Have We Reached the Bottom? | ETF Trends

By Veronica Fulton, Research Analyst

The key question on everyone’s mind is – “Is this the bottom?” It is no secret that based on some indicators – most notably the S&P 500 being more than 20% below its all-time high – we have experienced a significant market correction. History tells us corrections offer an opportune time for investors with a longer time horizon to put money into the market. With only 2% of stocks in the S&P 500 trading above their 50-day moving average, and valuation multiples compressed, it would seem that investors might be ready to “buy the dip”! Discipline tells us to buy at the absolute lowest point to minimize downside risk and maximize upside potential. Have we reached that point?

Our team takes a holistic view of the markets to answer these types of questions. The critical components of our process include: Fundamentals – macro-related events that influence market behavior, Technicals – analysis of trends that gives us insight into investor behavior and sentiment, and Quantitative – scoring/ranking assets based on factors and other relative measures.

Fundamentally, we believe three key forces are driving the market, and until they change course, we surmise we will continue to see further weakness.

The first is rising interest rates, which continue to put downward pressure on both bond and equity prices– we’ve recently written on this.

The second is the rise in the dollar. As the dollar is the safe-haven currency, these recent bouts of strength have put pressure on international economies as foreign investors scramble to sell their currency to buy dollars to service U.S. dollar-denominated debt. Japan is a more extreme case where the stronger dollar and global rise in yields is having a compounding effect. The yen has now reached a decades-long low versus the dollar. Simultaneously, the country is facing the consequences of being committed to easy monetary policy while the rest of the global economy is tightening. This past week, the Bank of Japan had to purchase over $80 billion dollars in Japanese government bonds to defend its self-imposed rate ceiling. This type of strain on the global economy is likely unsustainable.

Lastly, the elephant in the room – energy. Years of global underinvestment in new oil discoveries combined with policies incentivizing green energy have reduced oil exploration and refinery expansion in the U.S. Currently, the Russia/Ukraine war is acting as an accelerant, further reducing supply. Events have driven oil prices higher in a global environment where demand for energy is surging as economies open back up. This energy crisis has been one of the primary drivers of inflation. Inflation has caused the Fed to respond aggressively which has, in turn, inverted the yield curve, sucked liquidity out of the market, and slowed economic growth. Simply put, we believe the market cannot see new highs until energy prices are tamed.

In recent days, we’ve seen some evidence that these three factors are cooling down, but until there is more conviction, we believe any attempt the market makes to rally may be transitory.

Technicians often wrestle with differentiating between an oversold bounce and a significant market low. With our technical indicators, we are looking for clear signs of capitulation. Some breadth indicators, such as the percentage of NYSE stocks above their 200-day moving average are low and sitting at levels that historically indicate buying opportunities. However, many other indicators still have not reached washed-out levels – namely higher put/call ratios, VIX readings above 40, the increases in volume selling of the large market-cap names and widening credit spreads would be more indicative of capitulation. Admittedly, we could see the market bottom before every one of these items is checked off, but we do believe more evidence is needed.

Quantitatively, GLOBALT’S proprietary model ranks asset classes based on a combination of momentum, downside deviation and external factors. Currently, cash is in first place when ranked against U.S. bonds, international equity, U.S. equity and REITs – the model is suggesting the coast isn’t entirely clear as there’s still greater downside risk across asset classes.

None of these components singlehandedly lead us to adjust positioning, but when combined they’ve proven to be a powerful tool in navigating markets and answering timely questions. Based on our work, for us to have arrived at a bottom with conviction, certain things we’ve mentioned – yields, dollar, energy, and technical indicators must first peak. We are not there yet.

Sources: Dorsey Wright, FactSet, Ned Davis Research, Oppenheimer, Strategas

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