On Monday, January 27, fears that the deadly coronavirus would spread further around the globe intensified and led to a 1.6% drop in the S&P 500 Index, the biggest one-day drop in the index since October 8, 2019. It was the first time the index had moved 1% in either direction since October 8—spanning 71 trading days— and ended a historically long 30-day streak without back-to-back declines. The eerie calm was bound to end at some point, and the virus outbreak did the trick. Selling pressure then intensified Friday.
Wall Street has often called this the most hated bull market in history, and for good reason. Even though this bull market is the longest on record, it has been the third-slowest expansion since 1950 based on annualized
growth. While slow and steady price appreciation has been frustrating at times, stocks’ gradual ascent has helped sustain consistent gains for 129 months and kept sentiment in check.
Fourth quarter earnings season kicked off last week with 24 S&P 500 Index companies reporting fourth quarter results. The market’s reception to the first batch of results was mostly positive, particularly for several of the big banks. The percentage of companies beating consensus estimates (74%) and the average magnitude of positive surprises (4%) compared favorably to recent trends.
These latest developments in the Middle East understandably have many investors on edge. As market
strategists, we face the difficult task of separating the human toll from the economic and financial toll—never easy when lives are lost in times of geopolitical conflict.
For investors, the good news is the stock market has a long history of shrugging off significant and unsettling geopolitical events. As serious as this escalation and the prospect of war with Iran are, previous experiences have shown us these developments may not have much impact on U.S. economic fundamentals or corporate profits. That means any resulting stock market volatility may be fleeting, as was the case last week.
The S&P 500 Index embarked on a historically long rally last decade. At the end of 2009, the benchmark was nine months into what would become the longest bull market on record (129 months and counting). Since then, the S&P 500’s price has almost tripled, riding a wave of economic growth, improved earnings, muted inflation, and central bank accommodation.
However, the equities rally has been slow and steady compared to history, even with a few strong years mixed in. The S&P 500 has grown at an 11.2% annualized rate over the past 10 years, the fourth-slowest pace among all decades since 1950. Though the growth rate trailed other decades, price appreciation closer to long-term averages helped keep sentiment in check and sustain the bull market [Figure 1].
In December 2018, the stock market threw a tantrum that came perilously close to ending the bull market, based on the most widely used definition: a 20% decline on S&P 500 Index closing prices. Stocks fell on a combination of global growth fears, trade uncertainty, and concerns that the Federal Reserve (Fed) had hiked interest rates one too many times. On December 24, 2018, the S&P 500 closed 19.8% below its September 20 closing price, coming within a fraction of a point of ending what has become the longest bull market ever.
In 2019, expanding valuations drove gains for stocks; in 2020, we expect earnings to do the heavy lifting. Better clarity on trade may help drive increased business spending and more productivity, which we think will lead to stronger earnings growth in 2020. We are encouraged by the additional clarity companies now have as a result of the trade pact reached with China December 13.
One of our biggest challenges in 2019 was explaining the bond market’s baffling signals. Many firms— including ours—kicked off 2019 with expectations of rising rates after the Federal Reserve’s (Fed) December 2018 rate hike.
Then, the macroeconomic environment made a turn. Trade tensions between the United States and China intensified, and global economic data deteriorated. Global fixed income investors turned to U.S. Treasuries for income, safety, and liquidity, adding more pressure on yields. The 10-year U.S. Treasury yield fell to a three-year low of 1.46% on September 4, and the Treasury yield curve inverted (long-term yields falling below short-term yields)
. As this happened, we emphasized in our communications that the bond market was becoming disconnected from U.S. economic fundamentals. Thankfully, the Fed eased tensions with three straight rate cuts from July to October. Policymakers’ actions seem to have renewed investors’ confidence.
The U.S. economy has made it out of a volatile year relatively unscathed, based on data we’ve seen. Gross domestic product (GDP) grew an average of 2.4% in the first three quarters of 2019, higher than the 2.3% average quarterly growth in this 10-year economic expansion [Figure 2]. Output growth was helped by strong consumer spending, an uptick in government spending, and improved housing demand. Businesses held onto their cash, capital expenditures (capex) growth stalled, and non-residential investment dragged on secondand third-quarter GDP.
The S&P 500 Index is currently on pace for its best year since 2013, up more than 25%. However, technical analysis is based on the idea that a market in motion may stay in motion, and six of the last seven times the index gained more than 20%, the following year saw double-digit gains. Context is also important, so while year-to-date numbers might look large, the index has gained only 9% since the January 2018 peak. In addition, and in contrast to moves earlier in the year, more cyclical sectors have been leading the market higher, with financials, industrials, and technology the top-performing sectors over the past three months. Finally, seasonality also may be a tailwind, with the November through April period historically representing the best six-month period for stocks, on average.