Dave Gilreath, CFP

If you mention the C-word (correction) these days, the likely response will be: “What on earth could cause a correction in 

 market, especially given the improving economic and pandemic news?”

The perennial answer is: Something unforeseeable, as the foreseeable is baked in.

All corrections come out of the blue. Corrections (an overall decline of the market of at least 10% from its most recent peak) and pullbacks of more than five percent are endemic to the market. Growth and decline are the market breathing, inhaling when it advances and exhaling when it declines.

Since 2008, there have been 16 pullbacks of more than 5%—on average, about one every nine months. During this period, there have been several multi-year periods without a pullback.

To make hay during those periods, buying on minor dips was especially important because these were some of the best value-purchase opportunities.

Using our imaginations, a correction or pullback could come from: new coronavirus variants completely unfazed by existing vaccines, the Fed’s hinting that inflation is heating up significantly and Wall Street’s concluding that interest rates will rise sharply, trade pressure from China, or wars breaking out.

And there’s an infinite flock of black swans: a big junk-bond-supported company declaring bankruptcy, the sudden death of President Joe Biden, a 

 (like the one in 2010) that triggers institutional trading algorithms and sends the market spiraling downward, or you-name-it.

With all the speculation about potential downturns these days, a natural subject when the market is moving upward, one possible cause would be herd selling triggered purely by investors’ fears of other investors’ fear-driven behavior—fear of fear itself.

The good news is that the same conditions that prompt skepticism over whether a correction may be imminent will likely make the next one short-lived, likely causing a bounce at an angle even more acute than last spring’s rebound from the March COVID crash. 

Federal stimulus, the decline of the pandemic thus far, vaccinations, nascent economic recovery, historically astronomical market liquidity and high pandemic savings ready for investment are all poised to promptly push equities back up. 

That’s why those who are using the words “froth,” “overbought” and “inflated” aren’t uttering the B word—bear market. The market promptly bounced back last spring despite the uncertainty over when vaccines would be available.

All these factors would make a substantial pullback or correction an ideal buying opportunity. For this day, it’s good to have some cash ready--in your brokerage account, for rapid deployment--and a list of stocks that could quickly become more attractive before they rise again.

A common source of anxiety over the potential for corrections is interest rates and inflation potential. Financial media commentators engage in almost constant hair-pulling on the subject, mentioning the 10-year Treasury yield like the devil at a revival.

But as interest rates are so historically low, small rate rises aren’t really a problem. And the current scenario of a steeping yield curve, with the spread between long-term and short-term Treasury yields widening, is a sign of economic growth that’s likely to benefit the market.

Granted, if short-term rates started rapidly moving a lot higher due to inflation, that could be a problem. But short of that, the current rate scenario bodes well for stocks.

Worry over the market getting dinged anytime soon by interest-rate metrics is actually so much cognitive dissonance, as these factors actually reflect a good economy—ironically, the kind these same investors want because it propels stock prices.

Underlying the bond-yield obsession is the question: Won’t higher yields make bonds more attractive compared to risk assets (aka stocks)?

Given the ridiculously low current fixed-income yields and the continuing opportunities for equity gains, that’s quite a stretch, considering that the resourceful can find 

 to bonds with far higher yields and generally lower risk than stocks.

For those trying to read the tea leaves for a potential market pullback, one method is to watch for changes in investing trends of big money by tracking it routinely.

About 90% of all trading is institutional, but too many investors are unaware of meaningful patterns unless there’s a crash and then they look back at what happened; the idea is to see it coming. 

Most individuals understand what happens in a downturn when big institutional algorithms kick in. What they’re less aware of, however, is the big boys’ trading patterns over time and what directional changes may portend for the market.

The day-to-day trading patterns of big hedge funds, sovereign wealth funds, banks and other mega-traders tend to signal where the market is likely to go. Once these whales start to migrate, nothing else matters—neither fundamentals, nor individual investor sentiment, nor media articles.

The firm Mapsignals.com has developed ways of tracking these mammals’ movements to pinpoint when their trading patterns start to shift, signaling an incipient market pullback. Currently, according to their tracking, a potential pullback pattern is forming, but still may be weeks away. 

Of course, these analysts are professionals with specialized tools unavailable to the individual investor. But enterprising individuals may be able to develop their own, big-money rosters and spot-check their trading patterns regularly to look for shifts.

As corrections are relative to recent peaks, the questions of whether a correction is imminent and whether we’re at a bull market top might be viewed as basically one and the same. 

The analysis firm Strategas Research Partners keeps a checklist of conditions indicating a significant market top.

Of the nine indicators—conditions that preceded the market drops in 2000 and 2007—only two were present in mid-February: the S&P 500’s being well above its 200-day moving average—by 15%; and a recent increase IPO activity. 

Yet current conditions regarding the other Strategas market-top indicators suggest that this bull still has energy aplenty: the absence of big ETF inflows (this is a stock-picker’s market), rising real interest rates (not happening), weakening upward earnings revisions (these remain a historically high), fewer stocks hitting new highs (the breadth of all-time-high earnings has been inordinate), a shift toward cyclicals (there’s been some movement in this direction but this hasn’t amounted to an actual shift), weakening credit spreads (as of mid-February, investment-grade spreads had resumed their lows and high-yield spreads had recovered significantly from the pandemic highs).

A correction or a substantial pullback is highly likely in the next few months simply because of the laws of market nature. The longer we go without a pullback, the deeper it’s likely to be when it happens. If this is a big problem for you—especially as you reap the gains of this strong bull—you probably shouldn’t be in the market in the first place. Corrections are the price of admission to the theater of outsized returns.

David Sheaff Gilreath, a certified financial planner, is a 39-year veteran of the financial service industry. He established 

, a portfolio management company based in Indianapolis, with partner Ron Brock in 2001.

Articles

Growth and decline are the market breathing, inhaling when it advances and exhaling when it declines.

Of Corrections, Comebacks and Cognitive Dissonance

The Dow Jones Industrial Average, an index that has astonished with its ascent over the past decade, likely will continue to astonish through the 2020s, rising to 50,000 by 2027. But when this happens, you really shouldn’t be astonished.

The DJIA (aka, the Dow) was hovering around 31,000 the last week of January—after tripling in 12 years. So, reaching 50,000 in six years, a 40% increase, is by no means a stretch.

To some investors, this might seem unlikely. Yet the same kinds of economic and market factors that have goosed rises in recent years—plus some new ones, including the post-pandemic recovery—will be at work. 

The Dow, the second-oldest U.S. market index, was designed to serve as a proxy for the broader market and, to some extent, the economy. The Dow is a weighted index in which constituents’ growth or shrinkage are constantly quantified.

Increments of the growth or decline of index members are divided by a fractional, 14-decimal-place constant, known as the Dow divisor, to determine the index’s levels of gain or loss. 

Skeptics who regard Dow 50,000 by 2027 as pie in the sky need to wake up and smell the growth coffee they can drink when they have to eat this pie.

Even as the Dow has marched upward, these skeptics have deemed implausible projections that merely recognize average rates of ascent.

Since I started in this business in 1981, the Dow has doubled five times, once every seven or eight years. Fast forward to 2010, when the Dow was at 10,000 and the nation was slogging through the Great Recession, indicators prompted my firm to project 20,000 by the end of 2020.

That turned out to be conservative, as the Dow exceeded that mark in the winter of 2015 and hit 25,000 in the fall of 2017. Skeptics said further jumps like this were unlikely, but here we are in early 2021 with the Dow over 30,000.

 Dow 40,000 by 2025 and now that, too, seems conservative, given the rate of increase and the preponderance of powerful drivers. 

Skeptics complain that bad news will hamper growth, but over the past decade, and especially over the past year, the market hasn’t seemed to care about bad news; the news is always bad.

More recently, in the six weeks between Thanksgiving and early January, we couldn’t have had worse news, with headlines on a new peak in the spread of the coronavirus. But the Dow rose by 1,000.

Capitalism just keeps chugging along as Americans’ faith in their markets remains steadfast and foreign capital continues to stream in.

Bad news has long preceded periods of major economic and market growth. If you think the news was bad in 2020, consider 1920.

The nation was still suffering from the aftermath of World War I and the multi-wave Spanish flu pandemic, estimated to have killed up to 50 million people worldwide, and about 675,000 Americans out of a population of about 100 million.

All this set up a major recession and a steep market decline in 1920. To make matters worse, the enactment of Prohibition made it hard for people to drown their troubles. 

This problem was soon solved (speakeasies) by American innovation, which also created an unprecedented succession of life-changing products enabled by developing technologies: household appliances, movies, frozen foods, assembly lines that filled the roads with cars, and life-sustaining and -saving insulin and antibiotics, including penicillin.

The resulting economy propelled the marked upward, quadrupling the Dow by 1930.

Historians consider this wave of new products to be part of a broader group of advancements over about 20 years known as the second industrial revolution.

The third revolution is centered around the development of computer technology that started to take hold in the 1970s, laying the foundation for what’s becoming known as the fourth revolution: the digital revolution.

This one involves the current wave of computer-driven tools, programmed with binary code and directed by semiconductors, that have an integral place in our daily lives, help businesses run with increasing productivity, enable scientific breakthroughs (such as rapid vaccine development) and enable precise monitoring and measurement in just about every industry, empowering process control in manufacturing.

In recent years of this digital revolution, we’ve seen Apple reach a $1 trillion market cap by putting iPhones in hands of people around the planet, including those using them, after climbing out of poverty, to order goods online, spurring GDP and market growth.

The capabilities of 3D printing are rapidly expanding, as are those of 5G technology, artificial intelligence and robotics.

Many households are strewn with what we now call “devices,” which satisfy a need and an addiction to being online.

Further advances in these technologies and the development of related and wholly new ones—along with the widespread growth they’ll spur in virtually all industries, no matter how non-technical—will be bring market growth for years to come.

Direct and indirect growth drivers include:  

Artificial intelligence and robotics. The marriage of these two techs is a key development for producing consumer, commercial and industrial autonomous vehicles and devices, and will have a huge impact on a broad spectrum of non-vehicle industries. A subset of this area is the development of energy storage and management technologies, currently an intense focus of dozens of start-ups globally.

DNA sequencing. Human genome research has led to an understanding of DNA-linked proteins on a molecular level, enabling not just potential disease prevention, but also promising early therapies for genetically-linked diseases. The financial potential from commercialization is inestimable. 

Quantum computing. Still in the early development stages, quantum computing R&D promises a wholly different type of computer processing, capable of tasks that current models can’t get even approach. Commercialization could revolutionize some industries.

Blockchain technology. Though the nascent blockchain industry is currently dominated by cryptocurrency companies (the open-source code is the transmission vehicle for Bitcoin), it has tremendous potential for just about any transaction because it creates a tamper-proof audit trail, eliminating the need for middlemen and reducing litigation. It will revolutionize record-keeping and enable widespread online peer-to-peer (P2P) transactions.

Innovations in these and other fields are proceeding apace at a time when economic conditions are fertile for growth.

The U.S. economy is recovering from the black swan event of the pandemic-induced recession, interest rates (and thus the cost of capital for businesses) will likely remain historically low for years, sending money from bonds into stocks, and consumer demand pent up during pandemic lockdowns is rattling the cage to be loosed onto the economy.

Meanwhile, the Fed will likely continue to provide stimulus through bond-buying until the recovery gets its sea legs. 

The combined effect of these factors over the next several years will be, on average, a rising market—not just the Dow, but also the S&P 500 and, of course, the tech-heavy Nasdaq 100.

Along the way, there will naturally be market pullbacks and corrections—natural elements of any period of market growth.

Yet, though the line on the graph will be jagged, the market’s overall arch will be upward, making Dow 50,000 by 2027 (if not earlier) extremely likely.

David Sheaff Gilreath, a certified financial planner, is a 39-year veteran of the financial service industry. He established Sheaff Brock Investment Advisors LLC, a portfolio management company based in Indianapolis, with partner Ron Brock in 2001.

To some investors, this might seem unlikely. 

The Dow Will Probably Hit 50,000 by 2027

Imagine that you told your financial advisor 10 years ago that you wanted to structure your portfolio to reap gains from growth stocks and yet position for anticipated near-term outperformance from value stocks pummeled by recession.

And suppose you told your advisor that, because of their long-term price stability and reliable dividends, some of these same value stocks could ably serve as a bond alternative, as bonds would now be scoffed as an asset class 

, an inversion of the classic descriptor.

Your advisor would probably tell you that any market warranting this approach would be the result of stars aligning strangely. Unless your advisor was around for the Spanish flu pandemic of 1917, he or she probably couldn’t have imagined people quarantining at home while spending more on technology and pining to get out to spend while congregating. But that’s the current market scenario.

While growth tech is continuing to run, it has slowed down, calling attention to unsustainably high P/E ratios that may be presaging a rise in value stocks. As of last month, tech stocks were trading at an average of about 31 times their 12-month forward earnings estimates, the highest level since anything dot-com was investors’ pyrite.

On the other hand, these ratios’ spread against those of some value sectors (e.g., industrials, at 24 times earnings) could be a sign that growth tech is peaking, signaling a market rotation value, 

Of course, some tech growth stocks will continue to deliver, but on a more mortal level. Meanwhile, you can take advantage of key sectors likely to rise down the road from economic recovery, though this may be delayed by the current second wave of the pandemic. As 

 offer long-term relative price stability for asset preservation, along with reliable, increasing (and reliably increasing) dividends that are much higher than current bond yields on an after-tax basis. 

A strategy for the transition from the pandemic and post-pandemic market, seeking to optimally exploit both, would involve these sectors and industries:

Long before the pandemic fueled revenue from sales of end-user tech products (devices, software and video games), this sector had momentum from sales to electric car manufacturers and data centers ramping up for 

. And this momentum will likely continue after the pandemic because microchips are the building blocks of tech products that we’re using more and more—in our phones, Pelotons and AI products (including refrigerators!) connected to the IoT (internet of things).  

Microchips are becoming so prevalent that some analysts have called them the new oil. The returns workhorse and multi-market supplier Nvidia, as well as various names in the semiconductor indexes tracked by ETFs, such as SMH, should keep delivering for investors for years to come. 

Among these, AMD made news in late October by announcing its acquisition of Xilinx, which will give it a presence in the data center and automobile markets. A few days later, Marvell technology group announced a deal to acquire chip manufacturer Inphi, producing a combined entity more competitive in the data center and infrastructure markets. This consolidation reflects intense competition, so also-rans will naturally wither, and major players will enjoy market aplenty as the chip market expands toward technological ubiquity.

As what were once new indulgences become long-term habit, ecommerce companies–notably Amazon—will likely continue to thrive, if history is any guide. The company’s stock has a 

long-term pattern of rising, plateauing and then rising

 again. Though competitors—including dividend aristocrat Wal-Mart Stores and, internationally, the monstrous Alibaba and its Latin American counterpart Mercado Libre—repeat business from Amazon Prime members wanting free shipping is a huge advantage.

Moreover, analyst Mark Mahaney of RBC believes that Amazon’s successful cloud computing arm, AWS, with additional pressure from Microsoft’s Azure cloud services, will probably edge out Google for this business.

Meanwhile, Mahaney says, Amazon is putting out its buckets while it rains by expanding its distribution capacity by about 50% in anticipation of continued pandemic-linked volume in the short term and new habits in the long term. Further, Amazon’s ad platform sales are continuing apace.

Consumer discretionary and consumer staples

The consumer staples company that comes immediately to mind is America’s number one retailer, Wal-Mart, which is also enjoying its position as the nation’s number two online retailer while its customers wait to shop IRL again.

Target, another aristocrat, has also ramped up its online business for the pandemic. Other aristocratic consumer staples stocks include Walgreens Boots Alliance (Walgreen’s pharmacy) and class B of Brown-Forman (wine and spirits). During and after the pandemic, people do and will need drugstores, and drinking at home is now more popular than ever. So is cooking at home. Consumer staples performers with good dividends include Kroger, Tyson Foods and Hormel Foods. 

An obvious comeback category, restaurants still standing will benefit from high pent-up demand—but picking winning chains is tough. A safer bet is to buy stocks of restaurant suppliers.

, the market leader in a crowded field of vendors (US Foods is number two)—is a dividend aristocrat nicely positioned for growth fueled by diners who’ve eaten way too much of their own cooking and to many soggy delivery pizzas.

In the next year or two, a long-discussed, chimeric Congressional infrastructure bill will probably become real, not because Congress will necessarily want to act but because it will have to. The country’s roads, bridges, railways, airports, communications networks and power grids are deteriorating to the point of hamstringing the economy; decay is now at 

. And infrastructure improvements are popular with voters because they create jobs.

The names most poised to benefit include some producing products that incorporate data analysis and automation (again, microchips) to improve efficiency. A good example is aristocrat Caterpillar, whose line of humongous extractive vehicles includes fully automated models. CAT has perked up a bit since mid-August, perhaps reflecting early confidence in imminent infrastructure legislation.

Another industrial aristocrat to watch is Rockwell Automation, a process-control system manufacturer that recently inked a partnership with Microsoft. In materials, the strategy of investing in essentials means steel and concrete suppliers. Two that come to mind are aristocrat Nucor (a specialty steel manufacturer with sales for bridges, roads and construction pipes and tubes) and US Concrete. Analysts recently raised price targets for both companies.

Several years ago, a standard asset-preservation move would have been to put trimmings from appreciated stocks into bonds. But now, with bond yields so low and bond risk much higher, it makes more sense to put tech growth gains into the value stocks positioned to rise with economic recovery and a likely infrastructure bill. Thus, investors can straddle the transition from a pandemic to a post-pandemic market.

You can take advantage of key sectors likely to rise down the road from economic recovery, though this may be delayed by the current second wave of the pandemic.

Straddling the Pandemic and Post-Pandemic Markets

The classic dichotomy of growth stocks versus value stocks may be at a pivot point.

If it is, the resultant scenario might soon be summed up with these hybridized song lyrics: When a lovely thing (growth’s long run) dies, it could be the start of something big (value rising from something small).

Value stocks are, of course, scoffed and shunned, which is what makes them undervalued by investors despite inherently promising fundamentals. They are companies with share prices below those of the 

broader market and below those of their industry peers.

By contrast, growth stocks are priced higher than the broader market, have recent high earnings growth and exhibit relatively high volatility—meaning more risk.

Growth has had a long run triumphing over value, stretching for more than a decade this time around. But historically, value has had some long runs, too, shining again after high-flying growth stocks have receded.

As personified value stocks would say to preening growth stocks, pride goeth before a fall. And historically, when growth stocks have fallen, value stocks have stepped over them and thrived.

Over periods of 10 to 15 years, growth and value have historically averaged about the same returns. Over shorter periods, though, historically there have been significant differences.

The current dominance of growth is an unusually long run. But now that the overall market has come down a bit from its lofty highs several weeks back, the decompression is greater for growth stocks—in September, down about 10%, compared with 5% for value stocks.

A study by Dr. Kenneth French at Dartmouth’s Tuck School of Business shows that over the really long term, value has done far better.

In this study, a centenarian’s hypothetical, $1 invested in value index shares purchased in 1927 would now be worth more than $50,000. During the same period, a dollar invested in growth by now would have grown to just under $3,000.

Over shorter periods, of course, results vary according to whether we’re in a growth or value cycle.

Until recently—and even still in some quarters--talking about near-term prospects for value outperforming growth has been like worshipping false gods.

However, a few analysts and prominent economist (Jeremy Siegel of Wharton) has been poking his/her head up recently to point out signs of a coming market rotation from growth to value. And some investment houses have recently announced a new emphasis on acquiring value shares.

Historically, the best time to add value shares to a portfolio has been when they were doing the worst relative to growth—when the spread between the two has been the widest. In recent weeks, these spreads have been quite wide.

The disparity is illustrated by the difference in performance between the value ETF SPYV, down more than 10% for the year, and the growth ETF from the same company, SPYG, up more than 17%, as of late September.

Yet, as value-to-growth spreads were narrowing a couple months ago, before widening again, this apparently prompted some tech-growth-skittish investors to start adding value shares. While value stocks by no means are showing a jackrabbit start, these investors evidently anticipate a sustained uptrend, as value is getting big cash inflows.

In the first two and a half weeks of September, for example, nearly $900 million flowed into the 

, with other value ETFs also getting noticed by a previously indifferent market.

This shift is also evident on the other end of the growth-value see-saw

, with declining numbers in some big growth funds.

, which has benefitted from the growth feeding frenzy this year through large allocation to big tech growth, saw $1 billion leave in the first two weeks of September. Other prominent growth ETFs have experienced the same recent fate.

Investors selling growth and adding value are apparently positioning for what they expect to be a near-term rotation. If this rotation is slow in gaining steam, at least they’ll be diversified, fortified against a big growth drop in growth stocks.

And there’s another benefit to being in value now. With bond yields scraping bottom, choosing the right value stocks can not only position you for growth in the event of a grand rotation, but also can bring higher income. 

Adding the right values stocks in lieu of bonds needn’t play havoc with your asset allocation as it used to, as asset-class dynamics have changed.

 —your father’s asset allocation (switching to 60-40 close to retirement)—is archaic now that bonds’ performance is more correlated with that of stocks and bond yields are paltry. Bonds now offer the worst of both worlds--a fixed term with almost no income.

The right value stocks are those that, while not big growers, aren’t big sinkers, either. Some, like 3M and Caterpillar, have exhibited relative price stability over long periods.

Add to that a reliably paid dividend and a good dividend yield (price per share divided by annual dividend—essentially, what investors have to pay for dividends), and you have a stock that serves goals of owning bonds, but with better income.

Some value stock dividends are far superior to bond income now that Treasury yields have sunk well below 1%, with the 10-year paying .753% and the 5 year, .318% on Oct. 5.

Yields of investment grade corporate bonds are also a shadow of their former selves. As of Oct. 2, the yield to maturity of the iShares Core US Bond ETF was 1.14%.

By contrast, the current average dividend yield of 

—a category of 50-plus venerable, long-established companies in which 3M and Caterpillar are charter members--is 2.3%.

A record of increasing dividends every year for at least 25 years.

A record of holding their value over rolling five-year periods. The aristocrats haven’t had a negative five-year period since 2000—even in the financial crisis of 2008-09.

Despite the current defensive—and potentially offensive—advantages of getting into aristocratic value stocks, there are good reasons to believe that some big tech stocks—despite high prices and sky-high price/earnings ratios—will nevertheless continue to do well, though probably without ethereal ascendance they showed in Q2 and Q3 of this year.

For example, the semiconductor industry will continue to thrive, selling chips to data centers and electric car manufacturers, whether or not many people are still working from home.

Thus, tech growth companies with sustainable business models and reliable earnings will continue to fertilize the economic ground for value companies. Investors in this ecosystem may want to own stocks or funds, in the right amount, in both the value and growth categories. 

The classic dichotomy of growth stocks versus value stocks may be at a pivot point. 