(Note: Data and graphs as of March 18th.)
With its low beta and high dividend payout, AT&T (NYSE: T) has long been a darling among conservative investors. Currently, AT&T's beta of 0.28 makes it less than one-third as volatile as the broader market S&P 500 index, while its high dividend payout of some 5% annually puts the stock among the market's top dividend payers.
What's more, AT&T's dividend has been raised every year for over 30 years, qualifying the stock to be included in an elite membership known as the Dividend Aristocrats. If a reliable income stream and protection of capital are among your investment priorities, AT&T will serve you very well indeed.
And so far this year it has, rather handsomely too. Despite being less than one-third correlated to the S&P index, AT&T has outperformed the broader market during the first quarter of this year by a factor of 6 to 1! The tortoise is outrunning the hare, posting gains of 12% to the S&P's 2% rise year-to-date.
But when this telecommunications giant turns from being a stable darling to an outperforming superstar, that just might be too much of a good thing. How so? Having a low-beta stock outperform the broader market is usually a strong indication that a flight to safety is taking place among institutional investors, an ominous sign that a dark financial storm may be headed our way.
As a confirmation that AT&T's recent surge is indeed a desperate flight to safer harbors is the recent performance of the U.S. 10-Year Treasury Note. Have you noticed how the benchmark bond's yield has plummeted since the U.S. Federal Reserve raised its Federal Funds [interest] Rate last December? Normally, interest rate hikes drive bond and Treasury prices down, widening their yields. Yet this time they went the other way. And since then, the 10-Year's yield has remained below 2%, despite the expectation of still another rate hike soon to come.
It is no coincidence that the 10-Year's yield's downhill plunge and AT&T's skyward surge have mirrored each other, as graphed below. This, my investor friends, is what a market without confidence looks like.
Source: BigCharts.com, with my overlays
"But why the jittery nerves?", one may ask. "After all, the market has been on an upward slope for the past seven years since the last market collapse ended in early 2009."
Yes, and that is precisely the point, isn't it? Seven years are much too long to go without a bear market. As is clearly noticeable in the S&P 500's performance over that period as graphed below, this third longest bull run in stock market history has been showing signs of exhaustion. This bull is dead tired and is about to keel over.
Source: BigCharts.com, with my overlays*
As noted in red above, the broader market has been trading in a downward channel for well over a year now, bouncing between lower highs and lower lows. If the S&P's latest rally since mid-February fails to overtake 2,100, a fall through the floor of its latest lows in the mid-1800s is almost assured. And if the index does indeed fall through that floor, it will have a lot of air to fall through before stopping at its long-term level of support near its previous all-time high just under 1,600 (in yellow); and even further to its next cluster of resting-stops near 1,400 (in blue) - a highly prominent stopping area both on the way up as well as on the way down as far back as late 2006.
Incidentally, if you subscribe to modern stock analysis theories derived from the 13th century Italian mathematician Fibonacci's theories of numbers in nature, the modern "Fibonacci 50% retracement rule" would have the S&P index give back 50% of its last up-leg (which ran from 700 in 2009 to 2,100 in 2015), necessitating a retreat back down to the middle of that range, or to the same 1,400 level drawn in blue above.
So what exactly does AT&T's stock have to say about all of this? Its stellar performance as of late has something rather foreboding to say, to be sure. And we would do well to listen to it, for it has been the smart money's early warning bell, time and again.
We begin our analysis by breaking down the last 13 years since the end of the 2000-2003 bear market into four segments:
a) the 2003-05 "risk on" bull market,
b) the 2006-09 "risk off" cresting transition and bear market,
c) the 2009-15 "risk on" bull market, and
d) the 2015-16 "risk off" cresting transition.
Note that while segment "b" traces both a cresting transition and the bear market that followed it, the 2015-2016 cresting transition in segment "d" does not come with its own bear market. But only because this cresting is not yet complete. It is the thesis of this article that the current cresting will transition into a bear market of its own…soon.
A) The 2003-2005 "Risk On" Bull Market
As graphed below, U.S. equities enjoyed an invigorated bull run from the end of the 2000-2003 bear market in March of 2003 until the end of 2005.
This is what a true bull market looks like, with the broader market soaring (beige), and safe harbors like AT&T boringly trending sideways, completely off of investors' radars (black). Indeed, AT&T held true to its low beta nature.
B) The 2006-2009 "Risk Off" Cresting Transition and Bear Market
But beginning in early 2006, market sentiment had changed. For the next 2.5 years as graphed below, U.S. equities would be stuck in a sideways transitioning phase on their way into the second-nastiest bear market in U.S. history: the devastating 2007-2009 financial crisis.
Although the bull market continued through to the third quarter of 2007, with the S&P 500 index rising some 93% from March 9, 2003 to October 9, 2007, market sentiment had begun shifting as early as February of 2006 - even while the bull was still running. Some two-thirds of the way into the bull's 4.5-year run, investors had already begun pouring into AT&T's stock, a full 1.5 years before the bull started collapsing in Q3 of 2007.
Living up to its bellwether image, AT&T's stock had given investors ample warning that the bull was getting tired and would soon have to lay down to take a nap, which it did during the 1.5-year bear market of mid-2007 to early 2009.
Clearly, then, when a low beta stock like AT&T outperforms the broader market by a large degree over a sustained period of several quarters, investors ought to take heed: a bear is approaching. Institutional investors can hear a bear a mile away, even while the rest of the market is lulled into lethargy by the bountiful picnic.
That neat-and-tidy little cycle of "bull market followed by a cresting transition into a bear market", which spanned from early 2003 to early 2009 as outlined in parts A and B above, has repeated itself throughout history over and over again. The question we want answered now is: At what stage within this repeating cycle are we today?
C) The 2009-2015 "Risk On" Bull Market
This time around, the risk-on bull phase of the cycle ran from early March of 2009 to mid-April of 2015, as graphed below.
Why have I picked those months as the start and end times of cycle's upward slope? Because both of the necessary conditions qualifying a period as a true bull market were being met; namely, a spirited performance by our broader market hare, and a sleepy performance by our low beta AT&T tortoise. All is well as long as stock prices reflect their stocks' betas.
But once again, as the bull grew tired of running up such a steep hill, the smart money knew it was time to reposition itself into a more defensive posture.
D) The 2015-2016 "Risk Off" Cresting Transition
The time to set sail for safer harbors had arrived, and on April 21, 2015, AT&T began sounding the call for all ships to head for shore, as graphed below. The flight to safety had begun.
The current transition to a more defensive posture began rather slowly at first. But it picked up a great deal of momentum in mid-December of 2015. Do we recall what happened at around that time? It was then that the U.S. Federal Reserve announced it would raise its overnight inter-bank lending rate by a quarter of a percentage point - the first rate hike in nine years.
As of today, we are almost one full year into the current cresting transition, well on our way to the next bear market. Remember that the last cycle's transition phase (covered in part B above) lasted only 1.5 years before it gave way to a bear. Does that mean we can expect the next bear to stomp all over our picnic blanket in the next few months?
Yes, that is precisely what it means. And it will be the next interest rate hike of another quarter point in June that will finally push this exhausted bull over. Normally, a quarter of a percentage point increase in interest rates would have a negligible impact on markets. But as noted in our second graph up top, the bull's front legs are already kneeling down. When a bull is this exhausted, you can knock it over with a feather.
Keep in mind, too, that this seven-year bull market is the third longest in U.S. history. There is a lot of air inside this equity cake; so much so that the slightest thud can cause it to collapse.
In the meantime, seriously consider taking some profit from your winning positions, especially the high beta ones, and increase your low beta defensive holdings, including members of the Dividend Aristocrats so you can at least get a decent income during what could end-up being a 2-4 year bear market.
Yes, the smart money can smell a bear closing in on our position. Don't take my word for it. Take AT&T's word for it.
For those who really love historical patterns, here is an interesting water-cooler tidbit…
This year is the election year at the end of a two-term presidency (Barack Obama's). But take heed: at the end of each of the last three two-term presidencies, the stock market crashed.
- In 2008 - the election year at the end of George W. Bush's two-term presidency - the S&P 500 experienced a crash of -47% from that year's peak to that year's trough.
- In 2000 - the election year at the end of Bill Clinton's two-term presidency - the S&P 500 experienced a crash of -18% from that year's peak to that year's trough.
- In 1987 - just one year before the election year at the end of Ronald Reagan's two-term presidency - the S&P 500 experienced a crash of -45% from that year's peak to that year's trough.
Okay, so that last example was off by one year. But the major indices did not return to their pre-1987 crash highs until late 1989. Hence, the pattern is valid. In fact, in all three instances noted above, the market took from 2 to 4 years to return to pre-crash levels.
Though it may seem coincidental at first glance, there is actually a rather reasonable explanation for the pattern. The second term of a presidency will see the continuation of policies from the first term, extending the prior course of action and adding consistency and predictability to the government's economic policies. If there's one thing markets love it's predictability.
Just note the S&P 500's performance during all four two-term presidencies since 1980:
Reagan's 1st (1981-1984) = up 27.17% (high hit in 1983)
Reagan's 2nd (1985-1988) = up 101.37% (high hit in 1987)
Clinton's 1st (1993-1996) = up 73.75%
Clinton's 2nd (1997-2000) = up 106.21%
G.W. Bush's 1st (2001-2004) = down 8.08%
G.W. Bush's 2nd (2005-2008) = up 29.15% (high hit in 2007)
Obama's 1st (2009-2012) = up 62.28%
Obama's 2nd (2013-2016) = up 49.68% (high hit in 2015).
President Obama's second term broke the pattern. But we need to remember that the 2007-2009 bear market was pretty severe, the worst since the Great Depression of the 1930's. Hence, markets performed uncharacteristacally well during Obama's first term in office if only because investors had been presented with the best buying opportunity of a generation.
Yet when a president's second term comes to an end, the increased likelihood of a shift in the governing party brings with it an increased likelihood of a shift in government policies, injecting a great deal of unknowns into economic equations across the board. And if there's one thing markets hate it's uncertainty. So investors start locking-in their profits, unwittingly triggering market crashes as everyone rushes toward the exits all at once.
Will the "curse of the two-term presidency" smite us again in 2016? (The first four notes of Beethoven's 5th Symphony play eerily in the background.)