The Word from Main Street

Market Update for the Week of March 23, 2020

We are in this together. While we are focusing our time and energy on navigating the current market environment, please take this time to focus on your family, your health, and your neighbors in need. To reduce the pressure on your investments and your retirement plan, please: 1) consider reducing any periodic distribution from your portfolio to only what you need, 2) consider delaying lump sum withdrawals from your portfolio, and 3) continue making contributions into your employer retirement plan, IRA’s, etc. Once the market and the economy normalizes, we will regroup and recalibrate your retirement plan. Please hang in there and do not panic. We are in this together.

The economic fallout from the COVID-19 virus continues to grow, with more events being canceled and businesses scaling down or altogether suspending operations on a daily basis. The major airlines have scaled back operations, the NBA and NHL have suspended their seasons, the college basketball playoff and the 2020 NFL Draft have been canceled, and U.S. automakers have temporarily shuttered their plants. In the midst of such widespread consequences, many analysts and pundits have begun to talk about the big R (recession), a word that strikes fear in hearts of Main Street and Wall Street alike. This is especially true because the Great Recession was followed directly by the recently-deceased bull market and therefore still looms large in the minds of many.

The probability of a recession is certainly cause for concern. Recessions are often accompanied by a host of adverse conditions like increased levels of unemployment and homelessness. In addition to the negative societal impacts, many investors also fear a recession because they associate recessions with steep drawdowns in equity markets. This association is not wrong per se; we do often see steep drawdowns in the equity market around the same time periods of economic recessions. Where many investors go astray is that they believe recession is an indicator that the market will decline. Therefore when talk of a recession begins to surface, often their first instinct is to dump their equity exposure. What they need to realize, however, is that the equity market is a leading economic indicator as opposed to a trailing economic indicator. In fact, the S&P 500 is included as part of the Conference Board’s Leading Economic Index for the U.S. And if we look back, some of the best buying opportunities have come when the economy was in a recession.

Let’s take a look at our current situation. One common definition of a recession is two consecutive quarters of negative GDP growth. According to the U.S. Bureau of Economic Analysis, real GDP growth for 4Q 2019 came in at an annual rate of 2.1%. So, by the two-quarter definition, we would need to see negative GDP growth in Q1 and Q2 2020 to officially have a recession. Even if it were somehow announced tomorrow that we’re in a recession, how helpful would that be? Would it help you avoid the approximately 30% decline the S&P 500 (SPX) has experienced in the last four weeks? The equity markets have already reacted strongly to a potential economic downturn brought on by COVID-19 and if we judge by large sell-offs in the past, we believe we’re probably closer to the bottom than we are to the top. 

In hindsight, it often seems obvious that the market was irrationally oversold and recovery was imminent. However, things can seem very different at the time. Coming out of the Global Financial Crisis (GFC), the market hit its lowest close on March 9th, 2009. But, at that time, the U.S. economy was still officially in the midst of a recession and the unemployment rate was still growing. On April 3rd, 2009, the New York Times ran an article with the headline “663,000 Jobs Lost in March; Total Tops 5 Million.” In the U.S., the recession was not officially over until June of 2009 and it wasn’t until months later (when economic data for the subsequent quarter showed positive growth) that the end of the recession was announced. The point being that, while the market had already reached its bottom, there was still plenty of economic news to be pessimistic about. As we said, however, the market is a leading indicator of the economy, meaning that the market probably has more to tell us about the direction of the economy than vice versa.

One of the main indicators we look at to determine when the equity market has become washed out is the NYSE High Low Index (NYSEHILO). Trips below the 10% level are rare and tend to indicate a market that has become washed out and reversals up into X’s from these low levels indicate that demand is coming back into the market and have historically provided good buying opportunities. Last week, the NYSEHILO reached 2%, a historically low level which it has reached on only four occasions in the past 30 years. The last time we reached this level was in the midst of the sell-off in Q4 2018. The HILO reversed up into X’s on January 2nd, 2019, just a few days after the market bottomed. From there, the HILO rose all the way to 92% and the S&P 500 notched a price return of almost 30% for the calendar year.

3-23 HILO.png
Source: Nasdaq Dorsey Wright

Prior to 2018, the last time we saw the HILO fall all the way to 2% was in 2009. The indicator reversed up on 3/18/09, nine days after the market had bottomed. Of course, like any other indicator, the NYSEHILO is not perfect. As the chart shows, prior to its reversal up in March of 2009, the HILO reversed up from 2% on 11/5/2008 and between that reversal and the subsequent reversal up on 3/18/09, the SPX declined an additional 17%. This is a valuable reminder to not think of any single indicator as a “magic bullet”. 
3-23 HILO 2.png
Source: Nasdaq Dorsey Wright
Just as they have following every major drawdown, at some point, probably in the not too distant future, we believe the HILO and our other indicators will give us the all-clear signal once again. When that happens, it is quite possible that we are still feeling the negative economic effects of this pandemic. But, as we’ve seen, the market recovery is likely to lead the economic recovery and we must be prepared to benefit from the rebound even if things still seem a bit shaky on the surface.

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Wells Fargo Advisors Financial Network did not assist in the preparation of this report, and its accuracy and completeness are not guaranteed. The opinions expressed in this report are those of the author(s) and are not necessarily those of Wells Fargo Advisors Financial Network or its affiliates. The material has been prepared or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy.

Past performance is no guarantee of future results. All investing involves risk including the loss of principal. Asset allocation and diversification are investment methods used to help manage risk. They do not guarantee investment returns or eliminate risk of loss including in a declining market.

Technical analysis is based on the study of historical price movements and past trend patterns. There is no assurance that these movements or trends can or will be duplicated in the future. Nasdaq Dorsey Wright developed the indicators described above. They have been prepared without regard to any particular investor's investment objectives, financial situation and needs. Accordingly, investors should not act on any recommendation (express or implied) or information in this report without obtaining specific advice from their financial advisors and should not rely on information herein as the primary basis for their investment decisions.

Any statements nonfactual in nature constitute only current opinions and interpretations of their indicators, which are subject to change without notice. There may be instances when fundamental, technical and quantitative opinions may not be in concert. Any opinions expressed or implied herein are not necessarily the same as those of Wells Fargo Advisors or its affiliates. Any market prices are only indications of market values and are subject to change. The material has been prepared or is distributed solely for informal purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Data and opinions are current as of 12/16/19. Additional information is available on request.

Nasdaq Dorsey Wright’s “DALI" employs relative strength-based analysis to rank macro asset classes based on developing leadership trends within the global capital markets. The objective guidance within DALI provides the tools necessary to properly allocate portfolio across all major asset classes in an effort to emphasize strength wherever it exists. Domestic Equities, International Equities, Commodities, Currencies, Fixed Income and Cash are evaluated daily to identify dynamic developments across investment genres, as well as within them. This tool provides the tactical precision that allows investors to adapt as the market leadership changes.

Wells Fargo Advisors Financial Network did not assist in the preparation of this report, and its accuracy and completeness are not guaranteed. The opinions expressed in this report are those of Main Street Wealth Advisors and are not necessarily those of Nasdaq Dorsey Wright, Wells Fargo Advisors Financial Network or its affiliates. The material has been prepared or is distributed solely for information purposes and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Additional information is available upon request.

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