Last quarter we wrote about all the market records achieved in 2017: A record number of new highs during the year, the lowest volatility with 95% of trading sessions having less than a 1% intraday move, a record 14 consecutive months up and, there were many more. We also reminded our clients, “A normal “backing and filling”, profit taking correction will happen. The question is always from what level. We continue to advise that as long as the big picture fundamentals do not change, a correction will actually be healthy longer term and is an opportunity, not a reason to panic.”
Well, ten days after the last Quarterly Market Update, the market reached the high to date and the first overdue correction was upon us. Starting on January 29th, the market fell sharply to the current correction low of February 9th. From the intraday high on January 26th to the intraday low on February 9th, the S&P500 lost 11.8%. Corrections are always fast and furious as fear and emotions rule the day. Corrections definitely test investor fortitude. In the first quarter, we put two memos on the Latest News section of our website to communicate our thoughts. We encourage you to subscribe to Latest News so you will automatically receive an email anytime we post to it.
In these memos and now, we remind you that we believe patience will be rewarded again and that emotional decisions are almost always proven wrong in hindsight. Corrections are a normal process within a longer term bull market. Keep in mind that during this bull market we have had twelve 5-10% pullbacks since 2009 and yet the market recovered each time and made new highs within a relatively short period of time. Let’s look at the last time the market fell over 10% as an example. In January 2016, the DJIA lost almost 13% in just three weeks. It fully recovered by the end of March just a couple of months later. It is also interesting to note that the DJIA low during that correction was 15451 but now, as of this writing, it is trading over 24500. Emotional decisions at that time would have been extremely costly in terms of opportunity cost. Once again, we strongly believe patience will be rewarded this time too.
Uncertainty versus fundamentals: The market does not like uncertainty and there is a lot of head wind right now. We have been faced with an unwinding of volatility derivative trades, trade tariffs and the threat of a trade war and recently, the attack on the technology sector which had provided market leadership. Over time however, fundamentals always win. Underlying market fundamentals remain good and in fact are improving. Corporate earnings are expected to grow in 2018 even significantly more than last year and corporate cash flow is strong. Signs are that economic growth is simultaneously accelerating domestically and worldwide. We believe that the economic and corporate earnings power provided by tax reform is underestimated and that trade tariff sabre rattling will abate in time.
Some stats based on the strong start to the year: When January is up, the market has ended the year higher 86.8% of the time since 1950. When January is up at least 4% as it was this year, the market has ended the year in the green 100% of the time. When the DJIA ends a year up 25% or more, the market ends the next year higher 8 out of 10 times with an average gain of 12.6%. We recently have made what appears to be a successful test of the February low and believe the market bulls will regain control soon. Stay patient and stay tuned for further updates.
Royal Fund Management, LLC
