Market Insights

The only thing more striking than the depth of the recent market rout is its speed. It took the S&P 500 just 22 days to fall 30%, the quickest drop of that magnitude in history. The fast freefall has left little time for equity strategies touting downside protection to deliver it … but give it a moment. Stock selection can help navigate equity market downturns, but it provides greater value over a longer period than three panic-stricken weeks.

At Dana, we pride ourselves on the ability to outperform in sustained bear markets and our strategies did so through both the tech bubble and great financial crisis. This is largely what we would expect, given our investment process. We focus on high-quality companies that trade at a discount to their peers. These companies tend to outperform when the economic outlook sours and the rest of the market gravitates toward companies with stable balance sheets and steady earnings growth.

We see early signs the market is once again starting to differentiate between high and low-quality companies. But a bias toward smaller companies and a tilt toward value hasn’t yet helped us in the current downturn.

As stocks slid from record highs to bear market territory in a matter of days, not months, the thing that would really make a strategy shine in the current market environment is to increase one’s allocation to cash. We view this as a market timing call, however, and it’s simply not what we do.

Is Your Manager a Timer or an Investor?

In the earliest stages of a bear market – particularly this one – the best way to cushion the fall is to hide in cash or short equities. Undoubtedly, there have been some long-only managers that have probably benefited from holding excessive cash positions during the recent rout.

With stocks crossing into bear market territory, it’s been a tough period for equities. But credit the market sell-off for one thing: it’s been discerning. Stocks are down broadly, but lower-quality companies bore the brunt of the sell-off.

The volatility underscores why we take a high-quality approach to stock selection. In volatile periods the market typically recognizes stocks of companies with greater earnings stability and stronger balance sheets. Conversely, companies with higher debt levels or speculative growth models are typically punished harder in market downturns and have been again in March.

We believe holding a portfolio of these higher-quality companies leads to outperformance in periods of market stress, and, in turn, better relative performance over a full market cycle. The recent volatility underscores the value of this approach.

We’re proud to announce that our Dana Large Cap Equity Fund - Investor share class (DLCEX) hit its 10-year track record on March 1st, 2020. The Fund has returned 218.38%, an annualized return of 12.28% over this period.¹

“10 years ago, we chartered a new course to serve investors with a mutual fund offering. In these volatile times, we are proud to reflect on our accomplishments this past decade and pleased to have generated such strong positive performance for our fund shareholders. We believe in today’s current environment it is more important than ever to stay focused on the long-term goals.” Mark Mirsberger, CPA, Chief Executive Officer

What a difference 15 months makes. In the fourth quarter of 2018, the market was down almost 20% through Christmas Eve and had dropped over 10% in just the middle two weeks of December. Jerome Powell had just led the Federal Reserve to the fourth interest rate increase of 2018. Regardless of the market drop, Powell seemed to have a ‘what, me worry?’ attitude. He said that the balance sheet reduction was on autopilot.

Throughout 2018, we feared that the Fed was an unwitting enemy of both the markets and the economy, and that became clear at year-end. Powell tempered his tone, and the Fed embarked on what seemed like an interminably long pause until it cut rates at the end of July 2019. During that period, the ten-year Treasury yield fell below short-term rates in late May and remained there until early October. The equity markets traded in a range through the summer and fall, and only moved to new highs just before the last Fed cut in October. Since then, the move upward has continued with markets constantly nearing all-time highs. The Fed has since telegraphed an ‘on hold’ policy going forward.

Large-cap stocks have had quite the run recently. Who would have thought the tenth year of the current bull market would bring a 31.49% return for the S&P 500 Index - its strongest yearly performance since 2013? Considering the long-term average length of equity bull markets is a shade over seven years, 2019’s epic performance will likely stand out in investors’ minds for some time.

The fourth quarter was especially strong. Despite stumbling during the first two days of October, the S&P 500 Index reached new highs 22 times during the quarter, including nine records in the final 13 trading days of the year. While small-cap stocks participated in this rally, they still lagged large-caps for all of 2019 with the Russell 2000 Index up +9.94% for the quarter and +25.52% for the year.

While nobody should be complaining about such robust late-cycle returns, the underperformance of small-cap stocks is a bit confusing. Investors were in a risk-on mentality during much of 2019, and typically in this environment, “riskier” assets, including small-cap stocks, are expected to outperform. What is also perplexing is the lack of effect that the ongoing trade-war related headlines had on large cap stocks, since large cap companies tend to be more global in nature compared to the more domestic footprint of small caps’ business models.

In our last two blogs on environmental, social and governance (ESG) investing we discussed the what and how of ESG investing.  In our final blog of the series we are going to explain why ESG investing is important for investors and for the future of the entire investment landscape. 

The adoption of ESG investment criteria in the investment community has hit a critical mass. Today, funds employing some form of sustainable investing strategy hold 25% of a company shares¹.  

There are a variety of styles in which environmental, social and governance (ESG) funds are managed.   As with classic fund investing, the typical ESG fund manager will consider traditional investment metrics incorporating factors such as valuation, growth, earnings and balance sheet health.  In addition to these financial metrics, the manager will incorporate an array of ESG metrics into the investment process, analyzing factors that include:

Environmental: pollution, consumption and disclosure 

Social: tobacco, labor practices, gambling, pornography, weapons 

Governance: board independence, CEO compensation, auditing processes 

Faith-based: abortion, contraception, alcohol

Environmental, social and governance (ESG) investing is all the rage. When Dana Investments started our first ESG fund at the turn of the century, the total market size for ESG strategies was only $2 trillion. At the start of 2018, ESG strategies accounted for an astounding $12 trillion in investable assets! However, despite this robust demand, an air of ambiguity still hovers over the ESG marketplace. Investors are hearing about these funds and clearly want to know more. 

ESG, SRI (socially responsible investing), RI (responsible investing) and faith-based funds all fall under the umbrella of impact investments. The mandate for these funds is to consider the impact that corporate behavior has on shareholders, stakeholders and society. Impact investors not only want their returns, they want their returns to matter.

The index returns above are a snapshot of the robust returns for financial assets in 2019.  These returns were buoyed in the second half of the year with the reversal of two investment headwinds: interest rates and trade. The Federal Reserve lowered the Fed Funds rate by 0.75% while the U.S. and China made progress in their tenuous trade dispute. The gains in the equity market averages were accompanied by lackluster 3.5%* earnings growth. As a result, market valuations appear stretched.  Entering 2020 the Case Shiller P/E ratio is 31.19, a level of valuation exceeded only in 1929 and 1999.

In case you somehow have not yet heard, 2020 is a presidential election year. In November, we Americans will go to the polls and collectively determine whether President Trump has earned another four years in office, or if we would be better served by the chosen Democrat candidate. While the race is sure to be hotly contested and the ad dollars good for network and social media bottom lines, what, if anything, does a presidential election portend for equity markets?