And just like that, we’re into March! While the east coast experiences what is hopefully its last round of winter storms, the days are getting longer and there are signs that spring is just around the corner. While our 2018 winter weather likely won’t make a notable entry in the record books, the past month of market action just might! It wasn’t long after February began that we experienced the first 10% correction in almost two years, and the volatility that had been missing in 2017, roared back to life.
The market correction was swift in nature, which fueled a feeling of unease; however, from a technical perspective, it can be viewed as relatively normal. For perspective, the average number of 10% drawdowns per decade, going back to 1927, is 9.6, or roughly once per year. What has been somewhat abnormal are the sustained periods without a correction that we have seen in recent years. Since 2010, we have had just five instances, but this correction brought the major market indexes back to mean, as they had been trading in historically overbought territory.
It is also important to note that this recent correction did not cause any major rotation in our Dynamic Asset Level Investing Tool (DALI) rankings from an asset class or sector perspective. Despite the volatility we experienced during the global equity sell-off — the major US and international indices each experienced a peak-to-trough drawdown in the neighborhood of 10% — US Equities remain planted in the #1 position in DALI, with International Equities trailing by a narrow spread of 16 signals. From a sector perspective, Technology continues to lead the indices higher while Energy continued to lag over the past month after showing some brief signs of life in January. Most of the DALI rankings have remained static with one notable exception - Commodities. In the last 10 days of January, Commodities overtook Fixed Income as the third ranked asset class in DALI and continued to add to its signal tally throughout February.
The recent market volatility is a not so subtle reminder that a disciplined, risk management game plan is important. The long term relative strength indicators, like DALI, have not suggested any change to the current landscape that would warrant significant shifts in a tactical allocation; however, having the ability to do so remains a point of differentiation for you. To that end, those of you using DALI, or any one of the guided ETF Models, ETFs, Mutual Funds, or managed accounts that has the ability to raise cash, can spend time reminding clients or prospects (especially those who are more skittish) that you follow a rules-based, systematic approach that can help manage downside risk. Such a conversation can help you accomplish two important tasks.
First, you can explain that despite the recent spike in volatility, we have yet to see enough of a change to merit a truly defensive stance against equity exposure (far from it, in fact!). Second, you can reassure them that you have a proactive plan in place that will adapt when necessary. It is important to mention that we did not see any of our tactical strategies move to cash with the recent drawdown. It is also important to keep in mind that the main objective of each of these strategies is to provide a path to being invested. They are designed to respond to material changes in risk, not to react to the first sign of market turbulence.
These strategies remove emotion from the equation, so that you don’t fret about the correct time to adjust your strategy, whether that means getting more defensive or more offensive. That being said, nothing is perfect nor works all of the time; but in the grand scheme of things, these types of strategies help us ride out normal corrections, but also limit losses in true bear markets. Disciplined investing is not always easy, but it offers clients clarity and peace of mind about what is happening with their money and the opportunity for advisors to offer rules-based risk management within portfolios.
The key is to manage the emotions resulting from a sharp sell-off along with the reality that the weight of technical evidence (via the indicators) supports putting money to work at this time. If you need assistance understanding any of our strategies more in depth or have a question about a certain methodology please click here to contact our team.
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Neither the information within this email, nor any opinion expressed, shall constitute an offer to sell or a solicitation or an offer to buy any securities, commodities or exchange traded products. This article does not purport to be complete description of the securities or commodities, markets or developments to which reference is made.
The relative strength strategy is NOT a guarantee. There may be times where all investments and strategies are unfavorable and depreciate in value. Relative Strength is a measure of price momentum based on historical price activity. Relative Strength is not predictive and there is no assurance that forecasts based on relative strength can be relied upon.
Unless otherwise stated, the returns do not include dividends or all transaction costs. Investors cannot invest directly in an index. Indexes have no fees. Past performance, hypothetical or actual, does not guarantee future results. In all securities trading there is a potential for loss as well as profit. It should not be assumed that recommendations made in the future will be profitable or will equal the performance as shown. Investors should have long-term financial objectives.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.