Liz Ann Sonders: Teflon Market

Liz Ann Sonders: Teflon Market




by Liz Ann Sonders, Brad Sorensen, Jeffrey Kleintop, Charles Schwab & Co, Inc.

Calm, Confident…Complacent?

Nothing seems to be able to phase the stock market recently. Political infighting, Presidential tweets, North Korean missile launches, oil falling below $50, European political uncertainty, higher bond yields, and the Fed raising rates: none of those forces have knocked stocks off their recent uptrend. Volatility has remained remarkably low for an extended period, and the S&P 500 hasn't seen a 1% down day since October 11, 2016—the second longest span in history. Remarkably, at this stage of the eight-year bull market (reached on March 9), stock gains have accelerated in recent months while volatility has declined.

Volatility remains low

Volatility remains low

Source: FactSet, Chicago Board Options Exchange. As of Mar. 14, 2017.

As stocks continue to move higher

As stocks continue to move higher

Source: FactSet, Standard & Poor's. As of Mar. 14, 2017.

Just when we were starting to get concerned about the potential of a true "melt-up" in U.S. stocks, the indexes trended sideways to slightly lower during the first two weeks in March, allowing the prior gains to be digested, and for sentiment conditions to ease a bit. According to the Ned Davis Research (NDR) Daily Trading Sentiment Composite, investor sentiment moved back into neutral territory recently, easing concerns about a near-term, sentiment-driven pullback. But is this the calm before the storm?

This period of calm isn't going to last forever, and we caution investors to remain disciplined around diversification and rebalancing. Part of the reason for the depressed volatility may be the rise in passive investing—index funds don't move in and out of stocks nearly as much as actively managed funds do. That trend may be reversing, which would likely increase volatility (read details of our thinking at "Radioactive: Is Passive's Dominance Over Active Set to Wane?" by Liz Ann Sonders). Additionally, political rancor, foreign election uncertainty, geopolitical tensions, and a more hawkish Federal Reserve all have the chance to contribute to a pullback. We have made a couple of moves in an attempt to allow portfolio gains from stocks to continue, while potentially providing a bit of a buffer against the possibility of an uptick in volatility. We remain overweight to U.S. stocks as we believe the bull market continues, but we recently shifted to a large cap bias (read details in "Big Machine: Why Large Caps Are Likely to Outperform"). Additionally, on the sector front, we added the health care sector to our outperform ratings, adding the potential of a little defense in a largely cyclically-bullish tactical bent (read more about health care here).

Well-deserved confidence?

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