Last week’s data was critical. There were Treasury announcements, Federal Reserve meetings, macroeconomic data, and the largest week of earnings season so far. However, arguably the most important data point was the S&P 500* value to close January. The index closed January at 4,855, or up about 1.6% for the year so far (even after the Fed tried to pour cold water on the market last Wednesday by not hinting at rate cuts just yet).
This is important because the full year often tends to play out in January. Over the past 74 years, when the previous year produced a gain of 15.0% or more AND the following January was positive, the full-year median return is 16.3% with positive gains in 92.0% of all cases:
The exception was 2018, when the Federal Reserve got it wrong by going into autopilot mode, leading to overtightening:
Hopefully that overtightening doesn’t happen again. Last week the Fed said it would leave interest rates unchanged and signaled it’s done raising interest rates, which aligns with both ours and Goldman Sachs’ analysis about removing hiking language:
The Fed’s communication evolution around expected interest rate cuts is telling. Oddly enough, some economists are now starting to worry we could undershoot the targeted 2.0% inflation trajectory. The source of these fears is accelerating weakness in autos and housing. So, it makes sense for the Fed to keep shifting its views and begin to provide a framework for the expected interest rate cuts in the future.
Let’s circle back to the adage, “As January goes, so goes the year.” Seasonality varies throughout the year (see chart below). But one thing is certain from a historical perspective: October through January tends to be the strongest time for the market, whereas February and September tend to be weak months.
This aligns with our expectations. Those include seasonal weakness in conjunction with a risk-off mentality due to the election year that produces some dips after the recent market highs. Typically, this weakness is exasperated in the last two weeks of February, not the first two weeks.
It’s prudent to point out how last year was remarkably consistent relative to long-term seasonality patterns. Sitting here today, we wonder if it could happen again this year.
Time will tell, of course. Still, the seasonality expectation in January's performance serves as a strong barometer that 2024 could be another positive year for U.S. stocks.
Obviously, calling 2024 a win for markets already is premature. We must be mindful of risks. So, let’s highlight a few wild cards currently in the mix while also keeping in mind what we don’t know we don’t know (i.e., there could always be hidden Black Swans out there).
Up first is the geopolitical situation in the Middle East, especially as the Houthis in Yemen are continuing to make passage through the Suez Canal difficult. That’s a significant hindrance on global trade that lengthens shipping, adding cost.
The second wild card is China. We’re keenly watching the increased selling in Chinese stock markets. The trend has garnered so much attention that the Chinese government intends to give government entities around $280 billion to buy stocks and stabilize the market.
This economic weakness is exasperated by China’s ever-growing real estate troubles. Simply put, the Chinese real estate market is making both the economy and Chinese citizens’ net worths plummet.
Make no mistake, the problem is significant. Larry Hu, the chief China economist at Macquarie, said, “To predict China's economic performance pretty much equates to predicting when the housing market will bottom out.”
The Chinese government tried similar economic bailouts in 2015. But even then, it produced no tangible results other than a feeble rally that ultimately made lower lows. In our opinion, if the Chinese economy is about to experience a recession, it’s long overdue, and market intervention by the Chinese government will fail.
This is exactly why we’ve avoided equities in China and other developing nations for years. If the Chinese are indeed headed for recession, this event will be profoundly deflationary for the global economy and actually give the Fed more ammunition to lower interest rates. If so, it would likely be good for U.S. stocks over time.
Now let’s turn to equity market data and the trusty Big Money Index (BMI) from MAPsignals. The BMI is a 25-day moving average of “big money” professional investor buys and sells. It hit overbought territory on Dec. 14, 2024, and has stayed elevated:
The historical average duration for the BMI being overbought is 22 days. We’re past that now, but it can stay elevated for a while, although we are close to falling below overbought now. In fact, the longest overbought period on record wasn’t that long ago – in 2020 the BMI stayed overbought for 84 trading days, from May 5-Sept. 2.
Going overbought isn't that bad though. Forward returns afterwards are positive:
Our readers know that it's when the BMI falls below 80.0% that we should expect near-term volatility (mid-February?). That said, the BMI being overbought is long-term constructive for the markets because it means demand is outstripping supply.
Put another way, it means there's more unusual buying than selling. If we look at stocks being bought since November, there are clearly more green shoots (buys) than red ones (sells):
There's been heavy demand in stocks of all sizes for some time (see charts below). This is healthy and bullish because the engines of growth for economies and markets are healthiest when small companies expand.
Sector-wise, investors are seeking growth areas like technology, financials, and industrials. That’s true in the short term (left chart) and over time (right chart):
Who is buying? “Big money” investors.
What are they buying? Growth stocks, including small- and mid-caps.
Where's the money going? To technology, financials, industrials, and discretionary companies.
When has this been happening? It started in November 2023 and continues today.
Why is “big money” buying? This is open to interpretation. But when viewed through a lens of positive equity market data, it’s not too much of a logical leap to think the buying stems from forward looking bullishness.
While the BMI will eventually fall from overbought territory, we don't know when. So, we'll continue to ride this wave until it peaks.
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* The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market.
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