Wealth Management

Posted by Jeffrey Buchbinder, CFA, Chief Equity Strategist

Wednesday, June 7, 2023

We had hoped to write a blog about the “official” start of a new bull market today, but no such luck. The S&P 500 Index closed at 4,283 on Tuesday (and is trading around that level at noon ET Wednesday), falling just 0.25% short of a close at least 20% above the October 12, 2022 low of 3,577. In the grand scheme of things, there isn’t much difference between 4,283 and 4,292, but it does mean that our celebration of the new bull on LPLResearch.com will have to wait a little longer. Or, perhaps we’ll feature that topic in our next Weekly Market Commentary on Monday, June 12. Regardless, hopefully stocks will achieve that milestone soon.

Tuesday’s 0.24% gain in the S&P 500 wasn’t particularly exciting, but the 2.7% jump in the Russell 2000 Index hints at investors embracing risk and suggests we may start to see better breadth—positive signs that the new bull is probably not far off.

Before you pop those champagne corks, the elephant in the room amid this latest rally is that recession still appears likely to us within the next six to 12 months. Certainly a soft landing is still possible—last week’s blowout jobs report for May certainly helps make the case. But the economy has started to show some cracks, the bond market is pointing to recession with the yield curve still inverted (short-term interest rates are higher than longer term), leading economic indicators are strongly signaling recession based on history, consumer spending appears poised to slow as post-pandemic pent up demand dwindles, and the effects of higher interest rates and tightening financial conditions flow through the economy with a lag. In other words, the cards are stacked against this economy continuing to grow over the next year-plus.

If we assume recession is coming fairly soon, though it will likely be short and shallow, then what does that mean for stocks? As shown in the accompanying chart, stocks tend to not do all that well in the months leading up to an official recession. We looked at recessions back to the early 1970s to see how the S&P 500 Index performed during the 12, six, and three months before those economic downturns began. On average, six months before, the index has fallen 1.4%, though the median is slightly positive at 1.0%. Three months before recessions began, performance was a bit weaker, with an average and median decline of 1.6% and 3.8%, respectively.

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Those aren’t horrible numbers. Some comfort can be taken from the fact that the worst returns were around the 2001 recession, which we would argue experienced a more severe bubble in the dotcom boom and was hit multiple times with the accounting scandals that followed. Also consider the more mild recessions in the early 1980s and 1990s saw stocks do quite well. On the other hand, stocks have historically bottomed during recessions, so gains leading up to the economic peak don’t necessarily mean stocks are out of the woods.

Keep in mind we won’t know until well after the fact whether an official recession has begun. Remember the National Bureau of Economic Research (NBER) is the arbiter of recessions and typically doesn’t date them until at least six months after they start. So, perhaps watching where stocks go over the summer may provide an early warning signal.

Bottom line, with elevated recession risk, a rally through the high end of our year-end fair value target range on the S&P 500 at 4,400 seems unlikely in the near term. And with bonds offering some of the richest yields in decades, the risk-reward for stocks is no longer compelling, in our view. Strong momentum may carry the market a bit higher from here, but our fair value range is just a fraction away and seems like a natural place for stocks to take a breather.

For more of LPL Research’s thoughts on the near-term outlook for stocks, see our latest Weekly Market Commentary here or listen to the LPL Market Signals podcast here.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change.

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services. LPL Financial doesn’t provide research on individual equities. All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

All index and market data from Bloomberg.

This Research material was prepared by LPL Financial, LLC.

Securities and advisory services offered through LPL Financial (LPL), a registered investment advisor and broker-dealer (member FINRA/SIPC).

Insurance products are offered through LPL or its licensed affiliates.  To the extent you are receiving investment advice from a separately registered independent investment advisor that is not an LPL affiliate, please note LPL makes no representation with respect to such entity.

• Not Insured by FDIC/NCUA or Any Other Government Agency
• Not Bank/Credit Union Guaranteed
• Not Bank/Credit Union Deposits or Obligations
• May Lose Value

Posted by Lawrence Gillum, CFA, Chief Fixed Income Strategist

Tuesday, June 6, 2023

It seems like Treasury investors can’t catch a break. Last week, investors were concerned about a U.S. default (not a real risk, in our view) and this week, there is a lot of focus on the glut of Treasury issuance coming to market now that the debt ceiling drama is behind us. So should investors be worried? We don’t think so, but first, the specifics.

As part of the deal, the Treasury Department has unfettered borrowing capacity until January 2025. And borrow it plans to do. After draining its primary general account to keep paying its obligations, the Treasury is expected to issue at least $1.1 trillion in net new Treasury bills (T-bills) over the next few quarters to replenish its account as well as fund normal government operations. So, with that much issuance expected over a relatively short time horizon, the questions really become what impact will that have on T-bill prices and what impact will that have on general market liquidity?

Regarding the impact on T-bill prices, historically, T-bills, which have maturities of up to one year, have been easier for the market to digest. In fact, there’s been very little correlation between supply and prices. So, while issuance will be supersized this time around, we don’t expect meaningful disruption in the T-bill market.

The impact on market liquidity, however, could be a bigger risk. There are three primary domestic buyers of T-bills: banks, nonbanks (mostly households), and money market funds. Of those three primary buyers, nonbanks and money market funds can most directly impact market liquidity. So, with the amount of T-bill issuance coming to market, the impact on market liquidity will depend on who the primary buyers will be. However, as seen on the chart below, there are two avenues in which liquidity will be impacted: bank reserves and assets held at the Federal Reserve’s (Fed) overnight reverse repo facility (ON RRP).

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Bank reserves represent the minimum amount of deposits a bank must have on hand. And when bank reserves fall below a certain threshold, bank lending is impaired. Nonbank investors generally fund purchases through the bank reserves channel. The Fed’s ON RRP facility allows certain money market funds to borrow from or lend to the Fed, using government securities as collateral, and agreeing to buy or sell back those securities at rates set by the Fed, on an overnight basis. This channel has very little impact on market liquidity.

So, if the primary buyer base is nonbank investors, bank reserves will drop. And given the earlier regional banking concerns and the ongoing concerns around “deposit flight”, if bank reserves fall too much, it could negatively impact the economy and markets. However, if the primary buyer base is money market funds, the impact would be negligible. Certainly, the buyer base will be a mix of both (plus non-U.S. investors that will not impact market liquidity either) but according to analysis from Deutsche Bank, its baseline scenario is that ON RRP drainage starts at 40% of the overall liquidity reduction over the next few months and accelerates to 60% in the fourth quarter and 80% in 2024. That would put reserves at around $2.5 trillion, which would not represent a level that would be deemed concerning for the Fed. In fact, this is consistent with Fed expectations.

Bottom line is that as long as U.S. Treasury securities are regarded as risk free securities, there is always going to be demand for T-bills. The questions though are at what price and who will those buyers be? In our view, there is currently an abundance of liquidity in the market that can be used to absorb the glut of issuance coming to market in the next few quarters without a disruption to prices or liquidity.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

For a list of descriptions of the indexes and economic terms referenced in this publication, please visit our website at lplresearch.com/definitions.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Posted by Jeffrey J. Roach, PhD, Chief Economist

Friday, June 2, 2023

Highlights:

• Company payrolls grew by 339,000 in May as April estimates were revised higher to 294,000.
• Job gains were broad-based and occurred in professional and business services, health care, construction, and social assistance services.
• The unemployment rate increased by 0.3 percentage points to 3.7%, the highest rate since October.
• Both measures of participation were roughly unchanged, but there were 440,000 more people out of a job, the biggest monthly rise since the beginning of the pandemic.
• Wages grew 4.3% from a year ago, a healthy clip but not high enough to incite additional inflationary pressures.

Bottom Line: The Federal Reserve (Fed) will still likely pause later this month, despite today’s payroll report, because policy makers are focused on the lagged effects of the previous rate hikes.

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Who Do You Believe?

Job gains in May were incredibly strong, adding uncertainty to the future path of interest rates. The establishment survey, which tracks changes in company payrolls, showed that firms added 339,000 jobs in May. But, the household survey, which shows the number of working individuals, showed a net decline in 310,000 employed people. This divergence is not necessarily a problem but it highlights the fact that during times of transition, some metrics reveal a different story than others.

But what about the rise in layoffs? Layoffs for most of this year were from business cost-cutting initiatives and streamlining balance sheets in advance of the coming slowdown. So, if we do slide into recession, firms appear well-prepared for potentially slowing top-line trends. In this case, capital markets may not react as negatively as they have historically during recession

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Productivity Gains Could Help Long-Run Inflationary Path

We think inflation will continue to come down throughout the year, but inflation may not reach the Fed’s 2% target until much later. As investors develop expectations on rates and earnings for 2024, we think it’s important to watch the path for productivity growth. One important metric for productivity is employment dynamics for the prime age worker (those between the ages of 25 and 54). The ratio of employment to the population for prime age workers is slightly above pre-pandemic levels and as long as the prime age worker is willing and able to work, we think the economy may have strong enough productivity growth to put a damper on inflation pressures going forward. The so-called fourth industrial revolution (automation/machine learning) could power us past the risk of persistently high inflation.

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Productivity Gains Could Help Long-Run Inflationary Path

We think inflation will continue to come down throughout the year, but inflation may not reach the Fed’s 2% target until much later. As investors develop expectations on rates and earnings for 2024, we think it’s important to watch the path for productivity growth. One important metric for productivity is employment dynamics for the prime age worker (those between the ages of 25 and 54). The ratio of employment to the population for prime age workers is slightly above pre-pandemic levels and as long as the prime age worker is willing and able to work, we think the economy may have strong enough productivity growth to put a damper on inflation pressures going forward. The so-called fourth industrial revolution (automation/machine learning) could power us past the risk of persistently high inflation.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value

Posted by Adam Turnquist, CMT, VP Chief Technical Strategist

Tuesday, May 31, 2023

Key Takeaways:

• A June swoon may be in the cards as the S&P 500 struggles to clear key resistance at 4,200.
• While a deal in Washington could be a catalyst for a breakout, overbought conditions in the technology sector and mega-cap space—the primary drivers of this year’s market advance—could make this a high hurdle for the market to clear on a near-term basis, especially without broader participation.
• The technical setup for the technology sector remains bullish, but the rally may be a little too much too fast as overbought conditions are now widespread.
• The good news is that if there is mean reversion, it would likely be back toward the sector’s uptrend and provide a potential pullback opportunity for investors seeking a better entry point into tech.
• Don’t expect any seasonal tailwinds for stocks next month. June has historically been an underwhelming month for both the S&P 500 and the technology sector.

There is no shortage of headlines referencing the “sell in May and go away” seasonal pattern for stocks, but perhaps investors should focus more on a potential June swoon. As debt ceiling negotiations progress in Washington before next week’s revised June 5 X-date, the S&P 500 continues to struggle with key resistance at 4,200. While a deal in Washington could be a catalyst for a breakout, overbought conditions in the technology sector and mega-cap space—the primary drivers of this year’s market advance—could make this a high hurdle for the market to clear on a near-term basis, especially without broader participation.

The technical setup for the technology sector remains bullish, but overbought conditions have become widespread. Perhaps the rally may be a little too much too fast, as the sector’s Relative Strength Index (RSI) is overbought along with over one-quarter of tech sector stocks. Even the ratio chart comparing the sector to the S&P 500 is well-extended above its rising 50- and 200-day moving averages (dma). While overbought conditions provide validation of the sector’s uptrend, and overbought does not mean over, odds for a shorter-term consolidation and/or pullback appear to be growing. The good news is that if there is mean reversion, it would likely be toward the sector’s uptrend and provide a potential pullback opportunity for investors seeking a better entry point into tech. In the event of a pullback, both the rising 20- and 50-dmas provide dynamic support levels to watch, along with the August highs near 2,650.

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Seasonality

Don’t expect any seasonal tailwinds for stocks next month. The S&P 500 has generated average and median price returns during the month of 0.0% and 0.1%, respectively, making it the fourth worst-performing month since 1950. Furthermore, the index has only produced positive returns 54.8% of the time during June. For additional context, the S&P 500 has posted average monthly returns of 0.7% and finished positive 61% of the time for all months since 1950.

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While the overall average June return is underwhelming, when the S&P 500 does trade higher during the month, the average return has been 2.5%. In contrast, when the S&P 500 trades lower during the month, the average June return has historically been -3.0%.

What About Tech?

The seasonal setup for the technology sector in June is even worse. Since 1990, the sector has generated average and median price returns during the month of 0.0% and -1.7%, respectively, making it the second-worst month based on average returns and the worst month based on median returns. Furthermore, the tech sector has only produced positive returns 42.4% of the time during June, the lowest positivity rate across the calendar.

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Summary

A June swoon may be in the cards for the broader U.S. equity market. The S&P 500 continues to struggle with resistance at 4,200. At the same time, overbought conditions have become widespread across the technology sector, which is 1) responsible for most of the index gains this year and 2) carries around a 28% index weight. While overbought conditions provide validation of the tech sector’s uptrend, and overbought does not mean over, probabilities for a temporary consolidation and/or pullback appear to be growing. The good news is that if there is mean reversion, it would likely be toward the sector’s uptrend and provide a potential pullback opportunity for investors seeking a better entry point into tech. The LPL Research Strategic and Tactical Asset Allocation Committee maintains a neutral recommendation on the technology sector and is waiting for a better entry point.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value

Posted by Jeffrey Buchbinder, CFA, Chief Equity Strategist

Friday, May 26, 2023

Yesterday was the 100^th trading day of 2023, and a productive 100 days for stocks it was. Through that 100^th trading day on May 25, about 40% of the way through the year, the S&P 500 Index has gained a solid 8.1% (excluding dividends). That milestone on the calendar seems like a good time to look at what the strong start to the year might mean for the rest of 2023.

Since 1950, in years when the S&P 500 has been up at least 7% through the first 100 trading days, the average gain over the rest of the year has been a robust 9.4%, with the median slightly better at 10.0% (see table below). That compares to the average gain of 5.4% in all years from trading day #101 through year end. In general, strong starts tend to be followed by solid finishes.

The consistency of these strong finishes is also impressive. After these strong starts, the S&P 500 has added to those gains in 23 of 26 years (88%). As shown in the table below, two of the three years when stocks fell after the strong first 100 days ended only marginally lower—stocks fell just 0.4% the rest of the year in both 1975 and 1983. So, only 1987 saw stocks experience a material decline after a strong start, which encompasses the Black Monday crash in October of that year. While we know there are no guarantees in this business, the consistency of this pattern over seven decades suggests it is likely to hold up again.

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LPL Research believes the chances are good that stocks repeat this pattern again and add to year-to-date gains between now and year end, though tacking on another 9.4% may be a bit much to ask with recession potentially looming. Our year-end S&P 500 fair value target is 4,300 to 4,400, based on a price-to-earnings ratio (P/E) near 19 and $230 in estimated earnings per share in 2024, representing about 5% upside to the midpoint of the range.

Averting recession for most of the year as inflation falls would likely be part of a strong second half stock market story. In that scenario, S&P 500 earnings may not have much downside to current consensus estimates of around $220 per share for 2023 (our forecast is $213). A Federal Reserve on the sidelines wouldn’t hurt—nor would getting past the debt limit dilemma.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any economic forecasts set forth may not develop as predicted and are subject to change.

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services. LPL Financial doesn’t provide research on individual equities. All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

All index and market data from Bloomberg.

This Research material was prepared by LPL Financial, LLC.

Securities and advisory services offered through LPL Financial (LPL), a registered investment advisor and broker-dealer (member FINRA/SIPC).

Insurance products are offered through LPL or its licensed affiliates.  To the extent you are receiving investment advice from a separately registered independent investment advisor that is not an LPL affiliate, please note LPL makes no representation with respect to such entity.

• Not Insured by FDIC/NCUA or Any Other Government Agency
• Not Bank/Credit Union Guaranteed
• Not Bank/Credit Union Deposits or Obligations
• May Lose Value

Posted by Barry Gilbert, PhD, CFA, Asset Allocation Strategist

Friday, May 26, 2023

Key Takeaways:

• Both longer-term Treasury yields and short-term Treasury yields tend to decline during recessions, but the effect is larger and more consistent with short-term Treasuries.
• Over the last eight recessions, the median maximum yield decline for the 3-month Treasury was 2.82% and 1.14% for the 10-year Treasury.
• With an attractive yield compared to recent history and prospects of price appreciation if there were a recession, intermediate maturity Treasuries have a reasonable outlook on top of their potential diversification benefits if we were to see a downturn.
• The prospect of a decline in yields makes shorter maturity Treasuries less attractive, as investors may need to reinvest at much lower rates when bonds mature.

We are potentially at an important point of the economic cycle, both from the perspective recession risk and the end of a rate hiking cycle. LPL Research’s Asset Allocation Committee continues to be focused on what these potential changes might mean for investment performance.

Today we look at the historical relationship between bond yields and recessions. It’s worth cautioning that while the odds of a recession are elevated right now, it should not be treated as a lock. Also, every cycle is unique and there is some reason to believe there are factors that may mitigate the equity market impact of a potential recession were we to get one in the second half of the year. Among them:

• A meaningful amount of risk has already been priced in by last year’s market declines.
• Businesses and consumers are not as overextended as they are ahead of a typical recession.
• Recession risks have already been well signaled—a recession in the second half of the year would not be a surprise to anyone.
• Negative equity market sentiment is already extended by some important measures, a signal that tends to be bullish for equities.
• There is still some leftover post-pandemic pent-up demand on the services side.
• Changes to labor supply may make the job market somewhat less vulnerable to a recession, even if it is likely to take a meaningful hit

At the same time as the old saw often attributed to Mark Twain goes, history doesn’t repeat but it often rhymes. (There’s little evidence that Twain originated the quote, but if you have to guess where a quote comes from, after the Bible and Shakespeare, Twain isn’t a bad guess.)

Nevertheless, it still seems timely to review typical market behavior during recessions. We’ve been covering typical equity market behavior in a number of blogs over the course of 2023:

S&P 500 Performance Around Recessions, February 10, 2023

6 Things to Know About Stocks and Recessions, April 13, 2023

Stock Returns and Recessions Around Inflation Peaks, May 11, 2023

But we have yet to cover the bond market side. To that end, below is a table of the last eight recessions, the level of the 3-month and 10-year Treasury yield at the start of the recession, and the maximum decline.

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There are some basic takeaways here but also some that aren’t so obvious.

• The maximum decline in the 10-year Treasury yield was smaller than the decline in the 3-month yield for all eight recessions, almost always by a wide margin, with the average decline in the 3-month greater by two full percentage points. The main driver of declines in 3-month yields is changes to Federal Reserve (Fed) policy, which can respond quickly to economic slowdowns. Forward-looking growth and economic expectations don’t change as dramatically.
• The greater decline in short-term Treasuries is also supported by a normalizing yield curve. Currently the yield curve is inverted (short-term rates are higher than long term). Inversion is not the natural state of things—investors usually demand more compensation (yield) for longer-term securities. But we do often see yield curve inversion before recessions as the Fed raises short-term rates to slow economic growth and fight inflation.
• Despite declines in the 3-month yield being significantly larger, the changes in both yields were highly correlated: larger declines in the Fed-driven 3-month Treasury yield tended to lead to larger declines in the 10-year Treasury yield. Based on history, you can roughly expect the maximum decline in the 10-year yield will be a little less than half the change in the 3-month yield.
• Even if the 10-year yield were to decline by only one percentage point in a recession, or a little less than average, price gains for a 10-year Treasury bond would still be meaningful. Based on current yields, a 1% decline in the 10-year Treasury yield would lead to roughly an 8.4% price gain (bond prices rise when yields fall). Of course, if Treasury yields instead climb 1% the potential price hit is about the same, but yields tend to fall rather than rise during a recession.
• Because of the large changes in the 3-month yield, “reinvestment risk” during recessions is high. That is, if you’re invested in a short-term Treasury, the odds are high that when you need to reinvest the funds, it will be at a substantially lower rate.
• It’s not in the chart, but 10-year yields tend to start rising prior to the end of a recession as growth expectations improve. Just as stocks tend to begin to reverse higher mid-recession, 10-year Treasury yields tend to reverse as well, although typically somewhat later than stocks. Given that reversal, the median yield decline from the start of the recession to the end is 0.43%.

INVESTMENT TAKEAWAYS

• When yields were very low, the bar for stocks beating bonds was low as well. Higher bond yields raise the bar. We continue to favor stocks over bonds because of factors that might limit the market impact of a potential recession discussed above, but we also believe that fixed income’s defensive attributes have strengthened with elevated recession risk ahead.
• 10-year yields don’t always meaningfully decline during recessions and are generally most vulnerable to increasing when there’s a threat of rising inflation. The inflation trend continues to be toward inflation moving gradually toward the Fed’s 2% target, but there is some risk of inflation being stickier than expected.
• We no longer fear rate sensitivity (duration) and in fact have been neutral relative to our benchmark since October 2022.
• At the same time, we are somewhat more concerned about shorter-maturity bonds due to reinvestment risk. Memories of bond losses in 2022 might be keeping some investors from looking at intermediate-maturity bonds at a time when they are actually attractive.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value

Posted by Adam Turnquist, CMT, VP Chief Technical Strategist

Wednesday, May 24, 2023

Key Takeaways:

• Momentum picked up steam for the S&P 500 last week until overhead resistance came into play at 4,200. Stocks have once again struggled to surpass this hurdle, although it shouldn’t be too surprising given the ongoing debt ceiling drama in Washington.
• While last week’s rally wasn’t enough to clear resistance, it was enough to flip the Moving Average Convergence Divergence (MACD) indicator back into a buy position.
• What is the MACD? MACD combines momentum and trend following into a single indicator and, as the name implies, is based on convergences and divergences between a long- and short-term exponential moving average (EMA).
• How does it perform? Historically, MACD buy signals have generated above-average returns, with a relatively high frequency of positive returns occurring across most timeframes over the following year. Returns tend to improve when buy signals occur when the S&P 500 is trading above its 200-day moving average (dma)—as was the case last week.
• Sell signals on the MACD indicator are not as ominous as they sound, as they tend to produce below-average, but still positive, returns when the S&P 500 is trading below its 200-dma.

What is MACD?

This popular technical tool was first introduced by Gerald Appel in 1979 and combines momentum and trend following into a single indicator. As the name implies, the framework of the indicator is based on convergences and divergences between a long- and short-term exponential moving average (EMA)—often a 26-week and 12-week EMA, respectively. The difference between these two EMAs is called the MACD line. A smoothing method is then applied by calculating an EMA of the MACD line, creating the signal line.

How to Interpret?

When the MACD line crosses above the signal line, as it did last week on the S&P 500, it is considered a bullish signal. Conversely, a bearish signal occurs when the MACD line crosses below the signal line. There are also centerline crossover signals based on the MACD line moving above (bullish) or below (bearish) the centerline.

The chart below highlights the S&P 500 along with its MACD indicator. The bottom panel shows recent buy and sell signals. A histogram is also included in the middle panel to better depict the convergence and divergence between the MACD and signal lines.

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As shown above, the MACD indicator flipped back into a buy position last week, marking the third buy signal of this year. The previous two signals proved timely as they coincided with the rallies off of the December and March lows.

How Does MACD Perform?

Since 1950, all MACD buy signals on the S&P 500 have generated average forward three-, six-, and 12-month returns of 2.0%, 4.0%, and 8.3%, respectively. Furthermore, we found buy signals occurring when the S&P 500 was above its 200-dma—as was the case with last week’s signal—historically generated higher returns than buy signals occurring when the index was below its 200-dma.

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Considering the S&P 500’s rolling 12-month average return is 8.9% since 1950, and 73% of those periods produced positive returns, it shouldn’t be a major surprise that MACD sell signals did not generate downside losses, on average. The average S&P 500 returns for all sell signals are shown in the table below.

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Since 1950, all MACD sell signals on the S&P 500 have generated average forward three-, six-, and 12-month returns of 1.8%, 3.7%, and 8.0%, respectively. All three aforementioned timeframes underperformed relative to the MACD buy signal returns. Furthermore, we found that sell signals occurring when the S&P 500 was below its 200-dma historically generated lower returns than sell signals occurring when the index was above its 200-dma.

SUMMARY

The MACD indicator is a useful technical tool to help identify trend direction and momentum. Historically, MACD buy signals have generated above-average returns, with a relatively high frequency of positive returns occurring across most timeframes over the following year. Returns tend to improve when buy signals occur when the S&P 500 is trading above its 200-dma, especially compared to buy signals occurring when the index is below its 200-dma. Sell signals on the MACD indicator are not as ominous as they sound, as they tend to produce below-average, but still positive, returns when the S&P 500 is trading below its 200-dma.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value

Posted by Lawrence Gillum, CFA, Chief Fixed Income Strategist

Tuesday, May 23, 2023

• U.S. Treasury yields are generally higher over the past week with the two-year trading around 4.4%. The 0.50% increase in the two-year yield since last Monday is largely due to markets pricing out rate cuts later this year. Our view was that the market was too optimistic for the amount of rate cuts being priced in. Markets now expect one cut this year, which may still be too optimistic, unless financial conditions deteriorate. That said, we think we’re close to the end of the recent rise in Treasury yields.

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• News reports suggested there was “optimism” surrounding the debt ceiling negotiations but still no deal. Treasury market pricing suggests the greatest risk of delayed payment will occur for those securities that mature on or after June 6. Currently, the Treasury Department has around $60 billion in its operating cash account. For context, the Treasury’s cash balance got to around $11 billion in 2011. Our base case remains a deal gets done in time, but the clock is ticking.

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• Moreover, the Treasury Bill (T-bill) market is fairly disjointed currently with T-bills that mature on May 30 yielding 2.89% (the fed funds rate is 5.25%) and those that mature in June 8 yielding 5.81%. The difference in yields between the two securities is at extreme levels as more market participants are avoiding those securities that could be negatively impacted by a delay payment from the Treasury. The longer the negotiations drag out, the more it is likely we’ll continue to see higher yields for the securities maturing in June.

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• Interest rate volatility (as per the MOVE index) remains elevated relative to the last decade but in line with the periods before central banks’ quantitative easing. We think interest rate volatility will remain elevated as long as the Federal Reserve (Fed) remains committed to reducing the size of its balance sheet. The most interest rate sensitive fixed income assets are likely at higher risk of volatility. But buy and hold investors should remember that bonds pay back principal at par regardless of intra-period volatility.

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• After the recent back-up in yields, core fixed income sectors are trading close to levels last seen in early March and above longer-term averages. We think the risk/reward is more favorable for core bond sectors over plus sectors with the exception of the preferred securities market. As such, we think the recent move higher in yields is an attractive opportunity for investors to add to high quality fixed income.

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IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

For a list of descriptions of the indexes and economic terms referenced in this publication, please visit our website at lplresearch.com/definitions.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Insurance products are offered through LPL or its licensed affiliates.  To the extent you are receiving investment advice from a separately registered independent investment advisor that is not an LPL affiliate, please note LPL makes no representation with respect to such entity.

• Not Insured by FDIC/NCUA or Any Other Government Agency
• Not Bank/Credit Union Guaranteed
• Not Bank/Credit Union Deposits or Obligations
• May Lose Value

Posted by Adam Turnquist, CMT, VP Chief Technical Strategist

Friday, May 19, 2023

Key Takeaways:

• The pain trade for the broader market is higher as sentiment and positioning remain extremely bearish.
• Despite all the negativity, risk appetite appears to be building among hedge fund managers, who added exposure to more offensive sectors in the first quarter.
• Continued technical progress and the potential end to the Federal Reserve’s (Fed) rate hiking cycle could spark a change in investor sentiment and pressure speculators to cover historically high short positions.
• What does this mean for the S&P 500? It could be a quick trip toward the August highs near 4,300.

Pain Trade is Higher

The pain trade for the broader market remains higher. Despite the S&P 500’s near double-digit rally this year, sentiment and investor positioning remain historically bearish. As highlighted in yesterday’s blog post—Investor Sentiment Still Depressed by the Wall of Worry—the American Association of Individual Investors (AAII) reported that the spread between the percentage of bullish and bearish investors fell to -17% this week, marking more than one standard deviation below its long-term average of +2%. Fund managers are also bearish. According to the latest Bank of America Global Fund Manager Survey, risk appetite is at its lowest level since November 2022, cash levels are at year-to-date highs, and growth expectations are at their lowest reading of the year.

Actions Speak Louder Than Words

Bearish sentiment has been a well-telegraphed narrative for the last year, and while it did not make a great contrarian indicator in 2022, it seems to be working in 2023. Furthermore, when it comes to investing, actions speak louder than words. We parsed the latest 13F filings to determine what actions asset managers have been taking with their portfolios over the last two quarters. For reference, the Securities and Exchange Commission (SEC) requires institutional investment managers with assets under management of at least $100 million to report their holdings each quarter.

The pie chart below shows the reported first quarter 13F holdings for hedge fund managers. The sector percentages are based on 1,149 SEC filings with an aggregate market value of around $2 trillion.

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At the end of the first quarter, hedge fund holdings were concentrated in the technology, health care, and consumer discretionary sectors. Within the technology sector, the largest increases in aggregate positions based on quarter-over-quarter market value changes were NVIDIA (NVDA), Microsoft (MSFT), and Salesforce (CRM). At the same time, Cisco (CSCO), Accenture (ACN), and Qualcomm (QCOM) had the largest decreases in position sizes among funds.

Given the banking turmoil that overlapped with the first quarter, we also examined what hedge funds bought and sold in the financial sector. The table below breaks down the top and bottom five financial sector stocks based on respective increases and decreases in hedge fund positions during the quarter.

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Hedge funds sold over 20 million shares of both US Bancorp (USB) and Bank of America (BAC) during the first quarter, bringing total hedge fund holdings down by over $1 billion in each company. The largest increase in aggregate positions last quarter was in BlackRock (BLK), as funds added 1.4 million shares, increasing total hedge fund holdings in the company by $860 million.

Despite all of the negative sentiment, hedge fund managers appeared to be more offensive when comparing first-quarter holdings to the previous quarter (4Q22). Fund managers added to technology (+1.5%), communications (+0.9%), consumer discretionary (+0.7%), industrials (+0.4%), and materials (+0.1%). To help fund the increases in the aforementioned cyclical sectors, hedge funds decreased allocations to more defensive sectors, shown below. Fund managers also reduced sector positioning in financials and energy, although energy has been more defensive than offensive over the last year.

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SUMMARY

Despite sizable gains across the major U.S. averages this year, investor sentiment and positioning remain decisively bearish. However, the latest 13F holdings data reveals that risk appetite is coming back into the market among hedge fund managers. This quarter showed a noticeable shift in positioning to more cyclical sectors. Technology remains a heavyweight on hedge fund books, while financial sector holdings have declined in the wake of the latest banking turmoil. Given the continued technical progress for the broader market and the potential end to the Fed’s rate hiking cycle, a change in sentiment may be on the horizon, while pressure to cover historically high short positions builds. What does this mean for the S&P 500? It could be a relatively quick trip toward the August highs near 4,300.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value