Markets Don't Understand the Calendar

Markets Don't Understand the Calendar

Posted on January 04, 2021
Within the next few days, Canterbury will be publishing a video reviewing the markets and portfolio in 2020.  Be on the lookout for an update containing a link to that video.

Did anyone think the markets would be here?
Imagine this: it is the end of March.  Businesses and schools are just beginning to shut down.  Many are being laid off or forced to work from home.  You are being told not to go out to social events, and even being discouraged from seeing your extended family and friends.  The markets?  Well, they just dropped 30-40% in 23 trading days.  Talk about a black swan event.

In a video we published on March 16th, a week before the market’s bottom, Canterbury stated:

Remember, volatility works both ways.  Big declines bring big, oversold rallies.  [Historically], the short-term reactions of shock and fear were also quickly replaced by an equally emotional rally and an eventual resumption to a normal market environment… [market] events like the Coronavirus tend to be short lived… expect short-term panic buying that retraces at least 50% of the overall decline.

When it was least expected, and the news had yet to be its bleakest, the markets retraced 50% of the overall decline in just 3 weeks.  Fast forward through the end of the year, and the market is at an all-time high.  I doubt anyone would have expected the market would be in the place it is now.  The most likely scenario would have been a retest of the old lows following the 50% retracement, or a period of sideways movement, not a straight up move to the old highs.
Coming off the market’s low to the eventual new high, the markets experienced more than 50 outlier days (day beyond +/-1.5%), including a single -6% day back in June and two additional pullbacks of almost -10%.  Up until the last few months, the markets rally had disproportionately fueled by technology.

Where do the markets currently stand?
For the majority of the year, through the large drawdown/trading anomaly and most of the rebound, technology led the markets.  The large S&P 500 names like Apple, Amazon, Facebook, Google, and Microsoft, as well as other tech stocks, prevented the markets from falling further and helped carry the market higher off the lows.

Today, we are starting to see a different story.  While technology is by no means struggling, it no longer holds the market’s leadership.  The past few months have been led by Consumer Discretionary, Industrials, and Financials.
The big story, however, has been the relative weakness of large caps compared to other segments in the market.  Small cap stocks and mid cap stocks, which have been lagging performers compared to large cap stocks, have seen their largest increase in relative strength since the beginning of 2018.  International equities, particularly in the Asia Pacific and Emerging Markets, have also seen some outperformance over the last few months relative to US large caps.   

Treasury bonds have been progressively weaker since the volatility spike back in March and are down -10% in the last 5 months.  The US dollar ranked as lowest currency in 2020 on a risk-adjusted basis.  Gold, which is generally supposed to be inversely correlated to the dollar as a hedge against inflation, has been fairly positively correlated to the dollar in the last few months (since August). This trend may not continue, but in that short timeframe, while equities were strong, Gold saw a peak to trough decline of -14%.

Bottom Line: Where will the markets go from here?
2020 was certainly an interesting year for the markets.  The key to remember is that markets do not understand the calendar.  They do not know the year ends on December 31st and that January 1 is the beginning of a new year.  The game always continues. 

As Yogi Berra says, and we often reiterate, “making predictions is hard, particularly about the future.” 

The broad equity markets are bullish and are seeing some rotations in relative strength that we have not seen in years.  As mentioned before, emerging market stocks as well as small/mid cap stocks are strong right now.  This is a good thing for the markets, but there are a quite few reasons to be mindful.

The first of those reasons, which we had mentioned several times in previous updates, is the weight of technology.  It is not healthy for one individual sector to make up north of 40% of a market index (as it does currently in the S&P 500).  Technology made up 40% back in 2000 prior to a crash.  Financials made up 25% in 2007 (which at the time, was by far the largest component) prior to the financial crisis and 2008 recession.  If, not when, Technology faulters, the market indexes will get dragged down with it.

Another event to be aware of is the fact that we have seen two trading anomalies in the last 3 years, one to end 2018 and the one that occurred in 2020.  Trading anomalies occur coming out of a low volatility environment and are as if the market gets hit in the face with a cold glass of water.  They are an emotional drop, followed by an equally emotional rally and the whole event takes place over a relatively short period of time.  Anomaly, by definition, is something that deviates from what is standard, normal, or expected.  Anomalies are supposed to be rare but have occurred more than once in recent history. 

A true bear market, on the other hand, takes time to develop.  A bear market is a series of lower highs and lower lows and follows a stair-step pattern downward; they are not what we saw back in March/April- a quick “V-shaped” bottom and recovery.  These trading anomalies we have seen in the recent years could be the foreshocks to an eventual bear market. We aren’t saying that is what is occurring right now or that a bear market is coming next week or next month, but be mindful. A bear market will happen.  They always have, and always will.

As of today, the market’s volatility is in a much better place than it was back in March, or even July. This means the market is behaving much more stable than it had been.  This doesn’t mean the market won’t get hit with more volatility, but as of the close of 2020, the markets have calmed down quite a bit.  As time moves forward, an adaptive portfolio strategy, like the Portfolio Thermostat will continue to monitor the markets and make the necessary adjustments to navigate any market environment that may occur- bull or bear.
Canterbury Investment Management: Tom Hardin

More About Tom Hardin

As Chief Investment Officer, Tom has more than 30 years of experience in the investment management industry and has a broad breadth of knowledge. He is known as an innovator, educator and has been revolutionary in the advancements of portfolio and risk management.

Canterbury Investment Management: Tom Hardin

More About Brandon Bischof

Brandon is directly responsible for managing the Canterbury Analytics Group (CAG). To date, Canterbury Analytics Group has played an important role in advancing portfolio management from a loose art form based on subjectivity and obsolete assumptions to an adaptive process with scientific rules and methods capable of providing evidence based results and statistically relevant value add results.

Every effort was used to provide accurate data and mathematical calculations to provide, what we believe to be, accurate results. Canterbury Investment Management, LLC, and its principal owners, make no guarantee of completeness or accuracy of data or calculations as well as conclusions of any statistical data or information contained in the simulation illustrated on this page. Past results or performance is in no way a guarantee of future results.