The Bull Thread

Country Small-Cap ETFs
Tue, Aug 20, 2024

Small-caps in the US have been extreme laggards compared to large-caps over the last couple of years, but what about small-caps in other countries? Below is a look at the price change (%) of seven small-cap country ETFs since February 2012 (the first point in which all seven were available).

The Russell 2,000 small-cap US ETF (IWM) is up 159.9% over these 12+ years, and only India small-caps (SMIN) have done better with a gain of 222.8%. India small-caps only recently took the lead on the US with a big jump higher over the last 18 months or so.

Small-caps in other countries have been poor options for US investors relative to owning something like the S&P 500 ETF (SPY). The Europe small-cap (IEUS) and Japan small-cap (SCJ) ETFs are up 68.2% and 63.9%, respectively, since February 2012, while the UK small-cap ETF (EWUS) is up 38.8%.

Small-cap ETFs for China (ECNS) and Brazil (EWZS) are flat-out negative over this extended 12+ year time frame with China down 41% and Brazil down 50%.

If you've been lamenting the lagging performance of US small-caps, it could have been worse!

 

Th

 

Long Win Streaks Happen in Bull Markets


“We’re going streaking! We’re going up the quad and to the gymnasium.” -Frank the Tank in Old School

The fears of two weeks ago have significantly calmed down and stocks are now streaking. Unlike watching Frank the Tank, we all want to see these streaks.

The S&P 500 was higher all five days of the week last week, last seen in November of last year, something we call a perfect week. But what stood out was stocks saw big gains during the win streak as well, up nearly 4% for the best week of the year. The last two times we had a perfect week, and stocks were up close to 4% for the week? February 2021 and November 2023, which saw the S&P 500 higher six months later 14.1% and 19.0%, respectively.

Even more impressive though is stocks saw their second 7-day win streak of the year, which is quite rare. I found 12 other years that had multiple 7-day win streaks and on average the year gained 18.2%.



What does a 7-day win streak mean? The bottom line is they rarely happen in bear markets and are another clue we are in a bull market. Going back to 1990 we found this was the 33rd 7-day win streak. The near-term returns could suggest things are a tad stretched, but longer-term above average gains are likely, up a median of nearly 12% a year later and higher 83% of the time, both well above the at-any-time 12 month returns.



What stood out about this 7-day rally though was how strong it was. There have been plenty of 7-day rallies with small gains the whole time, whereas this one gained nearly 7% during the win streak. In fact, this was the best 7-day win streak return (6.8%) since March 2003 and the start of that bull market!

Looking at previous 7-day win streaks that gained at least 6% or more showed again better than average future returns. Up 5.7% on average three months later, up more than 10% six months later and up a median of 17.5% a year later. Once again, moves like this don’t happen in bear markets historically and they rarely mark the end of the bull market.



I’m writing this blog on Monday after, but it appears stocks indeed did close higher once again on Monday, running the win streak to an incredible 8 days in a row. This rare feat was last accomplished in 2021. What investors need to know is previous years this happened those years saw substantial gains during the calendar year, again suggesting we are in a bull market.



I’ll leave you with two things to think about. First off, this year looks a lot like last year, like a lot. If this continues we aren’t out of the woods just yet. My take is to be aware we have the seasonally weak September and October coming up, along with the election, so more volatility and scary headlines would be perfectly normal.



Inverted yield curves, uninverted yield curves, weak LEIs, weak manufacturing purchasing manager surveys, weak consumer confidence, the Sahm Rule triggering, the Federal Reserve (Fed) behind the curve in cutting, a weakening labor market, the yen carry trade unwinding, and more have all been in the headlines the past few weeks. Yet stocks are a few good days away from now highs, how is this possible? Earnings, it is all about earnings. We are wrapping up another solid earnings season and future 12-month expected earnings are at another record. Yes, this could change at any time, but we continue to expect upside surprises, as the economy is likely only in a midcycle slowdown currently and could expand going forward, thus avoiding a recession.

 

Bulls Take Off
Thu, Aug 22, 2024

Even though the rally in the S&P 500 lost steam over the past week, sentiment has soared. The latest weekly survey from The American Association of Individual Investors (AAII) showed 51.6% of respondents reported as bullish, up from 42.5% in the week prior. That's the first time in five weeks that the majority of respondents have been bullish.



Considering there was an even more elevated reading of bullish sentiment only a little over a month ago, it is worth mentioning how optimism has been consistently elevated recently. As shown below, a one-year rolling average of bullish sentiment shows that this week's reading increased to 42.5% - the highest reading since October 2007. It is also a quick turnaround versus various points last year when it was down around the lowest levels on record.



While bullish sentiment is elevated, less than a quarter of respondents considered themselves bearish. At 23.7%, this week's reading was also the lowest in five weeks. That's also a quick turnaround from the more elevated reading of 37.5% reached only two weeks ago, and the 13.8 percentage point drop over the past two weeks is the largest decline in such a span since the week of November 16, 2023.



Those corresponding moves to bullish and bearish sentiment resulted in the bull-bear spread rising to 27.9. Based on the comparisons to bullish and bearish sentiment, again this is the most elevated reading in five weeks. Zooming out, that reading is elevated ranking in the 88th percentile of all weeks since the start of the survey in 1987.

 

Factor Investing in 2024


Investment factors are characteristics of securities that explain their risk and return profiles over time. Factors such as value (buying inexpensive stocks), momentum (systematically owning recent outperformers), quality (high margin, low debt, high return on capital businesses), minimum/low volatility (stocks exhibiting lower beta or standard deviation), and size (small caps- lower market cap stocks), have historically been rewarded over time. These factors have outperformed the broader market-cap weighted index through various cycles, as you can see in the chart below. There has been a spread of more than 15% on an annual basis between the best and worst performing factor, and the best performing factor on a given year has outperformed the parent index by nearly 9%. With this kind of dispersion, harnessing the power of factor investing has been a long-sought after objective of many investors, and a long-standing approach to investing at Carson.



Sources: Carson Investment Research, Morningstar, MSCI 8/19/2024

Factors can generally be thought of in two ways – return enhancing or risk reducing. Occasionally, a certain factor can represent both, but that may not be a lasting or reliable situation. The chart below looks at one way to display this characteristic. On the left-hand side we have upside capture, measured by the degree to which each factor outperforms the parent index (MSCI USA) when it is positive on a monthly basis going back 20 years. The opposite is true for downside capture. As you can see, factors such as value and small cap fit clearly in the return-enhancing camp, and quality and minimum volatility fall more into the risk-reducing camp. Momentum can behave like any of these other factors depending on what is working and what the environment looks like.



Sources: Morningstar, MSCI 20-year period ending 7/31/2024



We provide a number of strategies that take advantage of the risk premiums provided by factors. These can be categorized in a couple different ways as it pertains to our investment platform:

• Single Factor ETFs

There are a number of ETFs that target a single factor, and many are passively managed. They are not all created equally, however. Index construction becomes very important. For example, some momentum indices rebalance semi-annually, while others rebalance quarterly, and they may even stagger the portions of their holdings that are rebalanced. This can create meaningful performance differences based on when the last rebalance occurs – especially when we see rapid rotation in the market like we have in the past month. This is one major reason why we tend to allocate to multiple complementary ETFs within our Mission Asset Class strategies.

• Multi-Factor Stock Strategies

We utilize two different multi-factor stock strategies at Carson. One focuses on a lower risk profile (QBI) and the other (FEI) focuses on balanced risk across factors. Stocks are looked at on a bottom-up basis, where each stock is evaluated for its combined factor exposures to create the ideal ending portfolio. If you are a Carson partner, be sure to check out the latest mid-year review for factor strategies on the content hub.

• Multi-factor ETFs

We also have added several multi-factor ETFs to our offering. In many ways, these can be looked at as a replacement for an active manager within an asset class. One of the more prevalent approaches in the industry has been to tilt towards value, smaller stocks, and higher profitability. Rather than being index-based, this approach (utilized by Dimensional and Avantis) is actively managed, yet still systematic. This allows firms to run their process every single day and make adjustments as needed instead of relying on an index provider and a quarterly rebalance to make changes.

So far this year, momentum and quality have led the way in factors, while small caps and value have lagged – even lagging minimum volatility. The strength in the largest stocks, Nvidia in particular, has propelled momentum and quality-based indices higher. Since early July there has been rotation in the market and the largest drawdown of the year so far. Through this volatility – not unsurprising – minimum volatility has outperformed all other factors by the tune of 4%+. Minimum volatility strategies generally focus on the lowest risk stocks and also lowest risk overall portfolio while keeping sector weights within designed bands, low volatility on the other hand seeks out the lowest volatility stocks regardless of sector concentration. Low volatility has performed even better during this period. Momentum fell the most during the recent downturn but is also recovering quickly from the lows a few weeks ago.

As you can see, factors are very important tools for investors to use to allocate portfolios as well as measure portfolio risks. Even most fundamental active managers today want to understand where their factor exposures lie in order to better manage portfolio risk. As such, factors are very important in our risk management and portfolio construction process, as well as how we are thinking about our ETF platform. Please reach out with any questions on factor strategies or ETFs and the best ways to use them in portfolios.

 

Course Correction August Delivers Election Year Rally



As we anticipated, the second half of July pullback yielded a rather textbook election year August rally. It has been quite a course correction from the August 5 lows. The market has been known to succumb to selling toward the end of August as The Street heads for the Hamptons and other getaways for the unofficial end of summer.

September seasonal weakness and Octoberphobia looms large. But we have been hearing a lot of chatter about the seasonal troubles this time of year, so our contrary antennae are purring that perhaps there is just a bit too much negativity. Expect some chop and sideways action over the next 60 days or so with a likely test of the lows. But another steep August-October correction three years in a row is less likely.

 

Record Contractionary Streak for Texas Manufacturing
Mon, Aug 26, 2024

The Dallas Fed released its latest regional manufacturing survey this morning. At the headline level, the report showed the region's manufacturing activity was stronger (or less worse) than expected with the index for general business activity rising to -9.7 versus -16.3 expected and -17.5 previously. That is also now the highest reading since January 2023.



Although that result was stronger than expected and relative to the past few years, the index remains in negative territory meaning it was a 28th consecutive month of contractionary readings. As shown below, that now surpasses the 27 months ending November 2009 for the longest streak of contractionary readings in the survey's history.



Additionally, headed into this month, the spread of the current and future General Business Activity indices was close to a record low meaning that the region's firms reported much more optimistic expectations for the months ahead than what they are currently observing. Historically, it has been common for expectations to be stronger than current conditions, but not to such an extreme degree as last month. With the increase in the current conditions index concurrent with a 10-point drop in the expectations index in August, the spread has narrowed dramatically, rising from a first-percentile reading into the 13th percentile.



That improvement in General Business Activity occurred with strong breadth across most of the report's categories. As shown in the table below, for current conditions, every index was higher month over month except for Employment which dropped 7.8 points. Not only were most indices higher, but several of those monthly jumps rank in the top 10% of all MoM moves on record. Thanks to those big increases, four indices went from contraction, back into expansion: Unfilled Orders, Shipments, Production, and Inventories. Again, the actual level of expectation indices has been stronger, but breadth in August was more mixed with half of the categories falling month over month and the other half rising. That being said, the 10-point drop in General Business Activity stood out as an outlier in terms of the size of the decline.



As noted above, multiple indices went from contraction to expansion in August, and most were related to demand. While the new orders index is still in contraction at -4.2, the expectations index for that category has climbed to the strongest level since March 2022. The Unfilled Orders index was even more impressive with the index's 27.6 point MoM jump ranking as the second largest on record behind September 2005 when it rose by over 30 points. While that is only the first expansionary reading since last September, it's the highest reading in 25 months. Meanwhile, expectations rose to the highest level since June 2021. In all, the report indicated that conditions are not yet improving, albeit there are some silver linings under the hood.

 

Wednesday Best Day Before Labor Day Weekend



In recent years, Labor Day has become the unofficial end of summer, and the three-day weekend has become prime vacation time for many. In the last 21 years, Friday has been the weakest on average with declines across all four indexes. However, Wednesday has outperformed over the years with DJIA, S&P 500, NASDAQ, and Russell 2000 all up over 70% of the time or better. S&P 500 and NASDAQ are strongest on Wednesday, up 17 of the last 21 years. Average gains on Wednesday range from 0.48% by DJIA to 0.79% by Russell 2000.

 

The Best Indicator for the Economy Just Hit a New High


“Why did God create economists? To make weather forecasters look good.” -Old economist joke

Two things to think about today.

1.) Since the Great Financial Crisis (GFC) ended 15 years ago our economy has been in a recession only 1.1% of the time.
2.) The Dow Jones Industrial Average started trading on May 26, 1896, and on Monday AND Tuesday this week it closed at the highest level EVER.


Think about how many endless discussions have focused on the ‘coming soon recession’ only for stocks to continue to soar.

Just the past year we’ve been hit with worries over the yield curve, leading indicator indexes (LEI), small sample-sized purchasing manager surveys, wars, inflation, and the Bank of Japan (BoJ) hiking rates by just over 25 basis points (as silly as that last one sounds, it happened three weeks ago). None of these things have slowed down the bull market.

Since 1900 the US economy has been in a recession 22.4% of the time. But did you know six months after a new all-time high in the Dow it has been in a recession only 8.9% of the time? And the last time it hit a new high during a recession was in late 1982, which also kicked off a huge bull market.

One of the better indicators regarding the economy historically has been the stock market. Yes, stocks hit new highs right before COVID and in early 2007, but the great majority of the other times over the past generation new highs have meant an economy that was growing, not an economy in a recession. New highs are another clue that our economy will likely avoid a recession over the next six months (but probably longer).

Let’s now get to the data. Stocks rallied across the board on Friday as Powell made it crystal clear inflation was last year’s problem and rate cuts were coming. As a result, we saw a huge rally, with nearly everything higher. In fact, up volume at the NYSE was nearly 11 times larger than the down volume. The last time we saw more in one day? The exact lows in mid-October 2022 and the end to that vicious 25% bear market. I found that after previous 10x days the S&P 500 was higher a year later 85% of the time and up nearly 13% on average. (Note the average year is higher about 71% of the time and up around 9% on average.)



But it wasn’t just about volume, as more than 90% of all the stocks on the NYSE were also higher. For this I used data from our friends at Ned Davis Research that focuses on common operating companies only, which tosses out things like preferreds and focuses purely on companies. Doing this we looked at what we call a 90/90 day, meaning 90% of all the volume on the NYSE was higher and 90% of the stocks were higher. These rare days tend to occur near the end of weakness or during uptrends. 90/90 days were higher a year later 89% of the time and up an average of 14.3%, once again suggesting we are still in a healthy bull market.



Lastly, the action in junk bonds (also called high-yield bonds) continues to suggest a risk-on appetite, as they are near their highest level in two years. If things were as bad as they keep telling us, you’d think some of the riskiest assets (companies that might not pay you back) would be weaker. Well, they aren’t. I learned a long time ago that if credit markets were confident, then I should be confident. This is another sign this bull market is alive and well.

 

A Left-for-Dead Blue Chip Bounces Back: 3M (MMM)
Mon, Sep 2, 2024

With four months left in 2024, below is a look at the year-to-date performance of the 30 stocks in the Dow Jones Industrial Average. Would you believe that previously left-for-dead blue chip 3M (MMM) is currently the Dow's best performing stock on the year? With a gain of more than 50% YTD, MMM is just ahead of Walmart's (WMT) 48.4% gain.

Three stocks in the Financials sector round out the top five: American Express (AXP), Goldman Sachs (GS), and JP Morgan (JPM).

On the flip side, current left-for-dead blue chips have been the year's worst performers in the Dow: NIKE (NKE), Boeing (BA), and Intel (INTC). All three of these stocks are down more than 20% on the year.



Below is a look at the growth of a hypothetical $10k investment in 3M (MMM) shares at the start of 1990 with dividends re-invested. MMM shares peaked more than six years ago in early 2018, where that $10k had turned into nearly $300k at the highs. From its high point in early 2018 through late 2023, MMM experienced a drawdown of more than 60%, leaving the $10k in 1990 down to just $115k at its recent lows.

With a year-to-date gain of more than 50% in shares, though, the current value of $10k in 1990 is back up to $226k.



If it weren't for 3M's dividend, long-term returns would be much more muted. An easy way to show this is to look at MMM's share price change versus its total return since 1990. Whereas MMM shares are up just 741% in price since 1990, its total return has been 2,165%. This means that well over 50% of MMM's returns over this period have been from re-investing the dividends paid out by the company.