Finance

March Madness Is Here

PaulNolte-2“It’s been a long cold lonely winter…here comes the sun”! Although it was a mild winter by recent standards, the thought of baseball starting up, a day or two of mild temperatures can send the soul soaring. So it has been on Wall Street. After a rough winter, concerns of higher interest rates and woes in the energy sector, the past two weeks have once again put a bounce in investors step. The economic data has been a bit better, with a positive revision to overall economic growth (thanks to inventory building), a still robust housing sector and a dollar that has stopped its dizzying climb. Energy prices are now at their highest levels for the year and even rail shipments are above year ago levels. Worries over an impending recession are overblown based upon the various data points during February. Next up will be the always over analyzed
employment report. Coming off a disappointing report in February, expectations for a strong payroll gains could keep things interesting for the Fed meeting later in March. Super Tuesday elections could grab investor’s attention for a few seconds before their focus shifts back to the heavy slate of economic data and handicapping the Fed meeting.

The markets have put on their best two week show in over three years. Finally breaking above their short-term average price for the first time all year, the SP500 is now up for February. Other parts of the markets are improving, from the number of stocks trading above their short-term average prices to better performance from the smaller stocks within the market. Small cap stocks are trading at their best levels since the second week of the year. While we are beginning to get a bit more excited about the markets, there are still some hurdles to clear before we shift from our currently cautious stance toward stocks. First, the markets need to clear their long-term averages, which is about four percent above current levels. We would also like to see persistent and improved participation from the broad market. We are starting to see some signs, but like the first shoots of spring, we don’t want to see a damaging frost that pushes back the recovery. For now we are slowly increasing our exposure to stocks, but not yet willing to go beyond the large cap stocks for
investments.

What is interesting about the stock rally over the past two weeks is that bonds have generally kept up. Usually investors shun bonds and move investments toward stocks and vice versa when stocks begin to sour. There is a bit of a change within the bond market though, as investors move from the safety of treasury bonds and begin buying corporate bonds. Similar to the stock market, investors have fled to the safety of large US stocks. In the bond market that means buying treasury bonds. Like the stock market, investors are venturing back into the riskier assets. Within the bond market that is corporate bonds, especially high yield. Is this just a respite in an otherwise down trend within the riskier parts of both markets? We are allowing for a further rally that may be supported by stronger economic data this week, especially from the employment report on Friday. Good economic news may be good news for the financial markets.

As mentioned above, other asset classes outside of the very large US stocks are beginning to show some life. Unfortunately that has not yet extended to the international markets. The dollar has stopped its rapid rise and is essentially unchanged from year ago levels. International stock markets are having trouble though as local economic growth remains lackluster. Looking at industry groups within the US markets, energy is beginning the “repair” process, if only by moving sideways relatively to the SP500. The other group that has been under pressure, thanks in large part to the energy sector, has been the financials. Here too, some improvement has been seen over the past week or so, but still well below mid-term average prices. The assumption investors are making, maybe erroneously, is that bank stocks will be brought down by bad loans within the energy sector. Unlike the housing collapse, banks are not leveraged to the hilt to energy. They are better capitalized and should not suffer the same impact that they did from a decline in housing. We are beginning to look outside of the SP500 for investments as small and mid-cap stocks begin to perform better, especially compared to the large stock universe. They still remain well below long-term averages that we would normally like to see to make a major commitment, however it is an encouraging sign for the markets as a whole. Bond investors may suffer some if the stock rally begins to gain momentum, as money may switch out of bonds into stocks. Also, an improving employment picture could put pressure on bonds.

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable, but are opinions and do not constitute a guarantee of present or future financial market conditions.