October was a Pivot

October was a Pivot

Monthly Outlook: November 2018 

October was a pivot month.  The three-and-a-half-year uptrend is over (for now) and markets have turned to a new downtrend.  As a result, we’ve moved portfolios from growth to protection.  This is the core of our iFolios strategy and most likely why you chose us to manage your money.  During an uptrend, one should “buy the dips.”  But in a downtrend, one should “sell the rallies.”  Don’t get fooled by the pundits and talking heads.  Many of them are guessing about the future which is a difficult task and most of them will be wrong.  Our iFolios strategy simply requires us to read the signs and allocate accordingly.  Today, we read “stop signs” in many markets and so we’re very underweighted global stocks.  We don’t know – and no one else does either – how long or how far this downtrend will go.  We could pontificate about possibilities, but that would be guessing and we won’t do it.  Until we get a “green light” or uptrend signal, we’ll stay in protection mode.

Let’s take a look at the markets in more detail.  U.S. stocks dropped a sizeable -7.4% in October.  And most importantly, the market dropped below it’s 200-day moving average trendline.  Until that reverses, we know it’s best to be cautious and underweighted.  NASDAQ stocks (mostly tech companies) dropped -8.6% for the month, including the FANG favorites (Facebook, Amazon, Netflix, and Google), which have all dropped below their long-term trendline for the first time in years.  International stocks also fell -8.3% in October.  The difference here is that international stocks have already been in a downtrend since May and we’ve been underweighted since then.  Lastly, bonds were a bit more stable in October, losing just 0.81%.

The History of Downtrends

By now, you might be ready to hear something positive, something hopeful.  I’ll try.  What I can offer is this:  Downtrends are never good, but they don’t have to be bad.  Let’s look at the 20-year history of downtrends (using our definition and signals) as applied to the U.S. stock market (S&P500).  First, we should remember that markets spend most of the time in uptrends, providing growth and dividends.  Over the last 20 years, 240 months, the S&P500 has been in a positive uptrend for about 171 months, or 72% of the time.  That’s great.  Now what about those downtrends, including the one we’re in today?  Over the last 20 years, there have been about 12 unique downtrends, totaling 69 months or 28% of the time.  And here’s the semi-good news I promised earlier:  Of the 12 downtrends, 8 were “benign”, lasting between 1 to 4 months, with returns of -4% to +1%.  Two of the downtrends were a bit more painful, lasting between 4 to 7 months, with returns of -5% to -1%.  But two of the downtrends, unfortunately, were very painful lasting 18 to 29 months, with losses of -38% and -40%.  To say it again, “nothing good happens during a downtrend, but it doesn’t have to be bad.”  Since we can’t know in advance what kind of downtrend this one will be, we think it’s prudent to remain in protective mode, with lots of cash and under-weighting to stocks.  If it only lasts a couple of months with flat returns, great.  We’ll put our positions back on and “no harm – no foul.”  But if it turns out to be a bigger downtrend with deep losses, we’re ready for it.

The Rest of the Year

With only 60 days left in 2018, what’s happening during the rest of the year that might affect markets?  First, let’s get these mid-term elections behind us.  Hopefully, we, the VOTUS, will make our voices heard and we can live with the outcome, one way or the other.  Markets will be watching carefully.  The Federal Reserve continues to alert the market that it intends to continue raising the Fed Funds rate gradually.  Another ¼% rate hike is forecast for December and another two or three are expected in 2019.  Corporate earnings have been quite strong, actually, and that’s baked in to forecasts.  Unless CEOs talk down their outlook, this should help markets.  Employment continues to be another strong factor and we have two more monthly jobs reports in 2018.  Unless the unemployment rate starts to rise, hitting 4.0%, then we’re just fine.  And as always, we’ll watch prices and trendlines for all of the index ETFs in our portfolios and invest accordingly.  Hopefully, this will give you comfort and allow you to focus on what’s really important, upcoming holidays with loved ones.