Research.LeutholdGroup

The Fed is hell-bent on generating inflation of 2% or higher in an over-supplied world that we think should probably be experiencing mild deflation. Their success or failure at this mission will be critical for asset allocators. For equity managers who must remain fully invested, however, the more important question might be not whether the Fed can generate higher inflation, but where.

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How can an equity manager possibly keep up with the QQQ—an ETF that’s almost 50% invested in the six largest U.S. companies?

Easy! Own the vehicle that benefits the most from a collapse in global trade volume and an escalating cold war between the U.S. and China—the EEM (iShares MSCI Emerging Markets ETF)!

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As we wade into the waters of second-quarter earnings, muddied by economic shutdowns and suspended guidance, we thought it might be a good exercise to pull back from the “micro” of firm-level beats and misses and examine the “macro” picture that is the Great Earnings Washout of 2020.

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The strong market rebound in the second quarter lifted the relative return of Growth vs. Value to an all-time high by the end of June. Chart 1 reveals that the cumulative S&P 500 Growth / Value return spread hit a new record last month, surpassing the previous high reached at the end of the Tech bubble in June 2000. 

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During the first two months of the rally (and +30%) off the March lows, we noted that the usual cyclical leaders of a new bull market were underperforming on a relative basis, and there had been nothing even close to the “breadth thrust” that often accompanies an initial bull market up-leg.

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Turn on financial television at any random time, and you’re likely to soon hear the argument that still-high U.S. stock market valuations are “justified” by extremely-low interest rates. We’ve countered that these low U.S. rates are simply a reflection of the secular slowdown in economic and earnings growth.

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News that the Bureau of Labor Statistics may have undercounted the May unemployment rate by six percentage points should remind investors of the danger of taking government economic reports too seriously. Regardless of the figure, though, unemployment is no doubt near its peak for the downturn.

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The current rally is either the first upleg of a new bull market, or the second-largest bear market rally in the last 125 years. The lone development that can settle the issue is for the S&P 500 to move above its February 19th closing high of 3,386.15.

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When we first met Steve Leuthold in the old company office in a renovated warehouse, he was updating a several-foot-long chart of either the DJIA or S&P 500, by hand, and we got a brief lecture on the importance of using logarithmic scale on price charts.

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With May Day marches and demonstrations cancelled, the workers of the world have one less opportunity to remind us of the ever-widening wealth gap and the evils of the “Top 1%.” It’s a shame, because this was the year that we active managers would have stood shoulder to shoulder with those protesters voicing our own contempt for the “Top 1%”… of the S&P 500.

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Through last night’s close, the S&P 500 had gained 25.0% in exactly one month. Impressive, but a bit superficial. Anyone running active equity portfolios recognizes the breadth of this move has been unusually narrow.

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We view the coronavirus pandemic as the final straw that tipped an already vulnerable U.S. economy into recession, rather than the watershed event that will change the way we view growth, profitability, and even the nature of work itself. But even economic “optimists” like us need to recognize that the recovery back to last cycle’s earnings peak will be a long and grinding one. There’s a good chance that the four-quarter trailing S&P 500 GAAP Earnings Per Share cycle peak of $139.47 will not be exceeded until 2023 or 2024 (Chart 1).

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We didn’t see the coronavirus coming and, like millions or perhaps billions of others, underestimated its likely economic impact when it began to spread. But stock market risks were high well before the virus hit.

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While the bull didn’t live to see his 11th birthday, this month did mark the anniversary of another historic event: Twenty years ago this week saw the peak bubble-era close in the S&P 500 of 1,527.46. 

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As deep as the losses in the DJIA and S&P 500 have been, most professional investors recognize that those averages have masked the extent of the damage suffered by most stocks.

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While it’s possible that Monday’s S&P 500 low of 2,386 will represent an important trading low, we believe it is too early to expect the market to form a major bear market low.

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The collapse of U.S. Treasury yields and the simultaneous end of the bull market has produced a new all-time record for the S&P 500, albeit under less-than-desirable circumstances.

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In the immortal words of Lloyd Bridges, “Looks like I picked the wrong week to quit drinking.” Let’s put aside this week’s market turmoil and concentrate for a moment on... “concentration.” Market concentration, that is. Close your eyes and think back to those carefree days of mid-February.

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Our recent commentary “1” For The Record Books noted that just one of seven S&P smart beta factors was able to outperform the S&P 500 last year, even though each style basket limits its holdings to constituents of the parent index.

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Super-easy monetary policy has been blamed for the rise in income and wealth inequality in recent years, and more recently we’d fault the Fed for performance inequality within the stock market.

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