April 2020 – Market Pulse Archive

Market Pulse – Week Ending April 17, 2020

We made it to the end of another week as new COVID cases continue to decline. Thank you all for your help in flattening the curve. We will now be looking ahead at the eventual reopening of the economy and scaling down of social distancing measures.

Stocks moved higher for another week with the S&P advancing around 2.5%. Technology, healthcare and large cap growth continue to lead the market higher. We are pleased with the productivity of XLG which owns the 50 largest U.S. companies, up nearly 4% for the week. As the market continues its advance, we have incrementally increased our exposure to XLG and, to a lesser extent, QQQ, thereby increasing our risk exposure to only those high-quality, leading U.S. companies — those that have a higher likelihood of surviving the economic uncertainty as we look toward the future and an eventual recovery.

With the additional exposure to risk assets this week, our growth model now has 17% protected, the moderate and the conservative models have 15% protected. We added a new position, BTAL, to all portfolios last week. BTAL is used to hedge against future downside risk and potentially add to the productivity of the “protected” portion your portfolio, where cash or “dry powder” has been our primary defensive position. BTAL is structured to short the highest risk name and go long on the lowest risk names. It is highly inversely correlated to the S&P 500 when the market is going down, and less inversely correlated to the S&P when the market is going up. This position enables us to buy $1 of “insurance” for approximately $.50. While BTAL should offset equity declines if the market rolls over, we do not anticipate it to harm us should the market continue its advance, given the current allocation to risk assets that will rise along with the market during up days.

One area that has been heavily discussed over the past few weeks is the disconnect between the economy and the stock market. People are confused about how the stock market can rally in the face of the current economic backdrop and continue to rally after bad news like jobs reports, the mounting death counts, a spike in unemployment, and the overall sense that many small businesses will be forced to close. The financial stress and pain inflicted on millions of Americans is a true tragedy. However, the market does not fully represent the real economy as measured by the activity of businesses and American citizens, the true drivers of consumerism. The “market” whether defined by the Dow or the S&P, generally consists of extremely large companies and only reflects the pain being felt from the American people to the extent of the reduction in goods and services being sold.

These large companies that drive the primary direction of the S&P 500 or the Dow are much more immune from a loss of revenue than the average American citizen is from a sustained loss of income. That the real economic pain being felt by millions of Americans is not reflected in the price of the market

indices is not a huge surprise when you consider this.

As we noted last week, the markets are forward looking, implying that the largest companies will be able to get through an extended economic shutdown and the resulting collateral damage. It will be harder for the consumer to recover. This is the brutal reality that results from having insufficient emergency

reserves for financial setbacks, let alone the large one we are presently witnessing.

This economic disruption and potential loss of income has been addressed as part of your holistic personal financial plan. An important part of our financial planning process addresses sufficient emergency reserves and a proper allocation to lower risk assets in advance of the emergence of a situation like the present.

Until next week.

We hope you are staying healthy as we enter the most critical weeks of social distancing. Please follow the direction of our government leaders and follow social distancing rules, wear your face masks, and continue to wash your hands frequently.

While we are currently observing a market rally from the current cycle lows of March 23,

the dip we expected following the end of the first quarter did in fact occur. After reaching a higher low on April 3, the market has exhibited ongoing strength and continues to surge, with a decisive break above the prior two peaks of 3/26 and 3/30. This implies the market has cleared an important technical hurdle and is likely to continue to grind higher.

As we’ve stated in prior notes, we believe that for the market to find a true bottom there has to be evidence of the transmission of COVID-19 slowing, a “flattening” of the curve, as well as fiscal and monetary support from the government. We are starting to see some progress and glimmers of hope. This has helped the market break through prior resistance. The market feels like it wants to move higher, even in the face of what health experts anticipate as a “tough” two to three weeks ahead. The government and Federal Reserve have committed more resources to backstop the debt market. We will not fight the Fed.

Current market movement is forward thinking, and now that the future is looking better, the market is responding accordingly. If the market anticipates a significant reduction in the spread, and a subsequent return to a more normal way of life, then it should begin to reflect this optimism in higher prices.

While previously focused on risk mitigation and accumulation of cash as a response to the initial downturn, we cannot simply wait to redeploy the cash back into risk assets in anticipation of a lower low in the indices. This may never happen. As important as it is to not fully participate in market declines, it is equally important that we prepare to participate in a potential recovery — regardless of whether a full recovery happens now or later. Simply put, the uptrend we are witnessing requires us to potentially increase exposure to risk assets in your portfolio and our process is guiding us to so. Therefore, in the past week we have added exposure to equities in your portfolios.

We are utilizing a new fund to increase our participation in the current rising market environment but also help stabilize your account should the market roll over again. We are accumulating shares in XLG – Invesco S&P Top 50, which holds the 50 largest names in the S&P. These companies are the largest of the large, and typically have a more solid balance sheet, which enables them to weather a recession better than those companies that carry a lot of debt. We are comfortable with this position as we begin to look toward an eventual recovery in the stock market.

By no means are we suggesting that the worst is behind us, or that we can continue to move toward normalcy in short order. Frankly, no one can say with any degree of certainty whether the market will be up or down tomorrow, let alone a month or six months from now. There is still too much uncertainly. The full impact of the global shut down cannot be modeled out with any degree of confidence. There will be future data points that help clarify the extent of the impact on global economies. We are comforted by the fact that we still have a sizable cash position should the market retreat in the future. At the same time, we are participating in the current rebound, albeit in a somewhat muted fashion. We have effectively compressed the standard deviation, or volatility in your portfolio, as we continue to move through this challenging time.

At some point the market will bottom and recover, and from the ashes will emerge a renewed period of economic expansion. We will be well positioned to identify areas of relative strength and participate in the next expansion, and at some point in the future will be fully invested again. It is our opinion that being fully invested while there is still so much uncertainty, simply because the market has rebounded sharply off of its cycle low on March 23rd, is not risk appropriate in the current environment.

Going forward we will continue to manage our process and where appropriate, take charge to participate in the current uptrend. This can change, and we will adapt accordingly.

We hope you enjoy your holiday weekend.