OVERVIEW
The major U.S. stock averages fell around two percent last week.
The bulk of those losses were centered around small-cap and value stocks, which have fallen the most this year.
International stocks in developed countries fell about four percent, while emerging market stocks did relatively better, falling around 1.3 percent.
March was the most volatile month on record for U.S. stocks. But the good news is that the VIX index (a measure of volatility) continues to decline off its highs.
The yield on the 10-year Treasury Note continued to fall, settling at just under 0.6 percent by the end of the week.
Although high-yield bonds declined, they are off their lows, and investment-grade corporate bonds appear to be holding up after their sell-off a few weeks ago.
Oil had a big week, skyrocketing over 31 percent. Commodities in general, however, continue to suffer. The Bloomberg Commodity index fell 0.83 percent for the week.
The U.S. dollar continues to strengthen relative to other currencies, and it rose about 1.15 percent last week.
KEY CONSIDERATIONS
Have Credit Spreads Peaked? – The economist Alan Blinder has described credit as a coward, “It struts around when times are good and lending risks are low, but runs and hides whenever risk rises.”
In an economic or financial downturn, like the one in 2008 and the one we are currently experiencing, this becomes glaringly apparent.
Why? Because in normal times, the government borrows at what is called the risk-free rate, and all other loans (auto, mortgage, corporate, etc.) are priced with an additional risk premium or spread over that rate to compensate lenders for default risk.
In a crisis, however, credit spreads widen as the expected losses to bondholders rises. When uncertainty is high, investors become nervous, and those spreads can “blow out” (to use the industry jargon) and become excessive. The economy subsequently suffers when credit dries up, and borrowing becomes prohibitively expensive.
As the chart below shows, at the beginning of this crisis, we saw a dramatic widening in spreads for both high-yield (low quality) corporate bonds and investment-grade (high quality) corporate bonds. The flight to safety happened fast, and the perceived risk of default for many firms rose significantly.
However, these spreads have begun to come down off their recent highs. To be sure, they could undoubtedly spike again and reach even higher levels. But if they continue to fall and the last spike was indeed a peak, then it is good news for financial markets going forward.
Death Cross – From a technical standpoint, the price action of the stock market continues to show weakness in some areas.
For example, the S&P 500 index recently formed a “death cross.” It sounds scary, but it just means that the average stock price over the past 50-days has fallen below the average price from the past 200-days. In essence, it is a sign that short-term momentum is slowing.
Historically, this signal has warned of a prolonged downturn in stock prices and a change in the general trend. From what we are experiencing, this certainly feels like the case.
But the signal is not always perfect. This bear market developed at a historically fast pace. And stocks can bounce back just as aggressively as they fell.
Our goal, though, is to manage risk. And the weight of the evidence suggests that the price movement of the stock market remains weak, and risk remains elevated.
This is intended for informational purposes only and should not be used as the primary basis for an investment decision. Consult an advisor for your personal situation.
Indices mentioned are unmanaged, do not incur fees, and cannot be invested into directly.
Past performance does not guarantee future results.