Research Director’s Monthly Commentary - April 2016

Industrial Metals A Leading Indicator?

 Wow, what a difference a month makes! Well, maybe two months. As of today, the stock market is up 15.7% from the February 11 low, a surprisingly strong rebound in a short period. Looking back at the fundamental data earlier in the year, we were perplexed why the market sold off so sharply as there seemed to be no significant changes in economic fundamentals that would warrant such a sell off. Investors now appear to be more sanguine about the outlook for the global economy and the risk of a global deflationary spiral. The Federal Reserve recently reiterated its stance on taking a very gradual approach in raising interest rates, and recent data out of China indicate the measures it is taking to shore up growth could be more effective. All that makes investors happy and more willing to put money into stocks.

 

  From a sector perspective, it is interesting that cyclical and industrial stocks have been leading the charge on the upside in this recent rally. For example, industrial metals stocks (copper, steel, aluminum, nickel) have been vastly outperforming the broad indexes as reflected in the XME, the S&P500 metals and mining ETF, which is up 59% since the February 11 low. Historically, rising industrial metals prices have been an early indicator of an improving economy and we think the strong move in the XME may be telling us that economic growth may be poised to accelerate. The strong move in this ETF has also been accompanied by significant weakness in the U.S. dollar, rising oil prices, and a jump in international freight rates. All these indicators look similar to what one might observe coming out of a recession. I think it is safe to say that the oil industry and certain industrial sectors have gone through a recession over the past year. We saw something like this, although more severe, in the early 1980s just before the stock market entered a strong bull market that lasted five years. Could this happen again? Quite possibly, as we believe the U.S. stock market remains in a secular bull market (i.e. a bull market lasting on average 15-20 years).

  

So what does this have to do with financial planning? From our perspective, it is an important element of the work we do for our clients in helping them achieve the objectives of their financial plans. Our investment committee considers fundamental and economic factors every quarter when we assess the investment allocations and securities holdings within our client accounts. At our most recent investment strategy meeting at the end of March, we added a position in the XME within our natural resource holdings because we felt if offered a way to enhance the growth of our clients’ assets. In previous quarters, we’ve done this in other sectors such as health care, technology, forest products, and housing. If we identify a sector that we believe offers significant value, as we do with XME, we can find ways to add that within our diversified structure to enhance returns to clients and enhance the overall value we bring to our clients.

 

Bob Toomey, CFA®/CFP®, Vice President, Research