Does the market have bad Breadth or FANGs?

Let me start by saying that I began writing this article on July 24 and that Netflix released earnings on July 16th and Facebook reported earnings on July 25th.  

An interesting article surfaced a couple of weeks ago from CNBC talking about how off-balance the returns of the most widely followed stock indices have been this year.  Take a look at the chart below.  The article discussed the fact that the vast majority of all returns so far in 2018 can be attributed to just three well-known technology stocks. Those three are Netflix, Microsoft and Amazon.  In addition to these three, another large portion of the returns had been a direct result of Apple and Facebook. Now let me make it clear that the intent of this article is not to bash these companies in any way.  I must admit that either I or someone in my family uses products and services from each one of these companies almost every day.  The point here is to educate you on real life examples of events that occur when investing in stocks.  

Here is an excerpt from the article from July 10th:

Amazon, Netflix and Microsoft together this year are responsible for 71 percent of S&P 500 returns and for 78 percent of Nasdaq 100 returns.

The three stocks make up 35 percent, 21 percent and 15 percent of S&P 500 returns, respectively, while making up 41 percent, 21 percent and 15 percent of Nasdaq 100 returns

 Before I jump into the meat of this story I’d like to introduce a term often used when reviewing market data and an acronym that has gained popularity over the last few years. The term his BREADTH.  Here is a great definition and example from investopedia.com:  The breadth of market indicator is used to gauge the number of stocks advancing and declining for the day. If the breadth indicator is strong, this theory predicts that the market will be rising and vice versa. For example, if a market is comprised of 150 stocks and 95 stocks experience price gains while 55 stocks either experience no change or decline in price, according to the breadth of market theory, the market is currently considered strong.

So, yes, I think the market does have Bad Breadth.

The acronym I’d like to introduce to you is FANG; FANG is simply the first letter of some very popular technology stocks that I’m sure all of you know. Facebook, Apple, Netflix, and Google (a.k.a. Alphabet). 

OK, now to the story...

Shortly after the CNBC article came out, Netflix reported a pretty lousy earnings report on July 16th.  Netflix told us that their subscriber growth missed targets.  Netflix dropped as much as 14% the next day and is currently down 15% since earnings.  About a week later it was Facebook's turn to release earnings.  On July 25th, Facebook dropped a bomb.  They told us they missed revenue guidance and see a slowdown going forward.  I think the following headline pretty much summarizes the point I’d like to get across.

"Facebook's $100 billion-plus rout is the biggest loss in stock market history"

Over the next few days, Facebook stock dropped as much as 23%!  As of today, the stock has recovered a bit but is still down 19% since earnings. 

To be fair, I want to mention that Amazon, Google and Apple all reported good earnings and optimistic forecasts.  The three are all up since the CNBC article came out on July 10th.  Amazon and Google are up ~5% each.  Apple is up ~8%.

At RAA, we believe that it’s vitally important that the majority of your investable assets are placed into a well-diversified and low-cost portfolio of investments. That portfolio should consist of stocks, bonds and alternative investments (discussed last month).

 Within these categories, should be both domestic and international exposure, large companies and small companies, growth (momentum) oriented investments and value oriented investments and exposure to non-correlated assets.  Being non-correlated means that when something zigs in your portfolio, something else should zag.  Make sense?

So, yes, I think the market does have FANGs...in the sense that if you are not careful you can get bit.  

This brings me to the crescendo of the article and a few words of advice. 

Please do not chase returns. 

Just because FANG sounds cool and has performed very well over the past couple of years, does not mean it's for you or you should have all your money in it. 

As famous Fidelity money manager, Peter Lynch would say, 

"Know what you own and why you own it". 

Too many investors simply buy a stock or ETF or mutual fund without really understanding what they own, the risks involved or how it fits into their portfolio.

Get the assistance of a professional

Many of you reading this are already our clients.  Thank you!  We assure you that we work hard to invest your hard-earned money with your goals and best interests in mind.  We do so in a way that aims to grow and protect.  We surely want to help you grow your money.  However, we believe in the premise that one should always invest with a "Margin of Safety". 

For those of you reading that are not our clients, please consider meeting with us for a complimentary review.

Please email us any feedback or questions.

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Market and Economic Commentary

As our POTUS is busy at work negotiating tariffs, are you wondering if it is creating an investment opportunity?

According to BlackRock's most recent Global Weekly Commentary article titled "EM Equities on Sale? by Richard Turnill, there may be something to consider in the Emerging Markets.

Key points:

• EM equity valuations have become disconnected from strong fundamentals, we believe, and offer attractive compensation for risk.
• U.S.-EU trade strife eased after a White House meeting that led to a vow to work toward cutting tariffs and addressing unfair global trade practices.
• A slew of global central bank meetings this week is set to confirm market expectations of an overall gradual tightening of monetary policies.

A shakeout in emerging market (EM) equities has created value in a world where good quality value is scarce. EM equities do face increased tail risks such as tightening financial conditions and ripples from U.S.-China trade tensions. Yet we believe current valuations and strong earnings growth offer investors ample compensation for these risks.

This year’s weakness in EM equities has opened up a disconnect between prices and fundamentals. EM equities have recovered somewhat in recent weeks, yet are still down almost 15% from January peaks. This has left valuations at 11.3 times forward earnings, a shade below their five-year average. Yet forward earnings-per-share (EPS) growth estimates of 13.4% are running well ahead of the average over the same period. EM EPS growth forecasts for both this year and 2019 have been revised up since the start of 2018, implying the outlook for EM stocks may be brighter than what current valuations suggest.

Finding value

Our base case of steady global growth, led by the U.S. and China, a gradual pace of Federal Reserve rate increases and double-digit corporate earnings growth provides a favorable backdrop for markets. Yet uncertainty around the outlook has increased. Escalating trade tensions and fears of U.S. overheating, along with rising interest rates, have contributed to a stronger U.S. dollar and tightening financial conditions. This has hit EM assets the hardest and created pockets of value, in our view.

EM earnings momentum is solid and increasingly broad-based. The median earnings growth for stocks in the MSCI EM Index for 2018 and 2019 is forecast to be 10.1% and 13.6%, respectively. EM earnings growth was disproportionately concentrated in the tech sector in 2017, but eight of 11 sectors are forecast to deliver double-digit earnings growth in 2018. Several other trends underpinning the appeal of EM equities are intact. Our BlackRock Macro GPS points to the global expansion carrying on through 2018. China has shifted from a tightening stance to explicit stimulus – both fiscal and monetary – to stave off any sharp slowdown.

The dollar’s moves have delivered a double-whammy to EM equities this year. Tighter financial conditions stemming from a stronger dollar and higher U.S. rates have hurt assets in countries dependent on dollar funding the hardest, such as in Latin America. See our Emerging market marker. And depreciating EM currencies have dented the appeal of EM equities for dollar-based investors who generally take unhedged positions. There are some signs that pressures from a firmer dollar are abating: Latin American stocks are up 13% from their recent trough and broader EM equity outflows have slowed in recent weeks. Yet EM equities are much more than a dollar play. The EM equity selloff is set against a backdrop of strong fundamentals: Attractive valuations, robust earnings growth and the highest return on equity in four years. Any de-escalation in trade tensions would brighten beaten-down sentiment.

Bottom line:

We still like EM equities, with a preference for Asia. Potential further tightening in financial conditions calls for greater selectivity.

At RAA, we also still believe opportunity exists in EM.  Our approach to investing in this space is threefold.  The core of our approach is through a broad-based low volatility ETF.  We also have entrusted John Carlson, famed Fidelity portfolio manager, with another portion of our EM exposure.  John has a terrific track record running his 5-Star Total Emerging Markets Fund.  Lastly, we own a couple of select individual stocks.  We have recently purchased Ali Baba for our more aggressive portfolios.  Ali Baba is often referred to as the Amazon and PayPal of China.  We have faith in founder and current Chairman, Jack Ma.  Ma is an internet genius and one of the richest men in the world.  We are also a fan of their recent coffee delivery collaboration with Starbucks

As always, if you have feedback or questions, please email us anytime.

BE WELL !!