The current bull market, now 10 years old, continues forging ahead with the S&P 500 up over 300% on a cumulative basis (or 17% on an annualized basis).1 There has been some debate as to whether this is the longest or second-longest equity bull market on record – when compared against the bull market that started in December 1987 as there was a 19.92% decline in 1990 before the rally continued through March 2000. If the same rule is applied to both bull runs―that a decline of 20% (without rounding) constitutes a bear market―then this is technically the second-longest running bull market in history. However, if recent trends persist without disruption, some significant records could soon be set.
Where are we now?
Coming into the fourth quarter of 2018, equity markets were on what some may classify as a “sugar high,” setting ever-increasing record highs. This festered growing concerns from equity investors about enriched valuations, sustainability of earnings growth, and possible overtightening from the Fed that could tip the economy into a recession. While the rough end to 2018 may have been unsettling for investors, it helped abate some of these concerns which could help extend the expansion should detrimental macro shocks be kept at bay.
On the economic front, U.S. GDP growth appears to be past its peak and on its way towards its long-term average, but growth is still positive with few signs of cyclical excesses (typical indicators for an impending recession). Strongly growing employment, rising wages, lower oil prices, and contained inflation should all bode well for consumer spending. Combined with the recent dovish pivot from the Fed, there is a decent backdrop for risk assets.
In terms of market action, despite close to 20% earnings growth in 2018, the S&P 500 ended the year down 4.4%. While valuations compressed briefly in the fourth quarter, markets roared into the new year with the S&P 500 advancing 12% year-to-date, driving the S&P 500 P/E higher, although still near its long-term average. Additionally, volatility returned to the market, with the VIX continuing to climb closer to its historical average after a period of below-average volatility.1
There has also been a sizable deceleration in corporate earnings growth. Although most S&P 500 companies reported better-than-expected fourth quarter earnings, consensus estimates for the S&P 500 are now in the mid-single digit range for 2019. This could still be sufficient to boost share prices further in the wake of the recent sharp declines, given that many S&P 500 constituents are reporting strong revenues, profits, and free cash flow. However, this growth forecast largely hinges on continued expansion of the U.S. economy and the Fed keeping a lid on interest rates.
Where do we go from here?
Interestingly, the two longest bull markets have followed a similar trajectory, oscillating in the same pattern more or less. For instance, the most recent fourth quarter sell-off period in the current bull market mirrored a comparable, although less extreme, dip at a similar point in the cycle of the longest bull market, giving investors a reason to believe that the current bull may have some run left to run. After all, the longest bull market rose 57% from its 121st month (December 1997) before the run finally ended in March 2000. But there are some significant differences between the two bull markets that are noteworthy. While the bursting of the tech bubble was responsible for the demise of the 1990s bull run, the current bull contends with the unwinding of an unprecedented magnitude of monetary stimulus, making its future path and the impact on markets and the economy unclear.
Trajectory of the two longest bull markets
Source: Bloomberg, Morningstar as of 2/28/18. Cumulative returns for the S&P 500 Index based on price returns.
How to invest?
Whether this bull market can extend until or beyond the one that started in the late 1980s remains to be seem. Regardless, as late-cycle risks continue to mount, heightened periods of volatility should be expected. With consensus estimates calling for lower returns across most asset classes in the coming years relative to the past decade, diversifying across asset classes will be crucial to helping keep portfolios on track to meeting long-term investment goals. Below are some strategies to consider for inclusion in diversified portfolios.
can be a stronger source of returns in lower growth environments
In the early stages of an expansion when corporate earnings are rising from trough levels, most asset classes typically perform well, sometimes muting the impact that growth equities can have on diversified portfolio returns. However, as the cycle matures and growth slows, stronger growing companies become harder to find. As such, growth equities become a more critical source for potential alpha for investors as they can contribute a larger share to the overall returns in portfolios. On average over the last three bull markets, growth equities (measured by the Russell 1000 Growth Index) outperformed value stocks (measured by the Russell 1000 Value Index) by a factor of 3.3x, or 7% annualized, during the final quintile (20%) of the market’s duration.1
can provide equity market exposure while limiting potential losses in down markets
Maintaining equity exposure remains necessary for most investors seeking to meet long-term portfolio goals. However, when markets become more turbulent, investors may fare better with a more hedged approach with a long-short type strategy. Long-short equity strategies are designed to allow investors to participate in the market’s upside potential while limiting downside risk. Since 1999, long-short strategies (measured by the Lipper Alternative Long-Short Equity Funds Category) have provided average outperformance of 9% versus the S&P 500 during periods when the S&P 500 declined 5% or more.1
can be an appealing alternative to cash
2018 validated that cash and bonds remain beneficial buffers during periods of market instability. In a year when virtually all asset classes lost value, one of the best performing asset classes was cash, with +1.8% return on the ICE Bank of America Merrill Lynch 3-month U.S. Treasury Bill Index. With rising political risk and economic uncertainty, another pullback or correction could come at any time, making shoring up some “cash” to redeploy later a prudent choice. After nearly a decade, cash and bond yields offer tangible alternatives to risker assets as the Fed raised interest rates several times in recent months, which brought the 3-month U.S. Treasury yield up to 2.4%. Ultra-short bonds can provide a better yield versus traditional cash/money market type instruments.1
At this point in the business cycle when things are getting more murky and future prospects are increasingly obscure, it is necessary for investors to be more selective. Active managers can help deliver much needed alpha in a lower-return environment by identifying attractive companies with strong growth potential as well as by mitigating unintended risks.
1 Source: Bloomberg, Morningstar as of 2/28/19.
Diversification does not guarantee a profit or protect against loss in declining markets.
Alpha is a measure of a fund’s risk-adjusted return. Alpha can be used to directly measure the value added or subtracted by a fund’s manager. It is calculated by measuring the difference between a fund’s actual returns and its expected performance given its level of market risk as measured by beta. ICE (Intercontinental Exchange) Bank of America Merrill Lynch 3 Month T Bill Index tracks the performance of U.S. dollar-denominated U.S. Treasury Bills publicly issued in the U.S. domestic market with a remaining term to final maturity of 3 months. The Lipper Alternative Long-Short Equity Funds Category is comprised of funds that employ strategies combining long holdings of equities with short sales of equity, equity options, or equity index options. The S&P 500 Index is a market-weighted index of 500 of the largest U.S. stocks in a variety of industry sectors. An investment cannot be made directly in an index. Past performance is no guarantee of future results.
The views expressed herein are those of Jennison Associates investment professionals at the time the comments were made and may not be reflective of their current opinions and are subject to change without notice. Neither the information contained herein nor any opinion expressed shall be construed to constitute investment advice or an offer to sell or a solicitation to buy any securities mentioned herein. Neither Prudential Financial, its affiliates, nor their licensed sales professionals render tax or legal advice. Clients should consult with their attorney, accountant, and/or tax professional for advice concerning their particular situation.
Certain information in this commentary has been obtained from sources believed to be reliable as of the date presented; however, we cannot guarantee the accuracy of such information, assure its completeness, or warrant such information will not be changed. The information contained herein is current as of the date of issuance (or such earlier date as referenced herein) and is subject to change without notice. The manager has no obligation to update any or all such information; nor do we make any express or implied warranties or representations as to the completeness or accuracy.
Any projections or forecasts presented herein are subject to change without notice. Actual data will vary and may not be reflected here. Projections and forecasts are subject to high levels of uncertainty. Accordingly, any projections or forecasts should be viewed as merely representative of a broad range of possible outcomes. Projections or forecasts are estimated, based on assumptions, subject to significant revision, and may change materially as economic and market conditions change.
1018303-00001-00 Ed. 3/2019