Last week I put out two reports. The normal Wednesday piece and another on Friday to go over what has been going on and make sure that some perspective is being understood. Peak-to-trough, the S&P 500 has fallen 10% over a three-week-plus period. This is the worst decline that has been experienced in some time and given that it comes on the heels of two back-to-back 20% return years, it makes it especially discomforting. In my view, it is important to recognize that as disruptive as change can feel day to day in its early stages it’s important to recognize that a successful outcome can mean “where we are today is not likely to be where we will be tomorrow.” The process of addressing problems and making progress is seldom, if ever, a smooth and easy road to travel. Reality bites and bites hard when material changes are involved to address things such as a need for a change in the scale of government in size and cost that’s originally sourced in long accepted bipartisan practices. For this reason, the “tariff noise” needs t be quantified with the long-term effect of giving them the attention they deserve.
In reviewing the markets, there seems to be a changing of the guard. The large growth leaders often affectionately termed the Magnificent 7 have gone from leaders to laggards. Does this mean that they are done growing as they have been, or something else. If one is an investor in the stock market, it would be strange if you have never heard of the companies in this group. The reason that I say this is that possibly there are few left to buy them. Quite possibly all that will own them already do. So, if there is a changing of leadership funds will either come off the sidelines or from another place that money is already invested. Assuming that money will stay in safety on the sidelines as there are now fears about possible recession in the future, this would mean that money would need to come from the sale of existing portfolios. This appears to be what we are currently experiencing.
One thing that must be remembered is just like seasons and relationships, there are periods of time that are not so fun, and it is just part of the natural cycle of things. As I've shown a number of times this year in past missives, an average max drawdown in a positive year of 11% over nine-weeks is something that is "normal." Clearly this year is not "normal" but seldom is it when it is the first three months of a new Presidential administration. I'm going to again include the action that we are experiencing in this first three months overlayed on the typical first year presidential terms going all the way back to 1928. My point in doing this is to once again say that this is no different than what normally occurs, it is just that with the media being so in our daily lives through many different and new mediums, President Trump and his rather shocking way of delivering his messages often times makes a difficult market time seem even more disconcerting.
Looking at this chart and paying attention to time and scope of this pullback leads us to believe that the majority of this correction’s downside has been achieved in terms of magnitude, not necessarily in terms of duration. I say this because if this correction were to have much deeper decline left in it, normally there would have to not only be terrible recessionary economic conditions in place, but there would also need to be virtually no room for the Fed to assist in the form of either additional Quantitative Easing or simply lowering interest rates which tends to be almost immediately stimulative to the economy. Since the high of February 19th, the value of the entire S&P 500 has dropped from $52.056 Trillion to $46.78 Trillion. This is a decline of over $5 Trillion dollars. This is exponentially greater than the entire trade of the US with China, Canada, and Mexico to be sure. Tariff regimes that have for decades placed US manufacturing and its employees at a disadvantage in global competition are front and center in the new administration’s efforts.Changes made and proposed thus far that might actually be positive for the nation present and future in a world that many believe has taken advantage of the largesse and latitude the US has given not only its trading partners but its allies for generations since World War II are front and center to the markets concerns at this time.
Today we will get comments from Fed Chair Powell, which I believe should be consistent with his normal commentary about what the Fed pays attention to in labor and what economic indicators. I don’t expect him to cut rates this week, but I do expect him to give very candid commentary on the current statis of the labor market and current inflation readings.
With the markets showing a recognizable bounce on Friday for no reasons other than the rubber band seemed to be stretched, I wanted to address some notable signals last week that tend to be road markers in a typical end of a digestive period. Without going into individual companies' price levels and technical chart formations, it should be recognized that many of the companies that tended to lead in the advance since the October 2022 lows seemed to be included in those that have experienced greater than the market level pullback. Also included is the Investors Intelligence sentiment report showing bearish respondents (34.5%) outnumbering those that are bullish (27.6%) for the first time since October 2022.
Again, just because the Investors Intelligence numbers have reached a level that tends to be in the range of a turning point, it doesn't necessarily mean that the ultimate lows are in, but rather that the veracity of the decline is abating. Low optimism and oversold readings can linger through the course of a down cycle. Still, we see this as an eventual positive that supports the last leg of this upcycle into the summer months. One of the important numbers of 2025 is the length of time, in months, that this bull cycle has been in place. This measure is then compared in total length, going back to all bull cycles since 1932. 32 months marks the median duration of a bull market cycle since 1932. In addition, the median S&P 500 gain has been 73% over this period. In our current bull cycle, the S&P gained 76% over the 28 months between its October 2022 low and February 2025 peak. This is the reason some have argued the S&P has reached fair-value for an average bull market. This may be the case, but now the market should exhibit some different characteristics before this can be said with a high degree of confidence.
Bottom Line: What are we looking at going forward?
Recession is not my expectation. But we acknowledge that the backdrop can unravel quickly and change that outlook.
- Looking just at the US: what am I watching?
- The economic data – and specifically the labor market.
- A precipitous deterioration in the labor market would be a huge red flag.
- Particularly as it won’t take much in the way of layoffs to translate to soft payrolls figures and upward movement in the unemployment rate, given the anemic pace of hiring.
- The Fed and their balance of risks.
- The recent “stickiness” in inflation has shifted their focus from the labor side of the mandate back to the inflation side.
- Persistent uncertainty, with respect to trade policy, is keeping the Fed sidelined leading to further passive tightening.
- Watch for this shift in Powell’s language and/or the verbiage he uses.
- Corporate earnings/commentary/revisions.
- Prices lead earnings, but markets have a habit of overreacting.
- But if earnings begin to roll over, then we have a bigger problem.
- A pause or delay is very different than a deterioration.
- Trump policy pivot.
- The market desperately wants the Trump Put to emerge.
- And this likely means softer rhetoric on the tariff front, as well as DOGE.
- We could see a softer tone on tariffs emerge.
If the market were to bounce, it either bounces to a new overall high in the markets, which would reset the entire time period measurement, or it would try to go up, lose internal strength, and then go back down. This is where things get interesting. If it should then go back down and go to a lower low than seen last week, it would imply that there is more damage to be done, and a greater defensive posture should be considered. Of course, there are numerous circumstances for everyone personally to be considered to make this decision, but from a pure market analysis perspective this is what could occur. Looking at the first chart in this note once again, it should be noted that typically in the first year of a new President's term the markets have a tough time through March, rally into late summer and then have a later year digestion once again. This would rhyme with what happened in 1990 according to Ari Wald. According to Ari, if the 2025 market should resemble the 1990 market, the low that we experienced this far would be a temporary low, to be followed by a steady climb to a new high and then a new lower low into October or maybe the first quarter of 2026. This is pretty far out to predict, but I will keep this information close at hand to see if any more similarities come to pass. At present, the market has corrected. It is attempting to stabilize. The question becomes on the bounce higher, where could the market run into additional selling pressure. We will pay close attention to interest rates, economic data / commentary, and of course what Fed Chair Powell has to say this afternoon.
Lastly, stocks fell 10% in 20 calendar days. This is the 5th fastest ever in the past 75 years. We think stocks have overreacted to the downside. This is also evidenced by looking at the 6 precedent cases where stocks fell 10% in less than 20 days since 1950:
– 2/27/20 8 days- COVID
– 2/8/18 13 days- Trade War 1.0
– 10/11/55 18 days- Eisenhower heart attack
– 6/29/50 17 days- Korean War
– 10/25/79 20 days- Volcker Shock
– 10/27/97 20 days- Asian Financial Crisis
Each of the above was a “fire ready aim” moment, especially the start of the pandemic. At that time, equities fell 10% in only 8 trading days. As shown below, the stock market was higher 1M, 3M, 6M and 12M later:
– 5 of 6 times, higher 1M later (except covid)
– 6 of 6 times, higher 3M later, median gain 9%
– 6 of 6 times, higher 6M later, median gain 15%
– 6 of 6 times, higher 12M later, median gain 21%
Only time will tell, but we will be here at the ready to take advantage of opportunities as we see them arise. We will also seek safety should we feel there is a lengthy storm on the horizon.
- Ken South, Tower 68 Financial Advisors, Newport Beach
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