Market Data Bank

1Q 2017


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In the first quarter of 2017, stocks posted a total return of 6.1%.

That followed a return of 3.8% in the fourth quarter of 2016, 3.9% in the third quarter and 2.5% in the quarter before that.

 


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For the 12 months ended March 31, the total return on blue-chip companies in the Standard & Poor's 500 Index - if you include the reinvestment of dividends - was a fantastic 17.2%!

For months, politics has captivated the nation but, at the same time, better than expected economic data streaming in month after month propelled stock prices higher.

The nation's largest publicly held companies recovered from a 2016 profit collapse in energy and mining and, after the November 8 presidential election, expectations of a major tax cut under President Trump and a Republican Congress catapulted share prices to new all-time highs.

As the second quarter began, the tax cut became less certain.

 


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Since the near collapse of the world financial system in 2008, stocks have staged a history-making comeback.

In just five years, America's largest publicly held companies nearly doubled in value.

From mid-2015 to mid-2016, stocks went sideways - enduring two frightening plunges along the way - and then, in the second half of 2016, stock prices broke out.

The likelihood of a bear market - a drop of at least 20% - increases as the eight-year-old bull market grows older.

 


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As the second quarter of 2017 got underway, conditions accompanying bear markets - namely, restrictive Fed policy, slowing GDP growth, stock-price overvaluation, and irrational exuberance - were not on the horizon.

 


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At the helm of the Federal Reserve, Chair Janet Yellen has steered slowly and steadily toward rising interest rates.

The pace of growth has picked up and the economic tide has changed and, barring unforeseen obstacles, U.S. economic growth is on the horizon.

 


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If you're just tuning in, America has recovered completely from the worst economic reversal since The Great Depression of the 1930s.

Unemployment has not been this low since bottoming at 4.4% in 2007, at the peak of the last expansion.

 


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While risk and uncertainty are always possible, economic data has been stronger than expected for many months, and consumers are in the best shape in years.

Better-than-expected growth could propel stocks higher still.

Note to long-term investors: don't be distracted by near-term uncertainty and try to stay focused on what's beyond the next crisis, drop or surge.

 


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In the quarter ended March 31, 2017, the best-performing large-cap growth stocks outperformed by a wide margin.

It was the mirror image of the fourth quarter, when large-cap growth stocks were the laggards.

Short-term performance is unpredictable because it reflects the sentiment of the most emotional investors - not the small minority of investors with a strategic plan for managing their wealth to achieve specific goals over a specified period of time.

 


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Technology surged in the first quarter. Facebook, Amazon, Netflix and Google, the so-called FANG stocks, which were abandoned late last year, roared back.

Health-care stocks recovered from their fourth-quarter slump that followed President Trump's statements about reigning in excessive price increases.

The energy sector lost ground, as oil prices dropped on rising energy inventories, a rise in the rig count and production in the U.S.

 


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In a complete reversal from the fourth quarter of 2016, China, Emerging Markets, Asia Pacific and Europe all outperformed the U.S. indices in the quarter ended March 31, 2017.

Among the U.S. indices, also in a complete reversal, S&P 500 large-caps beat mid- and small-caps.

 


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Gold rallied in the quarter ended March 31, 2017, reversing its fourth-quarter slump on U.S.-dollar strength.

Foreign stock markets outperformed U.S. stocks on improving economic data.

Master Limited Partnerships (MLPs) notched another good quarter, holding on to a recovery following their meltdown due to the price of crude oil in 2015 and 2016.

The S&P 500 Index returned 6.1% in the first quarter of 2017, following a 3.8% fourth-quarter gain - all of which came after the U.S. elections.

Leveraged loans and high-yield bonds posted additional gains following their fourth-quarter rallies, as riskier assets were rewarded.

Fixed-income returns, across the spectrum, turned positive following a loss in the fourth-quarter returns. Bond yields surged and prices dropped after the U.S. elections.

 


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The Standard & Poor's 500 Index returned an amazing 17.2% over the 12 months ended March 31, 2017.

Earnings at America's 500 largest publicly held companies recovered from last year's collapse in energy and mining, and enthusiasm for what the Trump presidency might mean to the economy. Corporate earnings swept markets higher.

On June 24, 2016, a week before the end of the second quarter of 2016, Britain stunned the world by voting 51.9% to 48.1% to exit the European Union. The S&P 500 lost 5.3%. Within a week, the index recovered fully.

Stocks rallied in the third quarter of 2016 on a surprisingly strong July jobs report and then stayed almost flat through the end of September.

Stocks rallied again in the fourth quarter, and yet again in the first quarter of 2017 on the Trump election win. In addition, news that the third quarter's GDP growth number burst to 3.5% was part of a stream of better-than-expected economic surprises.

 


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For the 12 months ended March 31, 2017, small- and mid-cap indices led.

As 2016 progressed and 2017 began, and economic data strengthened both in the U.S. and globally, riskier types of U.S. stocks benefited most.

Conversely, large-cap growth, led by the FANG stocks (Facebook, Amazon, Netflix and Google), which soared in 2015, took a rest.

It's just another illustration of how performance among sectors, styles and market cap routinely rotates.

 

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To a financial advisor, this bar chart with colors that clash is a beautiful work of art.

This chart illustrates the rotation in performance of different segments of the stock market over the 12 months ended March 31, 2017, which are shown in purple, compared to the 12 months ended March 31, 2016.

To be clear, the orange bars show performance over the 12-month period ended March 31, 2016, while the purple bars show returns on the same investments for the 12-months ended March 31, 2017.

This shows why rebalancing a portfolio systematically is effective.

Rebalancing based on an individual's long-term goals and risk preferences, in this 12-month period, forced investing in assets that a year earlier had lost 4% in value. A subsequent gain over the next 12 months was reaped.

It is like looking in a rearview mirror and expecting that what happened in the past may not happen again. Still, a rearview mirror is nice to have and it can tell you if something is sneaking up from behind that you may not otherwise see, if you know how to use it.

 


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For the 12 months ended March 31, 2017, the financial sector was the standout.

Investors welcomed the possibility of rising interest rates and, post-election, became enthusiastic about a rollback of massive regulations imposed on the financial services industry by the Dodd-Frank Act of 2010, passed following the near-collapse of the world financial system in 2008.

The normally defensive industry sector - telecom, consumer staples and utilities - was the laggard, as investors' appetite for risker assets grew.

 


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In the 12 months ended March 31, 2017, major foreign stock markets staged sharp rallies.

Small-cap U.S. stocks boomed in value, and China and Emerging Markets delivered strong gains, as those economies gained momentum.

A surge in the value of the U.S. dollar in 2014 and 2015 took a toll on foreign markets but its impact faded.

European bourses posted strong returns, as the continent recovered more slowly than the U.S. from the European credit crisis and deep recession.

 


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Among this broad range of 13 asset classes, the index for Master Limited Partnerships (MLPs) showed a 35% total return over the 12 months ending March 31, 2017. MLP gains were fueled by a doubling in the price of crude oil from its bottom in January 2016.

Second best on the list was the Standard & Poor's 500, with a strong 17% return, propelled by rising corporate earnings.

Since many oil exploration companies are financed by high-yield "junk" bonds, the price surge for oil boosted bonds rated below investment-grade.

Bonds, otherwise, were near the bottom of the rankings, both taxable and tax-exempt, with expectations for gradually higher interest rates widespread.

 


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On March 31, 2016, Master Limited Partnerships had just sustained a crushing loss of 37.2% over the previous 12 months. Then, over the 12 months that followed - which ended March 31, 2017 - MLPs were the No.1 performer of these 13 asset classes, showing a 35% total return.

Reinvesting in a huge loser was counter-intuitive, unless you are committed to a systematic approach based on your long-term goals and risk preferences.

Rebalancing - a simple discipline - forced investing in MLPs, which had performed horribly.

Illustrations of past performance often are criticized for looking in a rearview mirror when what happened in the past is unlikely to happen again.

This illustrates the benefit of periodic portfolio rebalancing by a professional.

 


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Small-cap leadership over the last five years reflected investors' improved confidence in the economic outlook and a preference for riskier assets.

 


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For the five years ending March 31, 2017, the lagging sectors were energy, materials, telecom services and utilities, companies priced for their value rather than for their growth.

Companies expected to benefit from higher profit growth rates outperformed.

Energy and materials sectors were slammed by the collapse in the price of crude oil and most other commodity prices, showing a total return of 8.9% over the five-year period. The price of crude oil, while up nearly 100% from its early 2016 bottom of $26 per barrel, was still at less than half its peak price in 2014 of $114 per barrel. The energy sector of the stock market is highly correlated with crude oil prices.

 


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For the five years ended March 31, 2017, U.S. stock indexes - small-, mid- and large-cap companies - showed more than double the return of major regional global market indexes.

Also, among the U.S. indexes, note that small- and mid-caps led the large-cap S&P 500 index. Small- and mid-caps, compared to large-caps, historically returned more but had more risk, as measured by volatility of returns.?? This is not unexpected over the long haul.

 


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For the five years ended March 31, 2017, U.S. large-cap stocks were the top performing asset class among the broad array of 13 asset classes shown here.

Keep in mind, being diversified means your portfolio never will perform as well as the leading asset class, but also means you never will perform as poorly as the worst asset class.

 


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By definition, diversified portfolios can't keep up with the returns on the S&P 500 in a bull market.

A diversified portfolio is guaranteed to underperform the best-performing asset class in a portfolio, but also guaranteed not to perform as badly as the worst asset class.

 


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Diversifying is a systematic way of trying to moderate the ups and downs of investing for the long run.

 


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If you're on a path with steep ups and downs, you are more likely never to get where you're trying to go.

 


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A frightful descent is more likely to make you abandon course.

If you own an all-stock portfolio, you'll bail out of the market when things get scary.

 


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The moderate path is not as exciting but is easier to complete.

 


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The S&P 500 Index's total return of 87% over the five years shown is almost triple the 30% return of the S&P Global Total Return Index Excluding U.S. Stocks.

The resilience of the U.S. economy coming out of the severe global recession, compared to the rest of?? the world economies, makes the case for American exceptionalism. It's amazing.

In last place among the 13 asset classes over this five-year period through March 31, 2017, was crude oil. The surge in U.S. oil supply wrought by shale-fracking has altered the global economic landscape.

Commodities and gold, too, have been money-losers over the past five years, with a strong dollar, slowing growth in demand for most commodities, and dwindling inflation.

 


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A lot of people are thinking that, since the stock market has been going up for eight years, it's got to be in bubble territory. That's untrue.

Don't forget how extraordinary the plunge in the financial crisis was. Stocks lost close to half their value.

Yes, the S&P 500 tripled off its bottom in March 2009, but it's merely reverted to a long-term mean return of about 9.4%, as calculated by Professor Jeremy Siegel.

 


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Recently, stocks have gotten a little bit ahead of the 9.4% per year averaged annually over the last 25 years. That's in line with the stock market's long-term returns going back to 1926, or back even further back, to 1871, according to Siegel's calculations.

If you want to see what a bubble looks like, look at 2000 and the period before the financial crisis of 2008, times when returns veered way off from the long-term trajectory of the 9.4% average return in the slope in this chart.

Point is, the stock market has actually been doing exactly what one would expect it to do and is not in nosebleed territory just because the bull market and expansion have gone on for so long.

 


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Are the expansion and bull market getting long in the tooth? Are we about to roll over into a bear market?

At 94 months, the current economic expansion and bull market are certainly getting on in years, but this compares to a 120-month expansion during the 1990s, and 92-month expansion during the 1980s, and 106 months in the 1960s.

This very well could turn out to be the longest expansion in since the end of World War II. The depth of the last recession has stretched out the recovery and the bull market.

 


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North Korea is not far from being able to hit the U.S. with intercontinental ballistic nuclear missiles. The Syrian refugee crisis is a moral outrage and is destabilizing Arab capitals across the Mideast, and Europe has remained politically unsettled following the June 24, 2016, Brexit vote.

This chart shows the march of progress in the world despite unrelenting crises for the past 60 years.

Geopolitical events have proven to be buying opportunities over and over again, but they really are scary and there is never a guarantee that things won't fall apart. The stock market short-term will get whipped around by a lot of different considerations. What drives the stock market long-term are corporate earnings, which I'll get to in a second.

 


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Here's the best picture of what drives stock prices over the long-term, and that is earnings. Earnings drive stock prices.

Earnings are shown in red and stock prices are in black.

Estimated earnings on the average share in the Standard and Poor's 500 Index, as of March 31, 2017, was $130.80 in 2017 and $146.67 in 2018. Stock prices have climbed in tandem with earnings, both actual and projected. Though they are perhaps slightly rich, the valuation on stocks is reasonable. A valuation bubble looks like what happened in 2000. Nothing like that can be seen in this recent snapshot.

 


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