– Adam

 

“The post-election landscape euphoria is being driven by hopes for deregulation, government spending cuts, the extension of the Trump tax cuts, and a focus on technological innovation.  This will turbocharge the US economy more powerfully than during the Reagan Revolution of the 1980s.”

Those are the words of Cathie Wood, famed (infamous?) money manager and portfolio manager of the ARK Innovation ETF, among others.  Color me skeptical.

To start, it’s possible these things may be true.  I would love nothing more than the United States to be more competitive in the global landscape, to be more energy independent in the true sense of the phrase, and to be the vision of that shining city on a hill.  I put this likelihood around 30%.  I think a lot of American consumption depends on consumer confidence.  And to that end, the consumer should, on the margin, feel like things are getting better instead of worse.  But this tends to happen every time a change in administration occurs, and one needs to look no further than the last two presidential elections to see the market optimism following the results.

The more likely scenario is that the market is on a bit of a sugar high.  We have some positive seasonality and as Callie Cox writes, November, on average, is the best month of the year (election or no election).

In our opinion, much of the potential major benefits of the policy changes are already priced into the market.  Ben Graham said it best, “today’s investor is so concerned with anticipating the future that he is already paying handsomely for it in advance.  Thus what he has projected with so much study and care may actually happen and still not bring him any profit.”  The stereotypical “buy the rumor, sell the news”.  Combine that with our starting point of 23x earnings for the S&P 500, instead of 16.5x earnings in 2016, my guess is that the rally may not “stick” this time.

This is all not to say that the economy or the stock market is going to crash, but trees don’t grow to the sky.  It’s often the car you don’t see that causes the accident, and we continue to believe that caution in adding additional capital to equities (large cap equities specifically) at nosebleed valuations is warranted.

Happy Thanksgiving!

– Adam

 

Hi all,

As we approach Halloween, we find all three major U.S. equity markets at or near all-time highs.  The S&P 500 has made almost 50 new daily all-time highs this year, and the lack of traditional periods of annual volatility have left cautious investors in the dust.  But if you’re still sitting on cash or waiting for a better time to enter the markets, do not chase this market.  We believe the opportunity for a better entry will come soon.

The stock market is currently pricing in more than a few rosy assumptions and to be perfectly honest, it’s possible they all work out like everyone thinks.  In my experience, one of the dominoes tends to fall a little sideways and the market changes those assumptions very quickly.  There is nothing more dangerous than a market that changes its mind.

Let’s check out a few of these assumptions.

1. Bond spreads between investment grade and high-yield bonds are at their smallest margin since 2005.  This means people have been buying the debt of riskier companies, under the assumption of little-to-no default risk.

2. This is the strongest Year-To-Date performance of the S&P 500 this century.  While it’s true that strength begets strength, it’s rarely in this straight of a line.

3. Earnings expectations are pretty lofty.  At these price levels, the market is expecting about 20% earnings growth over the next year.  While it’s certainly possible, if companies were to fall short, the market could correct very quickly.

4. Investor Sentiment is frothy, but not yet crazy.  CNN’s Fear and Greed Index just recently reached into Extreme Greed territory, and per Bespoke, the spread between Bulls and Bears are back to 2005 levels.

Generally, in times like these, it’s always better to be reactive rather than proactive, but I am willing to say with a high likelihood, if there are distributions from accounts that need to be made over the next 6-12 months, or you’re simply looking to get more conservative and lock in gains for 2024 as your wait out the results of the election, now is the time to trim a little off the top and reload the cash pile to prepare for the next, better opportunity.

– Adam

We’re going to change it up a bit this month, but I’ve been thinking for a bit about where we’ve been and where we’re going as a firm, so here we go.

For those of you who don’t know me, my name is Adam Weingartner and I am co-owner of Second Level Capital along with my business partner, Brad Webb.  18 years ago, I graduated from Truman State University and immediately got a job at a local bank.  At the ripe old age of 22, I vividly remember sitting at my desk at 4:45 counting the seconds until the day ended, wondering why I decided to go to college to help people open Christmas Club savings accounts.

Knowing this was unsustainable, I interviewed at a small brokerage company in Clayton, which focused on tax-advantaged alternative investments in real estate and energy outside of the traditional stock and bond world.  I was only asked one question during my interview.  “Why do you want a job here, if you already have a job?”  I replied, “I’m bored.”  My future boss replied, “Well, I can promise you will never be bored here,” and in November of 2006, I started my career in the personal finance business.

He was right.  The ensuing years during the Great Financial Crisis was a baptism-by-fire education in which I learned more each week than I did during my four years of college. Regardless of what anyone says, every advisor is a by-product of the market in which they grew up.  Gen X advisors today will be wary of another tech bubble.  Older advisors will see the ghost of 1987 around every corner.  The pain of clients during this period has been burned into my brain and has directly led to doing all we can to avoid those situations again.  It is still the primary objective of our business today.  Risk first.

At first, I loved the idea of doing something different.  I couldn’t acquire knowledge fast enough.  It was intellectually stimulating for me and seductive for clients who wanted to be involved in the ground floor of new and exciting ventures filled with profitable possibilities.  For the first six years of my career, I read hundreds of books, went to dozens of conferences, spoke on panels next to billion dollar institutional money managers and reviewed more investment projects than I can remember.  It felt like I was playing in the right sandbox, rubbing elbows with TV personalities and colleagues I respected immensely.

In 2012, as the stock market was approaching the all-time highs last seen in 2007, it was clear to me that the traditional stock and bond world would survive, the financial system wasn’t going to completely collapse, and the US was entering a longer period of sustained growth.  As the original intent of the brokerage company for which I worked was to be a complement to high-net worth investors traditional portfolios, I hatched an idea to develop a new division of the company that focused on our deepening our existing relationships by offering traditional investment advice along with our suite of alternative options.

The most surprising aspect of those first years running a traditional money management business was how much pride I took in knowing as much as I could about each family we served.  Learning communication styles. Knowing when to ask for advice, but also which parts of the plan were non-negotiable.  It’s still my favorite part of the business, and it’s why we’ve deliberately turned down business to stay small and nimble.  Sometimes it makes me think of the mission statement from the movie Jerry Maguire. Fewer Clients, Less Money.

For most of the next six years, I ran this division of the company on my own.  My bet that the stock market would be a great place turned out to be prescient.  From the start of 2012 until we left the firm in 2018, the S&P 500 returned 120% (not including dividends), while the publicly-traded real estate index returned 40% over that same time frame.  Couple this with the decreasing costs of owning stocks (commissions went to zero), and the stagnant nature of commissions on the brokerage side (around 10%, up-front), it felt like the old model was already under so much regulatory and price pressure that even if it survived, it would be a shell of what it once was.  Real estate firms were already redesigning products for fee-based accounts, and in the middle of 2018 it just felt like it was the right time to make the jump with both feet.  

While we were certainly having second thoughts after having taken significant pay cuts to spin-off our own venture and seeing the stock market fall 20% in the fourth quarter of 2018, it’s the best decision we’ve ever made.  Every choice we make today is designed to grow our business intelligently, optimize our time for those of you who have entrusted us with your financial livelihood and design portfolios that will work for you both financially and behaviorally.

If you’re someone who’s been procrastinating getting started, you’re someone who’s financial advisor only calls to remind you to contribute more money once a year, or you’re an existing client who knows someone who could use some help, we’d love it if you gave us an opportunity to see if we might be a fit.

Thank You,

Adam

“There are two kinds of forecasters; those who don’t know, and those who don’t know they don’t know” – John Kenneth Galbraith

Hi everybody,

With valuations in large cap tech companies reaching nosebleed levels over the summer, and the fervor over Nvidia and the Magnificent 7, in mid-July something happened that has never happened in the history of the stock market.  At the first sight of a tech pullback, the largest and quickest rotation of money moved out of those names into the value-heavy Russell 2000, pushing it more than 4 standard deviations above it’s 50-day moving average (see chart below from Bespoke).

Whenever something happens for the FIRST time in markets, it catches my attention.  Combined with stock allocations at an all-time high as a percentage of financial assets, I think we can be comfortable saying that most investors were “all-in”.  (see below)

Well, you can guess what happened next.  Whenever extreme greed enters the picture, the market has an uncanny ability to humble.  From July 17th to August 5th, the Russell 2000 fell 13.2% from peak to trough, punishing late comers to a market rotation that started in October of 2023, but stalled during the first half of 2024.

Those who got smacked on the nose, quickly reversed course during the recent decline, but the market popped back quickly and has already recovered more than 50% of the decline.  So the psychology of investors is now a little more skittish than it was when everyone thought they were a genius.  As a gentle reminder…

August and September are generally weaker months (the first half of October as well).  We are viewing the recent selloff as a precursor to another sell-off in the next few weeks, and during that period of time, we are looking to rebalance away from short-term money markets and large cap technology into more of the “value” type sectors.

If you’re sitting on cash on the sidelines, patience will be paramount, but we DO believe there will be an opportunity in the coming weeks to put that cash to work at better prices.  We don’t feel this pullback will derail the bull market, but unfortunately like Walter Deemer says, “when the time comes to buy, you won’t want to.”

Kids are finally back in school.  There is a God.

– Adam

“I beseech you, in the bowels of Christ, think it possible that you may be mistaken.” – Oliver Cromwell

Hi all,

There has certainly been a change in tone in the stock market over the last three weeks and for the first time in quite awhile, some things that didn’t matter, now do.

1. Top Heavy Concentration of the S&P 500.

2. With everything nearing all-time highs, why do the negative vibes persist? Adjusted for inflation, households haven’t seen much change in their overall net worth.

3. Valuations are stretched.

4. Sentiment has gotten frothy and investors gone “all-in”.

5. Housing is finally starting to come back to earth (in some places).

Long time readers will know that we’ve been expecting the market to “come to its senses” since October of last year.  We saw a rotation into small cap companies during Q4 of 2023, and have maintained our small cap bias, but the small caps have lagged substantially against the flavors of the month (semiconductors, large cap technology companies, AI darlings).  I can’t tell you how many times someone has called the office wanting to ditch diversification because momentum stocks were the only game in town.

Well, in July alone, the Russell 2000 is up 11%, while the tech heavy Nasdaq 100 is down 3.5%, with still a week to go.  If you want to try and sell all your tech stocks and move into unloved names (real estate, utilities, energy, GASP!), be my guest.  But you might end up chasing your tail.  We feel the most prudent course of action is to simply view this pullback as serious, but one that needs to occur in order for rationality (and fear) to come back into the stock market. August is generally a weaker month, so we could be in for a few more surprises along the way, but regardless of where this pullback stops, we will likely view it as a buyable dip as long as the bias of the federal reserve remains toward cutting interest rates this year.

Buckle up, and please keep your hands and feet inside the ride at all times.  Try to remember that the S&P 500 is up 56% over the past 20 months.  What we’re going through now is normal, the speed and magnitude of the gains over the last several years wasn’t.

– Adam

Hi all,

This month’s post is simply an excerpt from a memo that was written in March of 2000.  I urge every one of you to read Walter Deemer’s report in its entirety (link is below).  Swapping out ‘Cisco’ for a name like ‘NVIDIA’ could provide a little perspective about today’s market and should serve as a great reminder to always stay prepared for what might happen next.

– Adam

Walter Deemer’s Special Report — March 3, 2000

ARROGANCE 

As I said at the outset, what prompted this piece is the arrogance on the part of all too many New Economy (growth) managers who sneeringly tell everyone who is not invested in the same Cisco’s and Qualcomm’s as they are that “this is the way it is and this is the way it’s going to be from now on. The Old Economy stocks are relics of the past and if you don’t own the Cisco’s and Qualcomm’s of the world, no matter what the price, you’re living and investing in the past, not the future.” Again: we are not about to quarrel with the idea that Cisco is a better company than, say, Sears; it is. But investors are not buying Cisco, the company — investors are buying Cisco, the stock, and what seems to be lost on the part of many money managers is the fact that just because Cisco is a better company than Sears does not automatically make Cisco a better stock, too.

To put it even more bluntly: The question that must be asked here is at what price Sears is a better buy than Cisco — and “Never!” is NOT an acceptable answer. The money managers who are in the “My Cisco, right or wrong!” camp and who will not consider alternative investments no matter how low those alternative investments get nor how high Cisco goes — are doomed to eventual disappointment, just as the Nifty Fifty managers, the managers who bought and owned the finest companies in the world at the time, were doomed to eventual disappointment twenty-seven years ago. The question is “when?” — not “whether?”

None of the foregoing is meant to knock growth stock investing per se; clearly, growth investing IS currently working — and working unbelievably well. In addition, given our comments in our regular reports regarding small growth stocks (and the fact that our own money is invested in a small-cap growth-stock fund), we suspect that growth investing will continue to generate superior performance for some unknowable time to come. My quarrel is with the money managers who 1) think that investing in growth stocks, no matter what their price, is the ONLY way to go, now and forevermore, and 2) refuse to consider alternative investments under any circumstances. For all I know, Cisco may be a better stock to own than Sears for a long, long time to come. But there IS a limit somewhere, and investors must thus keep on comparing Sears to Cisco even if the answer keeps coming up “Cisco is still the better stock to own.”

Open-mindedness is one of the signs of a great investor. Arrogance is not.

Full report can be found here

“We have nothing to fear but the lack of fear itself.” – Walter Deemer

What a milestone.  40 years ago, this month, the Dow Jones Industrial Average was 1,082.  25 years ago, it crossed 10,000 for the first time.  It’s a great time to reflect back on an amazing fact. The stock market empowers ordinary people to build extraordinary wealth.

But big round numbers are always a psychological yellow light for stock market participants.  Whenever we cross a major barrier, it brings out anxiety-inducing thoughts like “How high can this market really go?”.  Our natural inclination is to get a little more defensive and protect our gains, even though during the last 100 years, there have been more days making new all-time highs than days spent in a bear market. (thanks to Callie Cox for this nugget)

While it’s always important to avoid complacency, it’s also important to remember why we’re here.  Ben Carlson from Ritholtz Wealth Management recently laid it out pretty nicely.

These aren’t feelings.  They aren’t thoughts and prayers.  These are facts.  And although financial lives are empirically better than any time over the last five years, why doesn’t it feel that way?  Because everyone of a certain age knows “this too shall pass”.  Chuck Palahniuk has a great quote.  He says, “It’s so hard to forget pain, but it’s even harder to remember sweetness.  We have no scar to show for happiness.  We learn so little from peace.”

The trade-off for investing remains the same at 39,999 as it does at 40,001.  In Howard Marks’ recent memo entitled, “The Indispensability of Risk”, he writes, “you shouldn’t expect to make money without bearing risk, but you shouldn’t expect to make money just for taking risk.  You have to sacrifice certainty, but it has to be done skillfully and intelligently, and with emotion under control.”

Strength begets strength.  The bull market is still young relative to previous cycles.  The stock market has never been negative in a year where a president is running for re-election (10 out 10 since 1950).  Corporate earnings are at all-time highs.  You get the idea.  It’s foolish to think it will always be this way, but try to enjoy it while it lasts.

If you’re someone (myself included) who tends to see the glass half empty from time to time and focuses on the “unprecedented” geopolitical risks, inflationary pressures, or the unsustainable national debt, I’ll leave you with this:

This is from Harper’s Magazine.  In 1847. (c/o Brent Beshore)

Talk soon,

Adam