Volatility returned to the markets as triple-digit point swings on all five trading days led up to “quadruple witching”, the quarterly expiration of options. The market digested mixed economic reports during the week and even failed to muster a rally despite reports of troops surrounding a “high level” al Qaeda leader. Friday’s late day sell-off pushed the Dow Jones Industrial Average into negative ground for the fourth time in five weeks as it lost 54 points (-0.53%) and settled at 10186.
The NASDAQ also continued to lose ground and has now been down for nine of the last ten weeks. For the week, the NASDAQ lost 44 points (-2.22%) and closed at 1940. For the year, the Dow is down 2.60% while the NASDAQ has lost 3.40% of its value.
All data used to measure market strength, momentum and institutional sentiment continue to be neutral or bearish. Along with the obvious price weakness, it has become more likely that we are in the midst of a true market correction. For the week ending 03/17/04, U.S. equity mutual funds had outflows of $22 million compared to inflows of $3.3 billion the previous week. This was the first outflow seen since November, 2003.
THE COMPASS PORTFOLIOS
In response to the deteriorating market environment, we have continued to reallocate client assets away from the equities and into safe-havens such as money market assets, utilities, and (for aggressive portfolios) inverse funds, also known as bear-market funds. The defensive allocation changes have greatly limited client downside placing most client portfolios at breakeven for the year while the Dow and NASDAQ have dropped 2.6% and 3.4% respectively.
Our response to the market weakness over the past six weeks has the intended consequence of protecting both principal and the portfolio growth we achieved last year. It is important for all clients to understand that the portfolio adjustments we enact are done with prudence in mind, and are not intended to reflect my beliefs as to the future direction of the investment markets. This would certainly be useful information to know ahead of time, as we would be able to consistently predict future market moves before they occur. As intoxicating as this information would be, I believe the markets are as unpredictable as the human behavior that causes market swings. That being said, I believe responding proactively to the current market trend is the most critical task a money manager can undertake. Doing so in a disciplined, systematic and objective way can yield the kinds of results our clients expect: meaningful participation in bull markets, and meaningful protection in down markets.
The week ahead will be an active one for economic reports with no fewer than thirteen data points due by Friday. Reports scheduled for release include mortgage applications, personal consumption data, initial jobless claims, new home sales, durable goods orders, and the consumer confidence index, among others.
Looking at last week’s economic highlights, U.S. wholesale prices surged in January, the government said Thursday, exceeding Wall Street forecasts, driven in part by higher energy prices. The Labor Department said its producer price index (PPI), a measure of wholesale prices, rose 0.6% after rising a revised 0.2% in December. The so-called core PPI, which excludes often volatile food and energy prices, rose 0.3% after falling 0.1% in December. Economists, on average, expected PPI to rise 0.4% and core PPI to rise 0.1%, according to Briefing.com.
And, the pace of new home construction slowed in the United States in February, the government said Tuesday, defying Wall Street forecasts of a slight gain. The Commerce Department said housing starts fell 4% to a seasonally adjusted annual rate of 1.86 million units, after falling a revised 6.3% in January. Economists, on average, had expected housing starts to rise to a 1.94-million-unit pace.