Uncategorized, Weekly Update

Are Market Fears Overblown?


Published September 17, 2021

September is the worst month of the year for the stock market historically. As such, investors who are predisposed to worry unearth plenty of things to be concerned with. The pair of articles below discuss some of the current worries of investors.

First, this article from Marketwatch:

“The American Association of Individual Investors has been tracking retail sentiment since 1987, and this week, wow has that mood been rotten. The spread between bullish and bearish sentiment nosedived to -17%, from positive 12% just a week earlier. That’s the lowest read since October 2020, and the biggest one-week drop since August 2019.

The good news is that quick downturns in investor pessimism are usually unfounded. Buying last October, ahead of the U.S. election, would have netted a cool 33% gain in the S&P 500. Buying the blues of August 2019 would’ve left an investor up 17% a year later.

In a note to clients, Truist Advisory Services chief market strategist Keith Lerner takes on three of the biggest concerns that investors have — and why he’s bullish anyway.

Citi Economic Surprise Index

The first is the idea of peak economic growth being reached. Lerner says the evidence favors the idea that the delta strain of coronavirus deferred rather than capped growth. “We now expect roughly 6.2% U.S. economic growth for this year and a healthy 4.5% pace next year, which would still be about double the pre-pandemic trend,” he says. The Citi U.S. Economic Surprise Index has fallen so much that it’s now at an area where it tends to rise again.


The next issue is the likely taper of bond purchases by the Federal Reserve. Lerner notes it’s well-telegraphed, that in any event the Fed will still be buying bonds next year, and that the economy is in a much stronger position than it was during the 2013 taper.

The third issue is the tax hikes, for corporations and investors, being considered by Congress. Lerner says the consensus is that the corporate tax rate will be raised to 25% from 21%, and capital-gains taxes will be increased to 25% from 20% for those making over $400,000.

Average - Tax rates, GDP, and S&P 500 return by decade

Lerner says when the historical impact of tax policy on market returns and economic growth is examined, there isn’t a consistent relationship. For example, in the high-tax 1950s, there were the best stock market returns of the past 70 years as well as a robust economic environment; in the low-tax 2000s, there was the bursting of the technology bubble as well as the global financial crisis.

“We are not suggesting that taxes don’t matter. Instead, our works shows that taxes are only one of many factors that influence market returns. Moreover, the business cycle tends to overwhelm tax policy,” he says, estimating a 5% drag on corporate earnings from tax proposals.”

Also responding to the relative hand-wringing among investors of late is the article below from Delta.

“The media highlights the polarization of opinions in America. From an investment standpoint, it can be instructive to consider what metrics the investment community agrees on rather than disagrees on. Knowing what the “market” believes to be the case allows an investor to position investments accordingly.

The technical definition of a recession is two sequential quarters of negative GDP growth. By all objective measures, the U.S. economy is not currently in a recession. By definition, this means that there is broad agreement that the economy is growing rather than contracting.

The recent rise in Covid cases as a result of the Delta variant caused many service businesses to experience slowing growth in the past month or so. For example, American Airlines, United, JetBlue and Southwest all lowered their earnings outlooks for the third quarter this week as a result of the Delta variant.

Yet, even with negative revisions to third quarter GDP growth and earnings estimates, it is universally believed that there will be positive growth in the third quarter. Additionally, many economists believe the Delta variant will simply push consumption out to the fourth quarter and into 2022. Consensus 2022 real GDP growth expectations are in the 4-5% range.

From a Delta variant standpoint, average daily infections and hospitalizations are beginning to decline in the U.S. It is estimated that the percent of the US population that has either been infected with Covid and/or been vaccinated is somewhere between 70-80%. When we reach 85%, the infection rate is expected to decline materially.

Below is a chart of the three waves of Spanish Flu in 1918 and 1919. If we follow the pattern of the Spanish Flu, it looks like we are on the backside of the third wave both in terms of chart pattern and elapsed time.

Three Waves of Spanish Flue (UK, 1918-1919)

Despite the recent economic dampening effects of the Delta variant, the investment community broadly agrees the economy is growing. With the backdrop of positive real GDP growth, analysts are forecasting 7-10% corporate earnings growth over the next several years as revenues are rising faster than expenses.

If we agree on growth (real GDP expansion), the following statistics have held historically:

  • Investors have enjoyed an 87% likelihood of a positive return when the economy is expanding.
  • Major market declines that have lasted for years have only occurred during recessions since WW2.
  • Goldman Sachs Asset Management believes the odds of the S&P 500 being at current or higher levels by year end is 90%.

Although we may all agree on growth, we may not all agree on valuation. One way to measure valuation is with the equity risk premium. This is a calculated number that quantifies the excess return an investor is receiving for the risk of owning stocks. The equity risk premium today is 3.4%. Before the market declines of 2000-2002 and 2008-2009, the equity risk premium was negative. From this perspective, current valuation of the S&P 500 is not excessive (bubble prices).

Investing is the art of taking “calculated” risk. Given we agree on growth, the calculation of risk is favorable to further equity investing currently.”

Removing emotion from our investing process is extremely valuable. Our TimingCube models do not worry, which is one reason we love them so. They respond to only the price action of the market, keeping us out of harm’s way when necessary, and allowing us to enjoy the fruit of positive markets.

Market Update

Stocks opened the week flat despite a surge in oil prices. OPEC issued positive comments about global demand giving energy shares a boost. A better than expected reading on inflation sent interest rates tumbling Tuesday. However, stocks also followed rates lower with the S&P 500 slipping -0.6%. Several reports issued Wednesday showed the Chinese economy weakening. However, stocks domestically shrugged off the news, bouncing back to recover Tuesday’s slip with a +0.8% gain. A tick higher in both unemployment claims and retail sales left stocks at a stalemate Thursday. The S&P 500 closed off -0.2%. The drop back in stocks accelerated Friday on little new information as volatility in the markets ticked higher. The -0.9% decline in stocks sent indexes to a negative weekly close.

Stocks fell back for a second week with the S&P 500 (SPY) dipping -0.59% to rest on its closely-watched 50-day moving average. This trendline has held as support for stocks since November 2020, an exceptionally long period of calm. The Nasdaq 100 (QQQ) slipped -0.73%. The small-cap Russell 2000 index (IWM) held firm with a +0.39% weekly move.

Warm wishes and until next week.