New Year in the Stock Market Even as December limped to a close - no Santa Claus rally in sight - the fervor surrounding artificial intelligence (AI) left its mark in 2024, powering significant gains in the S&P 500 and Nasdaq.
Further stoking the fire: the Federal Reserve cutting interest rates on three separate occasions in the latter half of the year. Stocks also rallied sharply following Trump's win in November, as traders factored in the expectation for lower taxes and a looser regulatory approach under a Republican administration.
The S&P 500 ended 2024 with an annual gain of about 23% after rising by 24% in 2023, marking the first time since 1997 and 1998 that the index has closed with back-to-back gains of above 20%.
Those are the headlines for the year. But there’s more to a market than headlines. Let’s get some perspective.
Further stoking the fire: the Federal Reserve cutting interest rates on three separate occasions in the latter half of the year. Stocks also rallied sharply following Trump's win in November, as traders factored in the expectation for lower taxes and a looser regulatory approach under a Republican administration.
The S&P 500 ended 2024 with an annual gain of about 23% after rising by 24% in 2023, marking the first time since 1997 and 1998 that the index has closed with back-to-back gains of above 20%.
Those are the headlines for the year. But there’s more to a market than headlines. Let’s get some perspective.
The Average Stock
Yes, the S&P delivered 23% and change. Spectacular by any measure. But a third of the S&P 500 is concentrated in the so-called “Magnificent Seven;” Alphabet (Google), Amazon, Apple, Meta Platforms, Microsoft, Nvidia, and Tesla. Coincidently, these companies are all on the cutting edge of the AI revolution and the commercialization of that revolution.
Because the S&P 500 is a market-cap weighed index, these seven stocks have an outsized influence in the performance of the index. A more balanced look at the market, arguably, would be the S&P 500 Equal Weight Index, an equal-weight version of the S&P 500 where each company is given an equal weight.
For 2024, the equal-weight index is up 10% and change.
Indeed, more than a third of all the stocks in the S&P 500 will close the year in the red. That includes 98 stocks down at least 10%, and 60 down at least 20%.
How Did The Strategies Do?
But for two, the strategies are closing out 2024 with gains; some good, some moderate, and some barely.
Five Stocks SORTINO wasn’t able to take us on that full 48% ride since it only came online in August. Ditto with Bond Bulls SORTINO (online in November). But both will be available in 2025. American Muscle returned 22.4% on top of a nice 27% return in 2023.
Some of the others, unfortunately, struggled to get a footing. This was partially due to hedges gone soft (TLT down 11% for the year, JNK flat for the year), and partially due to just plain poor selection of risk assets by the algorithms. This will happen periodically; even back-to-back months of underperformance are not unusual. While I’m not worried about The 12% Solution longer term, I did take the opportunity to reshuffle the assets available to Global Trader, including adding a bitcoin ETF to the mix. And going forward, Five Stocks SORTINO will take the place of the original.
It’s going to be an interesting New Year.
How Is 2025 Shaping Up?
Most of Wall Street doubts another year of gains north of 20% is achievable. Forecasts for the S&P 500 in 2025 tend to cluster around the 10% mark - certainly healthy gains by any standard.
One outlier, tech bull Dan Ives, senior analyst at Wedbush Securities, said in a December 30 note that he expects tech stocks to rise 25% in 2025 due to less regulation under the Trump administration and a continued “Goldilocks foundation” for Big Tech.
Fundstrat’s Tom Lee notes that “while December has been disappointing, we do not think this is a sudden change of market character.” He added that fundamental tailwinds heading into the New Year are still in place.
Could Anything Go Wrong?
Plenty.
In 2024, the Fed largely quashed inflation without throwing the economy into a recession. Yet inflation is not entirely tamed, and a resurgence could lead the Fed to change course on its easing cycle. Such prospects could become more likely if Trump implements tariffs on U.S. imports that lead to higher consumer prices.
“The most significant wild card on the table for 2025 will be the potential implementation of tariffs,” says David Sekera, chief US market strategist at Morningstar.
Stock valuations, meanwhile, are around their steepest levels in more than three years, leaving greater potential for turbulence.
And then there are the bigger risks that don’t appear in any of the year-end prognostications coming out of Wall Street. These are the unknown unknowns. As Josh Brown, CEO of investment advisory firm Ritholtz Wealth Management, puts it, “The exogenous shocks that no one in finance is thinking about because they transcend finance. Putin decides he wants Poland. Two submarines accidentally bump into each other in the Strait of Taiwan. A new strain of bird flu starts infecting humans. Something alien steps off a drone on a soccer field in New Jersey. You could lie awake at night driving yourself crazy over this sort of risk and still never see the thing coming when it does.”
How to handle exogenous risks to our portfolios?
Don’t go out on limbs. Pay attention to risk metrics. Keep your emotions in check. I’ve tried to create strategies that will do just that, tools that enable us to participate in the markets while maintaining protection and minimizing emotional decision making. With a bit of luck, barring those aliens stepping off a drone in New Jersey, I think we’ll be fine in 2025.
And For What It’s Worth…
The “infinite monkey theorem” posits that a monkey hitting keys at random on a keyboard for an infinite amount of time will, eventually, have typed any given text, including the complete works of Shakespeare.
Not so fast. Australian mathematicians calculated that if all 200,000 of the world’s chimpanzees were chained to typewriters and made immortal, they would fail to produce the Complete Works of Shakespeare or even any “non-trivial written work” before the expected heat death of the universe in 1.7 x 10¹⁰⁶ years. In fact, there would be only a 5% chance that a single chimp would successfully type the word “bananas” in its own lifetime. -- BBC
I find this comforting. As the AI robots are quashing us like bugs, we can take satisfaction knowing no ape wrote the playbook on world domination.
As noted before, long term, the strategies will get the trends right. Short term, there may be a miss or two as the market juggles conflicting signals. So keep allocations of strategies reasonable within your portfolio, and remember that protection* remains paramount.
--David
_____
* WHAT DOES PROTECTION LOOK LIKE?
At the extreme, it’s cash. As I mentioned last month, it’s OK to hold some cash. Cash is, in fact, a position. It means you’re prepared to act when circumstances better align with your risk tolerance.
Protection can mean an overweight position in a model built for protection. Lower volatility and lighter drawdowns often indicate that a model is more protective in nature. Bond Bulls, for example, has the lowest volatility and max drawdown of any of the models.
Check out the updated white paper Conservative vs. Aggressive Portfolios for a list of all the strategies ranked from lowest risk to highest in terms of max drawdown.
Protection can mean putting multiple strategies to work in a portfolio, especially when those models tend toward an inverse relationship with each other, or focus on different asset classes or market sectors. Think Bond Bulls and American Muscle. Or Global Trader and The 12% Solution. Or even a bit of the Zen Knuckle combined with a couple of the above.
Because each strategy uses a slightly different mechanism to identify market risks, and because each can employ different funds representing different market sectors (although there is obviously some overlap), there is beneficial diversification at work when using multiple strategies within a portfolio – helping to reduce volatility and max drawdown.
Further down the page in Conservative vs. Aggressive Portfolios you can see examples of various combinations and how they have performed over the years.
Protection can mean keeping an eye on provisional picks during the month. These can provide a heads-up on potential trends -- and breakdowns of existing trends. Look for asset class shifts (a switch from an equity fund to a safe harbor asset like cash or bonds, or the contrary).
See if such a shift holds up for a few days. Not every such move is a trading opportunity or justifies a rebalancing, but information is power.
Finally, employing stop-loss and stop-limit orders. A stop-loss order is an order placed with a broker to buy or sell a specific stock (or ETF) once that asset reaches a specific price. It's designed to limit an investor's loss on a security position. While not perfect, and you'll find my own pro-and-con thoughts on the Q&A tab in the Members Pages, stop-losses have their place in risk management.
Read more on the Investopedia page for Stop-Loss Orders.
Yes, the S&P delivered 23% and change. Spectacular by any measure. But a third of the S&P 500 is concentrated in the so-called “Magnificent Seven;” Alphabet (Google), Amazon, Apple, Meta Platforms, Microsoft, Nvidia, and Tesla. Coincidently, these companies are all on the cutting edge of the AI revolution and the commercialization of that revolution.
Because the S&P 500 is a market-cap weighed index, these seven stocks have an outsized influence in the performance of the index. A more balanced look at the market, arguably, would be the S&P 500 Equal Weight Index, an equal-weight version of the S&P 500 where each company is given an equal weight.
For 2024, the equal-weight index is up 10% and change.
Indeed, more than a third of all the stocks in the S&P 500 will close the year in the red. That includes 98 stocks down at least 10%, and 60 down at least 20%.
How Did The Strategies Do?
But for two, the strategies are closing out 2024 with gains; some good, some moderate, and some barely.
Five Stocks SORTINO wasn’t able to take us on that full 48% ride since it only came online in August. Ditto with Bond Bulls SORTINO (online in November). But both will be available in 2025. American Muscle returned 22.4% on top of a nice 27% return in 2023.
Some of the others, unfortunately, struggled to get a footing. This was partially due to hedges gone soft (TLT down 11% for the year, JNK flat for the year), and partially due to just plain poor selection of risk assets by the algorithms. This will happen periodically; even back-to-back months of underperformance are not unusual. While I’m not worried about The 12% Solution longer term, I did take the opportunity to reshuffle the assets available to Global Trader, including adding a bitcoin ETF to the mix. And going forward, Five Stocks SORTINO will take the place of the original.
It’s going to be an interesting New Year.
How Is 2025 Shaping Up?
Most of Wall Street doubts another year of gains north of 20% is achievable. Forecasts for the S&P 500 in 2025 tend to cluster around the 10% mark - certainly healthy gains by any standard.
One outlier, tech bull Dan Ives, senior analyst at Wedbush Securities, said in a December 30 note that he expects tech stocks to rise 25% in 2025 due to less regulation under the Trump administration and a continued “Goldilocks foundation” for Big Tech.
Fundstrat’s Tom Lee notes that “while December has been disappointing, we do not think this is a sudden change of market character.” He added that fundamental tailwinds heading into the New Year are still in place.
Could Anything Go Wrong?
Plenty.
In 2024, the Fed largely quashed inflation without throwing the economy into a recession. Yet inflation is not entirely tamed, and a resurgence could lead the Fed to change course on its easing cycle. Such prospects could become more likely if Trump implements tariffs on U.S. imports that lead to higher consumer prices.
“The most significant wild card on the table for 2025 will be the potential implementation of tariffs,” says David Sekera, chief US market strategist at Morningstar.
Stock valuations, meanwhile, are around their steepest levels in more than three years, leaving greater potential for turbulence.
And then there are the bigger risks that don’t appear in any of the year-end prognostications coming out of Wall Street. These are the unknown unknowns. As Josh Brown, CEO of investment advisory firm Ritholtz Wealth Management, puts it, “The exogenous shocks that no one in finance is thinking about because they transcend finance. Putin decides he wants Poland. Two submarines accidentally bump into each other in the Strait of Taiwan. A new strain of bird flu starts infecting humans. Something alien steps off a drone on a soccer field in New Jersey. You could lie awake at night driving yourself crazy over this sort of risk and still never see the thing coming when it does.”
How to handle exogenous risks to our portfolios?
Don’t go out on limbs. Pay attention to risk metrics. Keep your emotions in check. I’ve tried to create strategies that will do just that, tools that enable us to participate in the markets while maintaining protection and minimizing emotional decision making. With a bit of luck, barring those aliens stepping off a drone in New Jersey, I think we’ll be fine in 2025.
And For What It’s Worth…
The “infinite monkey theorem” posits that a monkey hitting keys at random on a keyboard for an infinite amount of time will, eventually, have typed any given text, including the complete works of Shakespeare.
Not so fast. Australian mathematicians calculated that if all 200,000 of the world’s chimpanzees were chained to typewriters and made immortal, they would fail to produce the Complete Works of Shakespeare or even any “non-trivial written work” before the expected heat death of the universe in 1.7 x 10¹⁰⁶ years. In fact, there would be only a 5% chance that a single chimp would successfully type the word “bananas” in its own lifetime. -- BBC
I find this comforting. As the AI robots are quashing us like bugs, we can take satisfaction knowing no ape wrote the playbook on world domination.
As noted before, long term, the strategies will get the trends right. Short term, there may be a miss or two as the market juggles conflicting signals. So keep allocations of strategies reasonable within your portfolio, and remember that protection* remains paramount.
--David
_____
* WHAT DOES PROTECTION LOOK LIKE?
At the extreme, it’s cash. As I mentioned last month, it’s OK to hold some cash. Cash is, in fact, a position. It means you’re prepared to act when circumstances better align with your risk tolerance.
Protection can mean an overweight position in a model built for protection. Lower volatility and lighter drawdowns often indicate that a model is more protective in nature. Bond Bulls, for example, has the lowest volatility and max drawdown of any of the models.
Check out the updated white paper Conservative vs. Aggressive Portfolios for a list of all the strategies ranked from lowest risk to highest in terms of max drawdown.
Protection can mean putting multiple strategies to work in a portfolio, especially when those models tend toward an inverse relationship with each other, or focus on different asset classes or market sectors. Think Bond Bulls and American Muscle. Or Global Trader and The 12% Solution. Or even a bit of the Zen Knuckle combined with a couple of the above.
Because each strategy uses a slightly different mechanism to identify market risks, and because each can employ different funds representing different market sectors (although there is obviously some overlap), there is beneficial diversification at work when using multiple strategies within a portfolio – helping to reduce volatility and max drawdown.
Further down the page in Conservative vs. Aggressive Portfolios you can see examples of various combinations and how they have performed over the years.
Protection can mean keeping an eye on provisional picks during the month. These can provide a heads-up on potential trends -- and breakdowns of existing trends. Look for asset class shifts (a switch from an equity fund to a safe harbor asset like cash or bonds, or the contrary).
See if such a shift holds up for a few days. Not every such move is a trading opportunity or justifies a rebalancing, but information is power.
Finally, employing stop-loss and stop-limit orders. A stop-loss order is an order placed with a broker to buy or sell a specific stock (or ETF) once that asset reaches a specific price. It's designed to limit an investor's loss on a security position. While not perfect, and you'll find my own pro-and-con thoughts on the Q&A tab in the Members Pages, stop-losses have their place in risk management.
Read more on the Investopedia page for Stop-Loss Orders.
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