The catalyst for the Friday selloff was that German 10-year bund yields fell below 0% on Friday after the weakest purchasing managers index in 6 years was released for the Eurozone. Furthermore, the U.S. Treasury yield curve inverted on Friday as the 10-year Treasury bond yields declined to 2.44%, while 1-month Treasury securities yields remained relatively steady at 2.49%, after U.S. factor orders declined to the slowest pace in 2 years. This 5 basis point Treasury yield curve inversion spooked the stock market, since yield curves tend to precede recessions, which I discussed in my Friday podcast … see link on column 1:
In our highly rated ETF portfolios (https://navellier.com/files/6215/5251/6700/MS_3yr_5yr_031319.pdf), we sold a major position in the iShares 7 -10 Year Treasury Bond (IEF) at an near-term high after the disappointing Brexit delay was announced that pushed the 10-year Treasury yields lower. After locking in a nice profit in IEF, our ETF Portfolios then were reinvested in the strongest sector ETFs.
Interestingly, the best performing sector ETFs are being influenced predominately by index buying pressure, primarily from the S&P 500 (SPY) and the NASDAQ 100 (QQQ), so there are only 3 to 4 sectors to invest in now depending on the ETF family (e.g., iShares and AlphaDEX). As a result, 2019 is really now shaping up to be more of a stock picking year than a sector year, because the stock market is getting increasingly narrow.
So essentially, we are now entering a “funnel” heading into next week’s quarter-end window dressing and smart Beta ETF rebalancing. I fully expect that I will be holding 30% less stocks in the upcoming months as the stock market’s breadth and power decays after the 2019 pension funding season draws to a close and the first quarter announcement season commences. This funnel should cause more money to flow into the stocks that post strong sales and earnings, while the overall stock market is struggling with more difficult year over year comparisons. My quantitative grade in both Dividend Grader and Stock Grader locks in on institutional buying pressure, so as certain stocks fall in rank, they will be replaced by stocks rising in rank that are benefitting from institutional buying pressure. Here is a link to Dividend Grader and Stock Grader:
Currently, the S&P 500 yields about 1.93% and most of those dividends are taxed at a maximum federal rate of 23.8%. Investors can get out of the stock market, but ironically, they may earn less, since interest income is taxed at a maximum federal rate of 40.8%. As a result, money continues to pour into index funds, despite the fact that earnings will remain lackluster for the next three quarters.
Interestingly, so far this year, the stock market seems to be taking its cue more from an accommodative Fed, especially as other central banks, like the European Central Bank (ECB) prepares to offer more stimulus to member banks. Speaking of the Fed, its Federal Open Market Committee (FOMC) announcement on Wednesday was incredibly dovish. Specifically, the FOMC announcement said that due to slower economic growth that no key interest rate increase is anticipated this year. The FOMC also remains very sensitive to global events, like slowing growth in China and Europe, so the Fed clearly does not want to change its interest rate policy at the present time. I should add that the Fed is anticipating 2.1% GDP growth in 2019, so it can afford to be “patient” moving forward.
As far as unwinding its balance sheet is concerned, the FOMC implied that it would reduce the monthly Treasury securities its sells from $30 billion per month to $15 billion per month, beginning in May 2019. Furthermore, the Fed will have completed its selling of mortgage back securities by September 2019. Eventually, the Fed plans to shrink its balance sheet to approximately $3.5 trillion in 2019. Here is a link to Ivan Martchev’s excellent MarketWatch article on the Fed’s balance sheet reduction:
Overall, the dovish FOMC statement caused Treasury bond yields to decline to the lowest level in the past 12 months, which is very bullish for higher stock prices, especially dividend growth stocks. The Fed has also been blessed by a lack of inflation in recent months, but that may be starting to change.
Specifically, crude oil prices hit a four-month high last week after the Energy Information Administration (EIA) on Wednesday reported a 9.6 million barrel drop in domestic inventories in the latest week. This drawdown is normal in the spring when demand naturally rises as the weather improves. Additionally, the “crack spread” between sour and sweet crude oil has tightened up due to the fact that the U.S. will no longer pay for Venezuela’s sour crude oil as long as President Maduro remains in power, which is expected to squeeze the earnings of many refiners. Overall, the U.S. is producing more crude oil than ever before and is now in control of worldwide crude oil prices, so I would be surprised if crude oil rises too much, since U.S. crude oil production continues to steadily rise.
In summary, we remain in a “Goldilocks” environment with an accommodative Fed that has no intention of raising key interest rates any time soon. Brexit has caused chaos in Europe and now many countries have negative interest rates. Furthermore, the European Central Bank (ECB) is planning to provide even more stimulus, since negative interest rates is apparently not sufficient stimulus.
In my opinion, an investor’s best defense is a strong offense of fundamentally superior stocks that are characterized by rising dividends, stock buybacks as well as strong sales and earnings momentum. These fundamentally superior stocks are becoming increasingly scarce and the stock market is now entering a “funnel” that will become much more narrow in the upcoming months.
The stocks that I expect to emerge as market leaders and the biggest winners will be our fundamentally superior dividend growth and conservative growth stocks. The relative strength that our stocks have exhibited bodes well for next week’s quarter-end window dressing as well as 90-day smart Beta ETF rebalancing. Overall, we are entering a stock picker’s market and I expect continued strong performance for our fundamentally superior stocks in the upcoming months!
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