The Math Is on Investors’ Side

Most baseball fans know that the New York Yankees is the winningest team in MLB history. Of the 18,426 games it’s played since 1901, it’s won 10,378, or about 57 percent of them.

The Yankees have also won the most World Series championships. Between 1903 and 2019, the team has lifted the Commissioner’s Trophy a record 27 times, a win rate of 23.5 percent. (The 1994 World Series was cancelled due to a strike.)

As impressive as this track record is, it doesn’t come close to the U.S. stock market’s.

Over the past 90 years, the S&P 500 Index has ended the year up 61 times, for a win rate of 68 percent, or a little more than two-thirds of the time.

This means, of course, that the market has statistically ended the year down one out of every three times. It’s even rarer for it to sink lower two or more years in a row. This happened in the periods 1929 – 1932, 1939 – 1941, 1973 – 1974 and 2000 – 2001.

The implication of all this is that it’s historically been a winning strategy to bet on high-quality U.S. stocks over the long term. As I shared with you last month, there have been only three major instances when the S&P 500 delivered negative returns for the 10-year period—the two most notable being the Great Depression and the Great Recession. Had you cashed out during any other period after holding your S&P stocks for 10 years or longer, you would have seen a profit.

Thursday’s Stock Correction Was a Non-Event, According to Math

You can probably guess where I’m going with this. Stocks had an incredibly volatile week, following the best 50-day rally in S&P history. On Thursday, the market sold off close to 6 percent, its worst one-day trading session since March 16. The only stock to end in the black was Kroger, essentially flat at 0.4 percent.

Some wonder if we’re in store for a new bear market.

Analysts at LPL Financial addressed this very topic this week. Stocks were extremely overbought, up an astounding 4.78 standard deviations for the 60-day rolling period over the past five years. This flashed a screaming sell signal, and according to the math, a substantial pullback was expected.

The rally that ended on Thursday was “one of the greatest surges off a major low ever,” according to LPL. And when this happened in the past, a drawdown was “perfectly normal.”

Between 1957 and now, in fact, the average drawdown after such a move was minus 10.3 percent. The median drawdown was minus 9.3 percent.

The correction, in other words, was expected. Mean reversion is a powerful indicator we regularly use to detect buy and sell signals.

Long-Term, Stocks Still Look Relatively Calm

Everything I just said applies only to the short term. Over the long term, it’s a different story.

Below is an oscillator chart similar to the one above, but instead of looking at the 60-day trading period over five years, it looks at the year-over-year percent change for the 20-year period.

As you can see, Thursday’s selloff didn’t even amount to a blip. The market was unchanged at 0.35 standard deviations. It was a non-event. So once again, a long-term investment horizon makes sense.

Fed Has Declared War on the COVID-19 Economy

Another reason why I’m still bullish on stocks? The Federal Reserve has declared financial war on the COVID-19 economy. In the words of Jerome Powell, the Fed has “forcefully, proactively and aggressively” utilized every financial weapon at its disposal, from record-low interest rates to unprecedented money-printing.

Many, including myself, have been critical of some of these decisions, but the truth is that Powell & Co. have little other choice. A staggering 93 percent of the world’s economies are now in recession due to the virus, according to the World Bank’s flagship “Global Economics Prospects” report. That’s the largest such share of economies in recession in modern history, greater than the global financial crisis and Great Depression.

Granted, we’re much more globalized today than we were in the 1930s. When one country sneezes, the chances of everyone else catching it are far greater. The same globalization is what also helped the coronavirus spread so quickly and pervasively.

Extraordinary times such as these often call for extraordinary measures, but I don’t believe they’re such that investors should shy away from the market. History has shown that the math is on your side.

Gold Market

This week spot gold closed at $1,731.60, up $46.54 per ounce, or 2.76 percent. Gold stocks, as measured by the NYSE Arca Gold Miners Index, ended the week higher by 0.70 percent. The S&P/TSX Venture Index came in off 0.45 percent. The U.S. Trade-Weighted Dollar rose 0.20 percent.

Date Event Survey Actual Prior
Jun-10 CPI YoY 0.30% 0.10% 0.30%
Jun-10 FOMC Rate Decision (Upper Bound) 0.25% 0.25% 0.25%
Jun-11 PPI Final Demand YoY -1.20% -0.80% -1.20%
Jun-11 Initial Jobless Claims 1550k 1542k 1897k
Jun-14 China Retail Sales YoY -2.30% -7.50%
Jun-16 Germany CPI YoY 0.60% 0.60%
Jun-16 Germany ZEW Survey Expectations 60 51
Jun-16 Germany ZEW Survey Current Situation -83 -93.5
Jun-17 Eurozone CPI Core YoY 0.90% 0.90%
Jun-17 Housing Starts 1100k 891k
Jun-18 Initial Jobless Claims 1295k 1542k

Strengths

  • The best performing precious metal for the week was gold, up 2.78 percent. After its 1.7 percent drop last Friday, gold rose back above $1,700 an ounce this week as investors took advantage of buying the dip. Commerzbank AG analyst Carsten Fritsch told Bloomberg that gold price declines are still seen as a buying opportunity. “Central banks are not expected to reverse their policy of unchecked money-printing. Gold is likely to remain well-supported in this environment.”
  • Gold saw its biggest weekly gain since early April as the worsening economic outlook due to a rising number of COVID-19 infections boosted demand for the haven metal. Stocks had their worst day since March on Thursday, with the Dow plunging more than 1,800 points or almost 7 percent. The yellow metal often moves in the opposite direction of the wider stock market.
  • Gold futures rallied this week after the Fed announced it would keep interest rates lower for longer and reiterated its dovish view. Officials forecast keeping rates near zero through 2022, which is bullish for the yellow metal. Spot gold finished near $1,740 an ounce on Wednesday after the Fed meeting.

Weaknesses

  • The worst performing precious metal for the week was palladium, down 0.77 percent. Gold imports by India fell 99 percent in May, the second straight month of declines, due to COVID-19 restrictions. Bloomberg reports that shipments fell 1.3 tons last month from 105.8 tons a year earlier and follows a record low of just 60 kilograms imported in April.
  • The Perth Mint reported that its gold coin and bar sales totaled just 63,393 ounces in May, down from 120,504 in April. Silver sales were also lower – 997,171 ounces in May versus 2.12 million in April.
  • Due to extreme disruptions to the gold market earlier this year, banks have shifted some positions out of New York futures and into the London over-the-counter market, according to the London Bullion Market Association (LBMA). “The scale of the dislocation has really made everyone ask questions in terms of the ongoing approach of hedging long London, short Comex,” Ruth Crowell, LMBA CEO, said in a phone interview with Bloomberg. “Certainly in the short to medium future, it’s not an even hedge. So they’re having to either go OTC, or they’re reducing their trading appetite.”

Opportunities

  • Artemis Gold is buying the Blackwater Project, one of the largest open-pit gold deposits in Canada, from New Gold, reports Bloomberg. The project has a measured and indicated mineral resources of 9.5 million ounces. Zijin Mining Group is acquiring Guyana Goldfields for a significant premium over what Silvercorp Metals offered in late April.
  • Goldman Sach’s Jeff Currie says gold prices could rise beyond $2,000 an ounce if the Fed tolerates above-target inflation. “While this is not our base case, we see the tail risk of above-target inflation as a potential driver for gold prices beyond $2,000.” Roth Capital said precious metals and related equities could significantly outperform the market in 2020 and peak in 2022. Bloomberg reports that Roth sees gold rising to as much as $2,200 per ounce and silver to as much as $27.50. Analysts say that the Fed buying debt and inflating its balance sheet, coupled with the government printing money, bodes well for precious metals and their equities.
  • HSBC chief precious metals analyst James Steel said in a note this week that silver could see further gains in this year and next as coin and bar demand “may rise further as investors seek out hard assets.” Although the 2020 forecast was lowered, the bank forecasts a supply deficit of 154 million ounces amid virus disruptions to mining.

Threats

  • The five biggest diamond miners are stuck with inventories worth around $3.5 billion, according to Bloomberg. De Beers, the largest, sold just $35 million of stones in May, down from $416 in sales the same period a year ago. Societe Generale said diamond miners are facing “a double whammy of weak prices and a sharp decline in sales volumes on a scale reminiscent of the 2008-09 crisis.”
  • South Africa’s mining output fell the most since at least 1981 in April when almost all economic activity was brought to a halt to curb the spread of the coronavirus. Statistics South Africa reported that total production fell 47.3 percent from a year earlier, compared with just an 18 percent decrease in March.
  • COVID-19 infections are rising rapidly in several U.S. states after lockdown measures were eased or removed in May. This could spur another round of lockdowns and spell trouble for the industry, again. The gold market disruptions were largely driven by a lack of commercial flights and the closure of refineries. If another global lockdown is enacted, some miners could see the closures of projects just weeks after reopening.

 

Index Summary

  • The major market indices finished down this week. The Dow Jones Industrial Average lost 5.55 percent. The S&P 500 Stock Index fell 4.71 percent, while the Nasdaq Composite fell 2.30 percent. The Russell 2000 small capitalization index lost 7.93 percent this week.
  • The Hang Seng Composite lost 1.39 percent this week; while Taiwan was down 0.43 percent and the KOSPI fell 2.27 percent.
  • The 10-year Treasury bond yield fell 2 basis points to 0.709 percent.

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June 12, 2020

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