Written by Lance Roberts, Clarity Financial
Last week, we discussed the inversion of 50% of the 10-yield curves that we track.
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To wit:
“This quad-panel chart below shows the 4-previous periods where 50% of 10-different yield curves were inverted. I have drawn a horizontal red dashed line from the first point where 50% of the 10-yield curves we track inverted. I have also denoted the point where you should have sold and the subsequent low.”
“As you can see, in every case, the market did rally a bit after the initial reversion. However, had you reduced your equity-related risk, not only did you bypass a lot of market volatility (which would have led to investor mistakes anyway) but ended up better off than those trying to just ride it out.”
But that was so last week.
The bulls were quick to note that bond yields reversed their inversion this week, so the yield curve was wrong.
Uhm…not so fast, as we noted for our RIA PRO subscribers last week:
“The big move two weeks ago was in Bonds. If you have been following our recommendations of adding bonds to portfolios over the last 13-months, this portion of the portfolio has performed well in offsetting market volatility. As noted previously, intermediate duration bonds remain on a buy signal after increasing exposure last month. However, they are now extremely overbought, so look for a pullback that holds 2.50% on the 10-year Treasury to increase exposure.”
I have UNLOCKED our weekly Major Market Review where I stated;
(If you haven’t tried out RIA PRO you are missing a lot of great stuff – Try it FREE for 30-days.)
- While resistance remains from $122 to $124, the breakout is bullish for bonds.
- However, bonds are now EXTREMELY overbought. Look for a pullback to previous resistance which holds to add to exposures.
- Strong support at the 720-dma (2-years) (green dashed line) which is currently $118.
- Short-Term Positioning: Bullish
- Last Week: Hold positions
- This Week: Trim 1/4 of position just to take profits.
- Stop-loss adjusted to $121
- Long-Term Positioning: Bullish
As noted, we correctly predicted the pullback in rates this past week because of the extreme overbought condition which existed previously.
However, a TECHNICAL reversion is not the same thing as a statement on the economic recovery. The rotation between bonds and equities this past week does NOT represent a false signal by rates that economic growth is set rebound. As with all things, the trend of the data is far more important than a specific data point and currently the “trend” of yields is lower…not higher.
Furthermore, while the 10-year yield did pick up, 50% of the yields tracked still remain inverted as of Friday.
However, let’s review the important points which HAVE NOT changed:
- The Fed isn’t hiking rates, but they aren’t reducing them either. (In fact, two Fed officials came out this week stating the Fed is likely to hike rates at least once in 2019 and again in 2020.)
- The Fed isn’t reducing their balance sheet any more after September, but they aren’t increasing it either.
- Economic growth outside of China remains weak
- Employment growth is slowing.
- There is no massive disaster currently to spur a surge in government spending and reconstruction.
- There isn’t another stimulus package like tax cuts to fuel a boost in corporate earnings
- With the deficit already pushing $1 Trillion, there will only be an incremental boost from additional deficit spending this year.
- Unfortunately, it is also just a function of time until a recession occurs.
As my dad use to tell me growing up:
“The only permanent cure of ignorance, is experience.”
There Is A Decent Probability You Have Never Seen A Bear Market
There is a sizable contingent of investors, and advisors, today who have never been through a real bear market. After a decade long bull-market cycle, which only seems to go up, you can certainly understand why mainstream analysis continues to believe the markets can only go higher.
What is concerning is the rather cavalier attitude the mainstream media takes about bear markets.
“Sure, a correction will eventually come, but that is just part of the deal.”
What gets lost during these bullish cycles, and is found in the most brutal of fashions, is the devastation caused to financial wealth during the inevitable decline.
Let’s look at the S&P 500 inflation-adjusted total return index in a different manner. The first chart shows all of the measurement lines for all the previous bull and bear markets with the number of years required to get back to even.
What you should notice is that in many cases bear markets wiped out essentially a substantial portion, if not all, of the previous bull market advance. This is shown more clearly when we look at a chart of bull and bear markets in terms of points.
Whether or not the current distribution phase is complete, there are many signs suggesting the current Wyckoff cycle may be entering its final stage of completion.
Let me remind you of something Ben Graham said back in 1959:
“‘The more it changes, the more it’s the same thing.’ I have always thought this motto applied to the stock market better than anywhere else. Now the really important part of the proverb is the phrase, ‘the more it changes.’
The economic world has changed radically and will change even more. Most people think now that the essential nature of the stock market has been undergoing a corresponding change. But if my cliché is sound, then the stock market will continue to be essentially what it always was in the past, a place where a big bull market is inevitably followed by a big bear market.
In other words, a place where today’s free lunches are paid for doubly tomorrow. In the light of recent experience, I think the present level of the stock market is an extremely dangerous one.”
He is right, of course, things are little different now than they were then.
For every “bull market” there MUST be a “bear market.”
The sell-off last year, which amazingly enough has already been forgotten, should have been a wake-up call to just how quickly things can change and how damaging they can be.
There is no difference between a 100% gain and a 50% loss.
(For the mathematically challenged: If the market rises from 1000 to 2000 it is a 100% gain. A fall from 2000 to 1000 is a 50% loss. Net return is 0%)
Understanding that investment returns are driven by actual dollar losses, and not percentages, is important in the comprehension of how devastating corrections can be on your financial outcome. So, before sticking your head in the sand and ignoring market risk based on an article touting “long-term investing always wins,” there is a huge difference between just making money and actually reaching your financial goals.
But experience will cure all of that.
See you next week.
.
