Market Perspective for October 4, 2021

Equities slipped on Monday after crude oil hit its highest level since 2014. The Nasdaq fell 2.14 percent, the S&P 500 1.3 percent and the Dow Jones Industrials Average 0.94 percent. The Russell 2000 declined 1.08 percent on the day. Government bond yields were stable, with weakness in stocks offsetting inflation concerns. The 10-year Treasury yield rose 0.02 percentage points to 1.48 percent.

Energy remains a very small part of the major indexes. Despite SPDR Energy (XLE) climbing 1.62 percent on the day, SPDR S&P 500 (SPY) slipped 1.28 percent. Technology is nearly 10 times the weight of energy in the S&P 500 Index.

Although volatility remains relatively low, funds designed with low volatility in mind outperformed. iShares MSCI Minimum Volatility USA (USMV) declined only 0.83 percent. Funds with high-quality stocks also outperformed. Vanguard Dividend Appreciation (VIG) dipped 0.89 percent. Inflation is good news for industrial stocks, a relative overweight in VIG. SPDR Industrial (XLI) was also an outperformer on Monday. It fell 0.54 percent. Maintaining exposure in these higher-quality funds will keep portfolio volatility below that of the wider market.

When inflation is rising, the justification for owning highly-priced technology stocks erodes. Many investors justified high valuations based on low interest rates. When the 10-year yield was above 3 percent in 2018, the technology began a correction that eventually forced the Federal Reserve to reverse course. We also saw a similar correlation in February of this year when rates moved higher.

The dip in technology highlights the importance of a diversified portfolio. Investors that are significantly overweight in growth sectors such as technology should consider reallocating a portion of the portfolio to value sectors. If inflation continues to rise, energy and commodity sectors will outperform. Investors should consider their long-term positioning and not make knee-jerk portfolio changes because of short-term moves in the market.

Economic data remains solid. Factory orders increased more than expected in August, rising 1.2 percent. This week’s big data point is non-farm payrolls. Economists forecast 485,000 new jobs and a decline in the unemployment rate to 5.1 percent.

Earnings season kicks off next week. Analysts predict a 27.6 percent increase in earnings this quarter. If they’re right, that will be the third-highest quarterly increase of the past eleven years.

China’s financial markets are closed this week for their National Day holiday, but they are pressing forward with solving the Evergrande default. The company will reportedly sell 51 percent of its property services unit for $5 billion. The property developer’s decline is worrisome for China’s economy going forward, but there’s little risk of financial contagion because most of the debt is owned by domestic investors. This has also weighed on U.S. stocks at times, but this too will fade as the government takes control of the situation.

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