The stock market chopped its way to a small gain in the first three months of 2015. February was definitely the best month of the first quarter and made up for negative returns in the other two months. That pattern held true for international markets as well. Bonds also turned in a positive performance for the quarter, but, like equities, experienced some volatility along the way.
One of the biggest stories of the first quarter continued to be the decline in oil prices. As the world continues to have an oversupply of oil, it is a double-edged sword as far as the markets are concerned. Obviously, weak oil prices are not good for the Energy sector which has been one of the worst performing areas lately, and we are seeing a major slowdown in capital spending for new and existing energy projects. On the other hand, lower energy prices are very good for consumers. Many of you have probably noticed much lower gasoline prices. I just drove by a gas station with gas under $3.00 per gallon, which is unheard of in our area of Southern California. Lower energy prices give consumers more spending power, and they seem to be taking advantage of it. Our strategies have recognized this and have allocated more toward areas benefitted by increased consumer spending while underweighting energy companies. It will be interesting to see how this dynamic plays out, but for now it appears the consumer is the biggest beneficiary of the oil price decline.
The big news overseas was the European Central Bank announcement of a bond buying program that could top $1 trillion. That sent the euro into a tailspin, but also helped buoy the European equity markets. In contrast to last year when international markets dramatically underperformed U.S. markets, international markets performed much better during the first three months of the year. Most of the performance came from Developed Markets (reflecting the strength in Europe). Emerging Markets performed better than U.S. markets, but didn’t perform as well as Developed Markets.
Investors are also becoming more concerned with when the Federal Reserve is finally going to raise rates. That possibility was once way off in the distance, but now it appears it may come later this year. Even if the Fed does raise rates later this year, interest rates will still be low by historical standards so the move will be mostly symbolic. It will also be symbolic of a move toward a more “normal” market with much less government intervention. This would be a welcome sign for our strategies. Our decision-making process is primarily focused on market price movements. Less government intervention should mean fewer price shocks and less correlation among stocks and sectors than during the risk on, risk off environment of the last few years.
Our relative strength strategies performed well across the board in the first quarter. We track a Relative Strength Spread, which measures the performance of a basket of strong momentum stocks versus a basket of weak momentum stocks. That measure exploded higher during the first quarter. The spread has been moving sideways for a couple of years, so seeing it begin to move upward again is a very good sign. The strong momentum performance was fairly broad- based, and wasn’t the result of a few lucky stocks. We track a number of strategies that mix momentum with value, dividends, or some other factor. In each case, the strategy with the momentum overlay was superior to the other factor by itself this quarter. The momentum move was very broad based and appeared in numerous segments of the market.
As the bull market continues to mature we are expecting the leadership to narrow. Valuations are up and it is getting more difficult to find bargains. When investors can’t find enough value they often turn to companies that can continue to grow earnings despite a slowing economy. This is usually a very healthy period for momentum strategies. We think we are entering that phase of the cycle and are quite optimistic for what that will mean for our strategies for the rest of 2015.
Information is from sources believed to be reliable, but no guarantee is made to its accuracy. This should not be considered a solicitation to buy or sell any security. The relative strength (momentum) strategy is not a guarantee. There may be times when all investments and strategies are unfavorable and depreciate in value. Past performance should not be considered indicative of future results. Potential for profits is accompanied by possibility of loss.