I Was Not Fired

By David B. Armstrong, CFA | May 12, 2014 | Weekly Market Commentary

First of all, congratulations to all of the employees at Monument Wealth Management who make this place a pleasure to be at every day.  Because of them, we took 10^th out of 25 in the Washington Business Journal’s “Best Places to Work” in the Small Business category for the second year in a row (last year we ranked 23^rd).

Second, I occasionally really do have to work but I could not pass up an outing at Trump National in D.C. last week.  After a fun round with a horrible score, Donald came out on the patio, met our group and took a picture.  When he asked me for one piece of investing advice I replied, “Don’t buy a golf course.” He should have hired me years ago when he had the chance…especially since the Dow Jones Industrial Average hit a new all-time high again last week.  In all seriousness, the course and club are beautiful.

So while the Dow is hitting a new high, the small-caps have been getting HAMMERED!  For investors who are well allocated across different equity indices, sizes, styles and sectors, this will probably cause a disconnect between perception and reality.  More below, but for now, here is how we fared over the trading week.

 

 

 

Small-Caps – Hammer Time

Seriously, name another firm that incorporates MC Hammer lyrics into a finance blog?

The Russell 2000 index (I feel this is the best index to refer to when discussing small-cap stocks) has been HAMMERED over the past month and has basically lost all of the outperformance it had over the S&P 500 since the start of 2013.

Hearken back to March of 2009…the sky was falling and people thought the stock market was heading to zero.  Well as we all know now, March 9^th marked the low of the crisis and we have been in a bull market ever since…in the S&P 500 that is.

But what about the small-caps?  Have they been in a bull market the whole time?

Ummm, technically, no.

Remember that since the current bull market began in March of 2009, the Russell 2000 is currently up around 220% while the S&P 500 is up around 175%.

That’s a big spread …even post this recent hammering.

Now, if we use the common trigger of a bear market (a 20% sell-off), the Russell 2000 index has seen sell-off’s of this magnitude on two different occasions: the summer of 2010 and the fall of 2011.

So that means that investors who believed, in March of 2009, that the economy was recovering/expanding and over-weighted small-caps in lieu of an investment in the S&P 500, experienced excess performance of 45% for every dollar invested in the Russell 2000.  HOWEVER, they had to endure two periods when the Russell 2000 technically entered into a bear market correction.

Nothing moves in a straight line and if, as an investor, you held on to your small-caps through the summer of 2010 and the fall of 2011, you can hold on through this correction also.  I think the recent sell-off is more an issue to be aware of rather than react to.  Nothing earth shattering has happened in the economy (neither positive, nor negative) so to taking action now means despite all of that, doing it would just be following a crowd…

However, if you are looking for a reason, it is probably that the small-cap stocks have been reporting earnings that resemble brown stuff you don’t want to step in.  More below.

Earnings

Earnings season ends this week.  Here’s where we stand according to Bespoke Investment Group earnings research.

• The percentage of companies beating their revenue estimates for the first quarter of 2014 currently sits at 56.7%, which is basically unchanged from last week. This revenue number is well below the average of 60% which we’ve seen since 2001, but not all that bad when you consider what has happened with actual bottom line earnings.

• The percentage of companies beating their earnings estimates stands at 57.4%, which is a big drop from the 60% one week ago and well off the 61.9% final reading from the fourth quarter of 2013.  Last week saw some poor reports from small-cap companies and that accounts for the big move down to 57.4%.  Finally, if the number holds at 57.4%, it will represent the worst reading for companies beating their earnings estimates since the bull market began.

They also publish a chart that shows the spread between companies guiding future earnings higher or lower on a percentage basis.  Up to this quarter, the spread has been negative for the TEN previous quarters, meaning that there are more companies stating they will earn less in the upcoming quarter than the same quarter a year prior.

As of Friday, the spread between companies posting negative guidance vs. companies posting positive guidance continues to stand at +0.1%. That means, depending on this week, it is possible we could see this reading turn positive for the first quarter in the last 11 quarters.

Finally, in case you missed this last week, our blog got a great write up in Investor’s Business Daily!  Check it out here.

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