The market initially advanced during the first 19 days of February, with the S&P 500 hitting two new all-time highs before markets turned lower to end the month. For February, the S&P 500 declined 1.3%, the DJIA declined around 1.6% while the NASDAQ shed 4% as high momentum names were aggressively sold off. Large value (VTV) was down around .5%, while the rest of the developed world (CWI) increased 1.5%. Bonds were up around 2%. Value outperformed growth, international outperformed the U.S., and bonds outperformed stocks. Quite the abrupt reversal from the past two years.
TWG portfolios outperformed their respective benchmarks the first two weeks and underperformed the second two weeks of February.
WHAT MOVED THE MARKETS
There was a deluge of data and activity that impacted the market over the course of the month. Too many to include in this note, which is meant to be brief. However, sentiment has soured dramatically in a short period of time. Tariffs, government policies, mounting inflation concerns, a cooling economy, as well as heightened uncertainty are creating volatility in the financial markets as participants are digesting the plethora of news and adjusting their positioning, differently daily.
Tariffs are perceived as being inflationary (at least initially) which creates a loss of purchasing power. Consumer confidence is declining based on recent data from the University of Michigan consumer sentiment index. Personal spending took a dive in January. An Increase in spending on necessities (housing, utilities, food services) was not enough to offset a decrease in discretionary spending (cars, durable goods, clothing), signaling the consumer is tightening their purse strings. Personal savings increased, likely reflecting a cautionary tone and less willingness to spend. Consumer Bellwether Walmart reported earnings and noted slowing demand and cautionary forward guidance.
Layoffs have increased, mostly from the public sector as DOGE looks to shrink the government and reduce wasteful spending but may also spill over to the private sector if demand continues to wane.
This potential growth slowdown becomes more evident when viewed through the 10-year treasury yield, which has declined from 4.7% mid-January to 4.17% at the end of February. The bond market is signaling lower future growth, and stock prices are reacting accordingly. Owners of high valuation stocks are less comfortable holding their positions with the prospects of lower future earnings.
There are many variables at play, creating a lot of uncertainty as to how these will play out in the near and intermediate term. A trend change has begun, as many of the past two years leaders are now lagging. The Magnificent 7 cohort does not look very magnificent as six out of the seven are lagging the broad market to start the year. Tesla is the worst performer, down over 12% while Meta is the leader, up over 8%. Money continues to leave the U.S. in favor of international stocks, particularly Europe.
PORTFOLIO ADJUSTMENTS
The portfolio snapshot at the beginning of the month was still highly allocated to high-conviction growth ETF’s, notably QQQ, driven by its exposure to technology and innovation sectors. There was no exposure to small cap ETF’s, and a minimal cash position. The allocation to growth was aimed at capitalizing on a bullish market trend, signaling confidence in high-return potential.
As the trend reversal continued, asset allocations shifted notably. The most significant shift was in the allocation to growth sectors QQQ, IWF and RPG, which decreased notably. New positions emerged in Europe (IEV) and broad foreign stocks (IEFA, PIZ). The rebalancing reduced the overall portfolio risk (beta) and offered a slight decrease in volatility through diversification, contributing to a more stable risk profile.
These moves reflect a strategic pivot towards diversification in response to market changes, managing higher volatility previously associated with concentrated tech sector allocations. This dynamic adjustment could potentially trap market opportunities while managing downside risk better. The portfolios are starting to benefit from the adjustments. A more balanced approach mitigated risks while preserving growth potential, enhancing overall portfolio resilience. This evolution illustrates initiative-taking adjustments, reflecting an understanding of market conditions that can lead to a more balanced, risk adjusted investment allocation.
LOOKING AHEAD
While no one desires heightened volatility in the financial markets, the reality is that financial markets are risky. If there was no risk, then markets would not function efficiently, and capital would be mis-allocated. Reward to well-run and highly innovative companies is critical to the orderly operation of our capital markets, and with hundreds of millions of participants, there is rarely clarity on how capital should be allocated. This is partly what makes a market. It is typically an uncomfortable period while the market is responding to changing variables, and it takes time for the market to digest these changes, adjusting as we move forward in time.
However, thus far, what we are experiencing is not out of the ordinary. Markets are often volatile, and sometimes less so. There was a lot of complacency in the market psyche leading into this year, and a change in leadership in Washington brought both hope and concern. The market is going through a period of digesting the changes that are being proposed and implemented and trying to understand the impact on the economy. At this juncture, it is just too soon to know, evidenced by the big moves in both directions daily.
Market pullbacks like this are generally healthy, serving to reduce complacency in the marketplace and often bringing valuations back down to more reasonable levels. Periods of excessive risk taking, and speculation (such as the past two years) are often followed by periods of re-evaluation and adjustments. What we are going through is more normal than not. But yes, it feels uncomfortable.
We have been diligent in evaluating market trends and adjusting to the current market. The declines have been swift and brutal, but we have been proactively reducing risk in your portfolios. Observing flows overseas at the expense of U.S. stocks is a trend to which we have gravitated. Reducing growth in favor of areas of less pricy, higher capital strength assets also help lower the risk profile. However, it is still too early to even consider evacuating stocks. The market is moving more on concern than on fundamentals, which could change on a dime.
Should the market continue to sour, we anticipate continuing to reduce higher risk areas of the market in favor of more stability, a continuation of our actions over the past weeks. However, the market sentiment could quickly turn more favorable, in which case it would be imperative that we remain fully invested.
Our promise to you is to continue to monitor the markets and allocate capital in the most productive areas available. Managing risk is paramount in times like these, to which we will deliver an objective, price driven process to do just that.
We are here for you to address any concerns more specifically you may have, so feel free to reach out to us should you want to talk.
