Each week, we tap the insight of Sam Stovall, Chief Investment Strategist, CFRA, for his perspective on the current market.
EQ: The S&P 500 is on the verge of hitting a new all-time high. Is the market poised to resume its uptrend from here?
Stovall: Yes, it certainly did resume its uptrend when it broke above the trading range that it had been in since establishing a new all-time high on March 1. It indicates that the market probably went through a correction in time rather than a correction in price. As a result, because a correction has run its course, the market is now in a new uptrend, driven by expectations for earnings growth, combined with the recently announced Trump tax reform package.
EQ: Could you elaborate on the difference between a correction in time versus a correction in price?
Stovall: Well, I think we’re all pretty familiar with a correction in price, where the market goes down and it sort of resets the dials in terms of investor enthusiasm, combined with P/E ratios and so forth. A correction in time is almost like running in place while waiting for the red light to turn green. What you do by running in place is you allow the earnings to catch up, and you allow, in a sense, some underlying sector rotation to take place.
So maybe the market itself doesn’t go through a price decline, but investors may have rotated out of areas of the market that have done exceptionally well leading up to this all-time high. As investors start to take profits, at the same time, they start buying into other areas that did not keep pace. By doing this long enough, that too, ends up resetting the dials because it then allows the excesses to be worked off of particular sectors, and corporate earnings on the whole to start to improve, as we’re seeing now in this first quarter.
EQ: The market surged earlier this week follow the results of the first round of the French presidential election. The final round will be decided on May 7. How concerned is the market regarding the potential results of the French election?
Stovall: Today, I don’t think the market is concerned much at all. The assumption is that because Marine Le Pen did not win outright, and because the centrist candidate Emmanuel Macron emerged as the frontrunner, that there is now greater likelihood Macron will win. So, I think that most people today are breathing a sigh of relief that French worries are behind us, but certainly it is not a guarantee, so maybe we do see a little bit of price softness before the election. But I think most people do not expect Marine Le Pen to win.
EQ: The Trump administration unveiled the broad strokes of its tax plan on Wednesday. The market remained largely flat. How would you categorize the market’s reaction, or lack of one?
Stovall: There’s the old saying that you buy on rumor, sell on fact. Certainly, we bought on the rumor of the tax plan being announced on Wednesday, but we don’t really have much fact yet upon which to make any sales. So, investors may just sit on their hands. Yes, we did get a pretty broad outline as to what this tax reform package will look like in terms of simplification, cutting of the corporate tax rate to 15% from 35%, establishing only three tax brackets from the seven we have currently, and the elimination of the death tax. But there’s still not a lot of details that investors can wrap their hands around.
EQ: We touched on this in our last interview, but the sell in May period kicks off next week. If investors were to heed your sector rotation advice during this period and move into the more defensive groups, when would be the best time to do it?
Stovall: The only time to implement the strategy is by the calendar. Sell in May says that you rotate out of the market or its cyclical sectors on April 30, and rotate into the defensive sectors that you will then hold until the end of October. At which time, you will then rotate out of the defensive sectors and either buy back into the market as a whole, or gravitate toward the cyclical sectors. So, it’s really determined on the calendar, not necessarily determined on moving averages or any other technical indicators.
By embracing this hard and fast rule, and not allowing people to second guest it, has worked out fairly well certainly since 1990. CFRA introduced four custom indices called the CFRA-Stovall Seasonal Rotation Series. In it, we show performance data going back to 1990 and how well this technique has actually worked by letting the market take you where it wants to go on a seasonal basis. Of course, past performance is no guarantee of future results. You can see all four indices here: CFRA-Stovall Seasonal Rotation Indices.