A Stronger U.S. Dollar and Weather Impact the Market

By David B. Armstrong, CFA | Mar 31, 2015 | Weekly Market Commentary

When I was a kid, I figured out pretty quick that if I fessed up to a lot of stuff I did wrong at the same time I handed over my report card to my folks, I was going come out way better off in the punishment arena.  “Mom, Dad, I have to fess up to something… I lied about having nothing to do with the fire in the woods last month, breaking the window in the Miller’s old barn, prank calling Old Man Johnson, and throwing mud balls and corn cobs at cars last Friday night when I said I was at the school dance… Oh, and I got a D in Social Studies.”  It was like a volume discount.

Well it turns out a lot of corporations are doing the same thing… piling a lot of bad news into one quarter and lowering their earnings estimates for the first quarter which is going to close its books today, Tuesday, March 31^st, 2015.  With the stronger U.S. dollar and the weather to hide behind, they can report their D in Social Studies this quarter, too.

A Rare Event

While we had the best day in the S&P 500 yesterday since March 18^th, it was also the day that broke a rare streak not seen since 1994 AND one that was only experienced twice before going back to WWII.

Bespoke pointed out in a report I read over the weekend that there were only two times in history (dating back to WWII) where the S&P 500 went 28 days in a row without seeing back-to-back positive trading days: May of 1970 and February of 1994.  That’s pretty rare.

Nothing really to be gleaned here; I just thought it was worth pointing out since it is rare and interesting. I’m sure there are people out there studying a way to trade that… if you are a regular reader, you know we are not.  If you are not a regular reader… well, we are not.

The Stronger U.S. Dollar

When someone wants to be bearish, they will always find some evidence to be bearish.  I suppose the same goes for bulls, but given that there has been so much talk about how the stronger U.S. Dollar will have a negative impact on earnings reports for the first quarter of 2015 (they will start reporting in a few weeks), I’d offer some perspective…

It turns out that there are sectors that tend to do well in this environment and sectors that do poorly.  Here are a few thoughts:

1. U.S. Equities. Yes, you read that right. People get this wrong when they refer to U.S. equities that derive a big portion of their revenue from overseas sales.  Larger-cap companies that do a lot of global business tend to not do so well.  That’s where the confusion comes from.
2. Small-Cap and Mid-Cap Equities. It makes sense given the above, and since most of the revenue from U.S. small-cap and mid-cap companies generate their revenue in the U.S.  Yes, that is a generalization, but the point is sound.
3. Growth Equities.
4. Financials, Tech, HealthCare, and Cyclicals Sectors.

If you are a reader who follows us but you are managing your own money (I know there are a lot of you from the emails I get), check out your allocations.  I’m not suggesting that you only have the above and nothing else, but use the list to get a feel for where you stand.  I double checked my understanding of the list against research we read from Dorsey Wright and Associates.

Volatility

There has been a lot of news and reporting lately on the topic of volatility.  I picked up some more interesting information from a Dorsey Wright report that was published in mid-March.

Classifying a “Big Daily Swing” (BDS) as any day where the S&P 500 closed with a 1% or greater move up or down from the previous day’s close, they looked back at 2013 and 2014.  Those two years had 504 trading days combined and there were only 76 BDSs.

This means that 85% of the 504 trading days were NOT BDSs. Let’s call those “quiet days.”

Dating back to 1928, the percentage of quiet days has been more like 75%.  So 2013 and 2014 were not very volatile relative to history.

As of March 19^th, there have been 51 trading days and only 68% have been quiet days, so volatility has picked up this year relative to the last two years.

However, as of the middle of March, the quiet days have been more up than down.  This can make it seem like there is a lot of volatility, but the quiet days can add up to be more important than the BDS days.

Of course after last week, I may need to wait to see an update to their research.

SO WHAT?!?!

I get asked that a lot by people who read and either call or email me back.  Well, since every one of our clients have their own goals, objectives and associated financial plan and/or investment strategy, I really write to inform…

Wages are beginning to move up and oil is much lower, which means the consumer has more discretionary income.  Consumer spending is 70% of GDP.  The reason no one is really feeling the leverage of that yet is because the consumer has been socking the extra dough away into savings,  which if you think about it from the big picture, makes sense.  Over the past few years, the consumer has been licking their wounds and paying down debt at the expense of savings.

Mom, the fancy term for that is “deleveraging.”

So now that the consumer has largely wrapped up deleveraging, which was done at the expense of saving, they are now saying “okay, I need to get some more dough socked away in savings now that my debt is under control.”

At some point the consumer will feel as good about the size of their savings account as they do about the low balances on their credit cards and go shopping.

Inflation is low.  As long as it stays that way, interest rates will stay low too.  I’m not saying the Fed won’t raise them, I’m just suggesting that they are not going to shoot up really high really fast anytime soon.  When we see inflation increase over 2% (the February year-over-year reading was at 1.7% on the CPI and 1.3% on the PCE, which is what the Fed watches), it may be time to make some adjustments.

But that’s not going to happen tomorrow or even over the next 30-60 days.

I’ll sign off this week with this: when the markets change, we are all forced to change with them.  When they don’t, we are simply forced to respect that fact that there are factors at work that are much larger than our own intellect and perceived ability to time things, predict things or “make gut calls.”

Ask yourself, “how much of the big picture has REALLY changed in the past five years?” Look back at the sectors that have done the best over that time.  They kind of look the same over that period… small-caps and mid-caps, growth stocks and cyclical sectors of the S&P 500.

Until something really changes with the big picture, respect the winners.  The only things that are going to pop up like the boogie man are things no one can predict anyway.

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