Fourth Quarter 2016 – The Year of 20,000!

We closed the books on 2016 and look forward to what 2017 might offer. Before we try to completely forget about all that 2016 thrust upon us, let’s tally up the final quarter. While October began with a slow negative slant, the November 8th election seemed to make everything reverse course. The markets responding quite favorably to the end of a very negative election cycle with the Dow Jones teasing the 20,000 level. I don’t think the markets were “pro-Trump” any more than they were “anti-election”. The stock market indices responded nevertheless. With the Dow Jones up over 13% and the S&P 500 up over 11% in 20161, you may be wondering why your account didn’t jump double-digits. There are many reasons that could explain why 2016 may not live up to investor expectations, and most can be explained with either diversification or representation.

Although the final quarter was strong for some stocks, the bond markets were moving in the opposite direction. Yields were gradually moving higher already in anticipation of future Fed rate hikes. However, yields spiked after the election, which hurt the value of bonds already owned by investors. While the S&P 500 was up over 3% in the last quarter, the Barclays Aggregate Bond index was down over 3%, which is fairly irregular for the historically low-volatile asset class. This caused the final quarter to be lackluster for many balanced and conservative investors.

The chart to the right shows how each of the main sectors performed over the last quarter. You can see over a 25% performance swing, from the strength of the Finance sector to the weakness of Real Estate. This is pretty staggering for such a short period of time and seems to be a direct response to the Trump presidency as de-regulation of energy and finance has been one of his main campaign talking points. You can gather that a portfolio or index that weights some sectors higher than others could have a tremendous performance advantage. Unfortunately, our Top Stock system was a victim of this sector bias with large holdings in biotech stocks (a cross between health care and consumer staples).

Looking a little closer at the Dow Jones returns, you may remember from our other articles in the past that the Dow Jones index only holds 30 stocks and weights them in a very nonsensical way. The Dow essentially weights the stock based on the price of the share, which is not how most investors would weight their own portfolio. The highest priced stock in the Dow Jones index is Goldman Sachs (trading around 240/share) and makes up over 8% of the index weighting. Not alarming until you find out that Goldman Sachs was up over 40% in the last three months just by itself. 2 Blue chip stocks like Pfizer, Cisco, and Intel were down last quarter, but they were already three of the lightest weighted stocks in that index. This helps explain why the Dow Jones was up 8% in the 4th quarter (toying with 20,000), while the S&P 500 was up only 3.8%, and the tech-heavy NASDAQ composite was up a meager 1.3%.

With 2016 behind us, we still see stocks being fairly valued with room for even more growth. 2017 should be a very interesting year. Let us hope for wise heads at the helm and calm hands on the wheel.

1 Thomson Financial

2 http://www.indexarb.com/indexComponentWtsDJ.html

 

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