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February 28, 2022
Russia, Russia, Russia. Wow, what an evil man Putin is! We now have experienced a major history lesson. Being energy independent is more about the safety of the free world than the evils of Climate Change. Don’t get me wrong, woke left, everyone wants a cleaner earth, but we can now see that whoever has the energy controls the safety of the rest of the world. Let me explain: we now have a war in Ukraine for no reason other than Putin wanting to place his stamp on history. Did you read the news last week that Russia and China have agreed on a new deal that will see Russia supply 100 tons of coal to China in the coming years? John Kerry said last week, “let’s not get distracted by this Russian Invasion of Ukraine and forget about climate change.” Are you kidding me? While you fly around the world on your private jet, innocent people are being killed, and your take is that we can’t lose focus on our climate goal? Seriously, how tone deaf. Who’s next, Taiwan?
What we need in the United States is a comprehensive energy strategy, not just a political ideology. It is ludicrous to have $100 barrels of oil in our country. We just achieved energy independence for the first time since the 1950’s, and the world seemed to be a safer place. In my opinion, the current administration wanted gasoline of $4 per gallon to justify the move to renewable energy. Congratulations, you achieved that goal in about a year! Even as an optimist, I didn’t think that was possible. But now we see this invasion isn’t just about energy, but about controlling others. Wouldn’t it be better if we were an alternate energy supplier for Germany so that they would not be beholden to Putin and his evil ways?
I’m sure there are some really intelligent people in the current administration who can figure this out. We need to continue to develop innovative technologies to bring down the cost of renewable energy sources such as solar and wind while still maintaining our energy independence. Once we have created enough renewable energy infrastructure and capacity, then we can flip the switch. Until that time, use your noggins. Sorry AOC, but this past weekend I just watched the Great American Race, better known as the Daytona 500. Can you imagine the excitement from the crowd of over 101,000 spectators in the future when the Grand Marshall bellows out the most famous words in motorsports: Drivers, flip the switch on your electric race cars! Thank God we live in the great USA! Until next time, please pray for Ukraine and stay safe.
Three Market Drivers
We focus on three market drivers that lead to notable movements in the stock market: economic fundamentals, technical environment, and investor sentiment.
Our fundamental indicator follows 19 economic datapoints that track the underlying health of the US economy. From unemployment to homebuilding, changes in these economic datapoints tend to confirm recession or recovery after the technical and sentiment indicators have already reversed.
Dynamic Asset Level Investing, or D.A.L.I., is a technical indicator that compares each of the major asset classes, sectors, and sizes and styles against each other to discover emerging trends in the market. D.A.L.I. compares daily price action of each of these elements on a point-and-figure chart to illustrate momentum. The chart at the bottom of this page shows the current leadership in D.A.L.I.
Our sentiment indicator tracks how everyday investors currently feel towards the U.S. economy and the stock market. Between our own polling and professional surveys like the American Association of Individual Investors (AAII) Investment Sentiment Survey and Citigroup’s Panic/Euphoria Model, we track the two most dangerous emotions for investors: fear and greed.
Here is a breakdown of where each market driver currently sits:
Q4 GDP was revised to a level of 7.0%, meaning the economy grew at a rate of 5.7% in 2021, the strongest year since 1984. Initial jobless claims have returned to pre-pandemic levels, while continuing claims are at their lowest level since 1970. It remains to be seen what the economic fallout from Russia’s invasion of Ukraine will be for the U.S.
The majority of stocks in all three major indices (S&P 500, Nasdaq-100, and Dow Jones Industrial Average) remain below both their 50-day moving average and 200-day moving average, levels that we would like to see these stocks regain as a semblance of support for the market.
The majority of investors in the AAII Sentiment Survey have become bearish again, with nearly 54% of investors feeling bearish about the next six months in the market. Consumer sentiment is typically a contrarian indicator.
A History of Market Corrections
Source: First Trust
In the same way a car’s engine can overheat, the stock market can overheat after periods of sustained and, more often than not, rapid growth. At the peak of these growth periods, stocks prices may have even increased faster than their actual underlying value. In these instances, the stock market typically enters a market correction. To put it simply, a market correction is a temporary resetting of market prices. Market corrections typically involve the market falling at least 10%, but it can even fall as much as 20%. While no investor wants to see their account down 10%, market corrections help to ensure our stock market remains at a healthy valuation.
While certain asset classes and sectors of the economy can go through isolated corrections, a market correction tends to affect all areas of the market at once. Once the market has seen a broad pullback amongst the sectors of the economy, stocks will once again continue their growth at their newfound prices and healthier valuations.
Unfortunately, there is no crystal ball for predicting market corrections. However, we can look back in history to create realistic expectations. Since 1942, the S&P 500 historically has had a 10% or worse correction every 16 months on average. For perspective, this current pullback is the first 10% or greater pullback in the market since the crash that began in February 2020, meaning that, if history is to be our guide, we had been long overdue for a correction.
Finally, the burning question on everyone’s mind: what should I do? Whether you are a 401(k) participant or an individual investor, the best course of action is to stay the course during market corrections. In fact, 401(k) participants in particular are uniquely capable of taking advantage of these drawdowns. 401(k) contributions are made through a process called dollar-cost averaging, which simply means investing a consistent dollar amount on a scheduled basis. Dollar-cost averaging helps investors to avoid the two dangerous emotions of investing: greed and fear. Through dollar-cost averaging, 401(k) participants can consistently buy shares of their investments at the new, cheaper prices set during a correction. Once these shares increase in value during the correction’s recovery, you will own even more of these shares, taking advantage of the eventual rebound.
While it is much easier said than done to stay the course during a correction, it is important to remember that we are long-term investors for retirement. Our best advice is to remain calm and stay informed. While we cannot know for certain what size this pullback will be, we know that history shows us that corrections are a natural, healthy, and relatively frequent occurrence in our markets.
Market indices
Year-to-date returns
Large Cap indices
S&P 500: -8.00%
Dow Jones Industrial Average: -6.27%
Nasdaq-100: -13.06%
Mid and Small Cap indices
S&P 400 (Mid Cap): -6.35%
S&P 600: (Small Cap): -6.49%
Russell 2000: -9.10%
International indices
MSCI EAFE Developed Index: -6.78%
MSCI Emerging Markets: -4.87%
MSCI ACWI ex-US: -5.83%
Economic sector indices
Basic Materials: -7.09%
Communication Services: -12.92%
Consumer Discretionary: -13.89%
Consumer Staples: -1.70%
Energy: 23.37%
Financials: -0.12%
Healthcare: -7.25%
Industrials: -6.49%
Real Estate: -11.63%
Technology: -11.45%
Utilities: -5.96%
The Fed and Rates: What to watch for
When it comes to the stock market, there is one event that investors are keeping a watchful eye on: The March FOMC (Federal Open Market Committee) meeting from March 15-16. At this meeting, it is expected that the Federal Reserve will announce their first federal funds rate hike since the pandemic began. This rate hike will not only be the Fed’s tool to combat inflation, but the size and frequency of these rate hikes may have an effect on the market, good or bad. However, some questions we have heard recently echo two main sentiments: what exactly is the federal funds rate, and what is its significance? Today, we’d like to explore both of these questions.
When you hear in the news about rate hikes, they are referring to the federal funds rate. The federal funds rate is simply the interest rate that banks pay to borrow from each other overnight. While that may not sound significant, the federal funds rate, or FFR, has a ripple effect on all aspects of the global economy. Other domestic interest rates are heavily influenced by the FFR, including mortgage loans and credit cards.
The FFR also influences the value of the U.S. dollar. Yield-hungry international investors are more likely to invest in economies offering higher yields, causing the U.S. dollar to rise in value. Add in the fact that roughly 60% of the global central bank currency reserves are held in U.S. dollars, and the majority of the world’s currency reserves have their value directly tied to the FFR. The effect on the U.S. dollar alone makes the FFR one of the most important interest rates in the world.
Now, what decision will the Fed be making at their March meeting? At this point, it is a foregone conclusion amongst investors that rates will be raised in an effort to combat the rampant inflation that I’m sure everyone has felt. However, there are two important aspects that investors are watching keenly: the size of the rate hike, and the frequency of future rate hikes.
Regarding size, analysts seem to be projecting two potential outcomes: a 0.25% raise, or a 0.50% raise. The 0.50% raise is the one that investors are watching closely, as it would imply that the Fed feels a need to speed up the rate hiking process by making larger increases. On the flip side, the 0.25% raise may indicate that the Fed still feels comfortable with their initial plan, and that they don’t believe inflation to become much more severe. When it comes to the frequency of the hikes, there are also some potential conclusions to be drawn. Investors may view frequent 0.25% rate hikes as a happy middle, as the Fed wouldn’t spook the market with a substantial 0.50% raise all at once, while also still acknowledging that they need to make a greater effort to raise rates than previously anticipated to combat higher inflation numbers.
Regardless of how the Fed meeting goes, the change in FFR will be felt on a global scale. While rising rates are not historically a death knell for stocks, there are certainly areas of the market that are more sensitive to interest rate changes than others (energy, financials, utilities, and technology to name a few). While we can’t know for certain what actions the Fed will take in two weeks, we do know that the actions taken in March will give the market a better glimpse into what the Fed is currently thinking regarding the risk of inflation and the health of the U.S. economy.
Chairvolotti Financial, Inc. dba 401karat is a Registered Investment Advisor.
