Broker Check

7300 Wealth Connect – 06 – 20


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

Looking for the Ray of Light at the End of a Dark Tunnel

Businesses shed 20.5 million jobs in April. It was the largest number of job losses since monthly records began in 1939 according to the St. Louis Federal Reserve.

Figure 1 offers another vantage point – the percentage change versus the prior month. April’s 13.5% decline in nonfarm payrolls easily surpassed the 4.8% drop at the end of WWII.

While weekly first-time claims for unemployment insurance are slowing, they continue to exceed levels seen in every prior recession (Dept. of Labor).

In April, the unemployment rate surged to a post-depression high of 14.7% (U.S. BLS). Some analysts believe it could surpass 20% in May (Econoday).

Government enforced lockdowns designed to slow the spread of COVID-19 and “flatten the curve” have put tens of millions of people out of work. Beyond that, falling demand for most goods and services has spurred additional layoffs.

But we may be seeing some signs that the economy is starting to stabilize. Over the last 10 weeks, 40 million people have filed a claim for unemployment insurance (Dept of Labor through the week ended May 23).

Those who must continue to file to receive jobless benefits fell 3.9 million to 21 million in the week ended May 16 (data on continuing claims are one week behind), which suggests state reopenings are encouraging businesses to bring back furloughed workers.

High frequency data offers up hopeful signs, too. While unconventional, weekly and even daily data points suggest the economy is trying to bottom. We won’t quickly return to pre-COVID-19 employment levels, but early indications are cautiously encouraging.

Daily travel through TSA checkpoints is rising again – see Figure 2.

Hotel occupancy is ticking higher as lockdowns ease and leisure travel slowly rises (Figure 3).

The US MBA Purchase Index, which measures home loan applications, has risen for 6-straight weeks and had its fifth-best reading over the last 12 months (Figure 4). It suggests that housing sales are recovering at a faster pace than had been anticipated.

If we’re looking for a tangible sign that any economic recovery may be more robust than many expect, look no further than the money supply. Thanks to the trillions of dollars spent by the government and the massive monetary response from the Federal Reserve, money supply growth has soared beyond anything we’ve ever seen (Figure 5).

However, what might be called the transmission mechanism has been broken via lockdowns and shelter-in-place orders. The money is there, it just can’t be spent right now. But economies are slowly reopening around the country.

Where might we be headed?

Even in the best of times, economic forecasting can be difficult. Today, the outlook is clouded with a much greater degree of uncertainty.

Will the virus lay down over the summer? How will reopenings proceed? How quickly can a vaccine or effective treatment be developed that’s readily available? What might happen to COVID-19 next fall and winter? How quickly will consumers venture back in public and resume prior spending patterns? All are difficult to answer but will help determine the path and speed of an economic recovery.

Final thoughts

Given the severity of the downturn, the stock market has been incredibly resilient.

The S&P 500 Index is down just 5.8% year-to-date and down just 10.1% from its February 19 peak. The unprecedented response by the Federal Reserve has lent support and so has the $2.9 trillion in fiscal relief from the federal government.

More recently, talk of a vaccine and state reopenings have aided stocks against the backdrop of rock-bottom interest rates.

Analysts are divided as to how quickly the economy may recover, and the questions posed above may be used as a guide.

Though the outlook remains unusually uncertainty, investors collectively look to the future, and they are betting on a rebound later in the summer.

7300 Wealth Connect – 05 – 20


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

The Wall Street Main Street Disconnect

The economic data are rolling in. With few exceptions, we don’t have much of a read on April’s numbers, but March has been ugly.

Weekly first-time claims for unemployment insurance have exceeded 30 million in a 6-week period – see Figure 1. It’s disheartening and a number that would have been inconceivable a couple of months ago.

March’s 5.4% decline in industrial production was the biggest one-month drop since the end of World War II (St. Louis Federal Reserve). A 7.5% decline in March consumer spending was the largest ever recorded (dating back to 1959).

The Chicago Fed National Activity Index is a broad-based measure of economic activity. It is comprised of 85 separate monthly indicators.

In March, it registered its sharpest monthly decline ever – see Figure 2.

Preliminary Q1 GDP fell at an annualized pace of 4.8% – see Figure 3. The number is subject to revisions. Q2 is expected to be much worse as the full impact of the crisis is reflected in the economic data.

The monthly rally for the Dow and S&P 500 is the best since 1987 and the best April since 1938, according to Dow Jones Market Data.

Let’s explore the primary reasons for April’s rise.

  1. Don’t fight the Fed is an old Wall Street adage. Economic activity has fallen off a cliff, which suggests stocks should have followed.

    Through the near-term bottom of March 23, stocks were in a tailspin, but the Federal Reserve has acted with unprecedented speed.

    For example, the Fed began a torrent of bond-buying to stabilize markets. Between March 16 and April 16, the Fed bought nearly $79 billion a day in Treasury and mortgage-backed securities. By comparison, it bought about $85 billion a month between 2012 and 2014 per the Wall Street Journal.

    Further, the Fed has not only resurrected credit market programs used in the 2008 financial crisis, it is aggressively reaching out to Main Street.

  2. The federal government has reacted with uncharacteristic speed, doling out over $2.5 trillion in stimulus checks, jobless benefits, help to small businesses, and more. Some of the programs haven’t worked flawlessly, but the government’s efforts are well above the $787 billion in 2009 stimulus.

    Is it too much? Some will fret over the expected explosion in the deficit. However, the response to the economic crisis has had strong bipartisan support.

  3. Investors are forward-looking and are eyeing 2021. In 2019, S&P 500 profits hit a record $163/share (Refinitiv). While the range of uncertainty is very high and projections are subject to change, profits are forecast to fall to $131/share in 2020 and rise to $168/share in 2021 (as of Apr 30).

    $168 may still be too high, and much will depend on how the economic outlook unfolds. Nevertheless, talk of some type of economic recovery later this year and next aids sentiment.

  4. Finally, the virus appears to be peaking, and investors are cautiously eyeing states that are set to slowly reopen their economies. It’s a delicate task, balancing the need to contain the virus with economic vitality.
  5. Possible treatments and a COVID-19 vaccine have also soothed nerves.

We can continue to expect stock market volatility in the near term. The economic outlook is uncertain as businesses slowly re-open, but there is talk of more support from the federal government and the Federal Reserve. Given what’s happening in the real economy today, stock market reaction has been cautiously encouraging.

Final thoughts

I don’t want to downplay the havoc created by COVID-19. We are living in a world that nobody could have possibly envisioned a few months ago. You may have friends and loved ones who are dealing with the disease. It’s incredibly unpleasant.

Yet, unexpected blessings have surfaced. People are reaching out to family and friends via texting, Zoom, and emails. Some are even connecting the old-fashioned way – by phone.

Activities and jobs around the country have been suspended but not ended. I am confident we will eventually see an economic recovery take root, and the pandemic will subside.

We are a resilient people. Together we will get through this dark night, and we will be stronger for it.

Stay safe, stay healthy, and please abide by government mandates designed to slow the spread of COVID-19. Remember, my door is always open.

7300 Wealth Connect – 04 – 20


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

The COVID-19 Recession and the Policy Response

The year began on a firm footing. Economic growth appeared to be accelerating and job growth was strong. Coupled with low interest rates and forecasts for accelerating profit growth, stocks repeatedly hit new highs.

At one point, the Atlanta Fed’s GDPNow model, which incorporates economic reports on a real time basis, placed Q1 economic growth at 3.3%. But that was yesterday’s news. The coronavirus epidemic has forced economic activity to a halt in many parts of the country. What we are seeing is far different vs. the more typical recession, if there is such a thing as a typical recession.

Recessions have their roots in various causes. Inevitably, consumer and business confidence takes a hit and spending declines. Today, however, many are simply unable to spend.

Social distancing and mandatory closures of businesses have placed a roadblock in front of our normal spending patterns. The service sector, with its person-to-person interactions, has been the hardest hit, and massive layoffs have begun.

The shift in the atmosphere has been incredibly abrupt. Aircraft carriers don’t turn on a dime. But the $20 trillion U.S. economy has. It’s unprecedented.

We are seeing an enormous amount of volatility in the stock market because investors don’t know how to forecast the depth and severity of the recession or what will happen to corporate profits.

The enormous amount of economic uncertainty is very difficult to model (to predict the eventual outcome) because we don’t have a modern precedent.

Imagine a ship near a rocky coast that’s socked in by fog, but the lighthouse isn’t putting out light. Or, you’re driving down the road at 40 mph and someone puts a blindfold on you. In a manner of speaking, that’s what’s happened to the market.

Today’s recession more closely resembles a natural disaster that affects an entire region. When a disaster happens, businesses typically treat such an event as transitory.

This time, the entire country is feeling the sting. The longer it drags on, the more businesses will fail and the more temporary layoffs will become permanent.

The Fed and the government step in

In order to soften the economic blow, the Federal Reserve has gone well beyond simply cutting interest rates to zero. It has implemented several programs designed to keep credit flowing in the economy and prevent a health crisis from morphing into a new financial crisis.

That said, banks are in much better shape today than 2008. The Fed has been proactive to prevent, not react to a major failure. In just three weeks, it has purchased nearly $1 trillion in assets to support various credit markets (Fig. 1). That number will likely go much higher.

Additionally, the Fed has focused on corporate and municipal bond markets, commercial paper markets (short-term unsecured loans by large companies), money market funds, and more.

Yet, its interest isn’t simply in Wall Street. It has also reached out to Main Street and is getting deeply involved in loans and grants to small businesses so that firms can maintain payrolls, at least for a time.

Put another way, its response has been far more aggressive and its scope has been much broader than during the 2008 financial crisis. The same can be said of the $2 trillion stimulus package signed by the president at the end of March.

The goal – ease what’s going to be a steep economic downturn in Q2 and put a foundation in place for an eventual economic recovery. If government mandates require we stay at home and require that businesses temporarily close, it only seems reasonable for the government to lend a helping hand.

Though volatility is expected to continue, it’s an important reason why stocks rallied near the end of March following a 34% selloff in the S&P 500 Index in just over a month (St. Louis Federal Reserve).

The average peak-to-trough decline in a bear market (defined as a 20% drop or greater) is 36.2% per LPL Research (back to 1929). But the speed of today’s decline is unprecedented.

Oil is pummeled

Cratering demand for oil and a price war launched by Saudi Arabia last month sent oil prices to the lowest level in almost 20 years. However, falling gasoline prices are likely to provide little support for spending as driving subsides and layoffs hit the energy sector.

Looking to history

There isn’t a modern precedent, but let me offer two past epidemics as guidance.

The deadly 1918 Spanish flu pandemic caused a 7-month recession in the U.S. (National Bureau of Economic Research). Going back to the 1850s, it is the shortest recession on record.

In Q1 1958, GDP fell 10.0% (St. Louis Fed). While the research available is sparse, the 1957-58 outbreak of the Asian flu appears to be the culprit behind the steep decline. GDP rebounded in the second quarter, and the length of the recession was pegged at 8 months (NBER).

Still, I recognize the economy today is much different. We’re much more service-oriented today. In the late 1950s, our manufacturing base was bigger. Yet, massive stimulus is in the pipeline.

Road to recovery

No one rings a bell on Wall Street sounding the all-clear sign. Collectively, investors attempt to price in future events. The 2007-09 recession ended in June (NBER), but stocks bottomed in early March (St. Louis Fed, various sources).

But here are some signposts to look for.

  1. A massive response by the Federal government and the Federal Reserve. I think we can check the box on this signpost.
  2. A peak in U.S. cases and subsequent decline in new cases.
  3. Removal of lockdowns and our confidence to go back in public rises.
  4. Effective treatments and/or a vaccine are developed.
  5. Economic clarity – how steep and how long might the recession be?

I recognize this is a very troubling time. What’s happening is unparalleled in modern history. We are facing an economic crisis, and one inspired by a health crisis. Historically, pandemics peak, and this one will peak, too. Further, underlying U.S. economic fundamentals are strong.

I’m confident that we will eventually see an economic recovery, furloughed workers will start going back to work, and you and I will patronize these businesses. In the meantime, I’m always available to take your questions and discuss your concerns.

Stay safe, stay healthy, abide by government mandates designed to slow the spread of COVID19, and remember, my door is always open.

7300 Wealth Connect – 03 – 20


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

Fears Spread Faster Than the Coronavirus

For much of February, traders acted on the ebb and flow of coronavirus headlines. When the virus was contained to China, investors looked past most of the risk.

Sure, anxieties were surfacing that an economic slowdown in China could ripple across the globe, slowing U.S. exports and crimping supply chains. But headlines of the spreading virus didn’t prevent the S&P 500 Index3 from recording seven all-time closing highs last month (through Feb., 19, St. Louis Federal Reserve).

That is, until the weekend of Feb 22/23, when reports surfaced the coronavirus had spread to Italy, South Korea, and Iran. Cases in South Korea have exceeded 4,000 (as of March 1) followed by Italy at 1,704. Iran is just behind Italy, but most believe the country is dramatically underreporting the spread of the virus.

The epidemic in China appears to have plateaued, and new cases are declining. Since China has recorded the lion’s share of infections, the plateau in China is cautiously encouraging

There are fewer than 100,000 cases worldwide and over eight billion people on the planet. Here’s another encouraging stat: the number of total active cases, which is total cases less recovered patients less those who have died, has been declining – see Figure 2.

What has spooked markets? The virus is no longer contained to China – see Figure 3.

Warranted or not, there are growing anxieties that the epidemic, which has yet to be officially declared a global pandemic by the World Health Organization, will hinder economic growth at home and abroad and potentially tip the economy into a recession.

Why? Consumers stay inside and cut back on spending, and businesses put projects on hold as they seek clarity.

From an investment perspective, investors do not like heightened uncertainty.

You see, in this case, heightened uncertainty simply means the number of economic outcomes has widened, and that widening is to the downside. Connecting the dots, slower economic growth hinders profit growth, which adds to volatility.

Adding to the more tumultuous market, stocks have surged since October and were priced for perfection. When shares are priced for perfection, they can be more vulnerable to a pullback that is triggered by an unexpected event.

With the selloff in stocks, the 10-year Treasury yield (Figure 4) and the 30-year Treasury yield have fallen to all-time lows (Treasury bond prices and yields move in the opposite direction), as traders seek a safer haven in government bonds.

Perspective—pandemic of fear

The coronavirus is the latest in a series of events that have caused tremors in the stock market. We’ve seen pullbacks before, and we’ll see them again. Per CNBC, we’ve had 16 peak-to-trough declines in the S&P 500, ranging from 5% to nearly 20%, since the 2009 bull market began. February’s selloff is the latest.

What makes the coronavirus different from the flu or past epidemics? Great question and it’s one that’s hard to answer.

Could it be the 24-hour news cycle and its relentless coverage of the virus? Possibly. Or might the very cautious tone on Tuesday, February 25 from the Centers for Disease Control and Prevention (CDC) be creating needless worry?

I’m not a medical professional and don’t want to downplay the health impact. Eventually, we’ll be able to Monday morning quarterback media coverage.

What we do know is that the virus is contagious and can be transmitted from person to person. But so can the flu.

Per the CDC, 32 – 45 million people in the U.S. have contracted the flu (Oct 1 – Feb 22), 310,000 – 560,000 have been hospitalized, and tragically, 18,000 – 46,000 have died. But we incorporate the flu season into our daily routine, and news coverage of the flu pales in comparison to the coronavirus.

The 2009-10 H1N1 flu was classified as a pandemic. It was responsible for approximately 60.8 million cases, 274,304 hospitalizations, and 12,469 deaths in the United States per the CDC.

Yet, we didn’t get wall-to-wall coverage, and investors brushed aside most concerns.

Maybe the media were focused on a new president and the financial crisis and Great Recession. As we move into March, the number of cases in the U.S. will probably rise, but like China, I suspect growth in the virus will eventually slow and plateau. The timing, however, is uncertain. Meanwhile, health officials don’t expect the virus to mutate into something similar to the Spanish flu in 1918.

As I mentioned, I’m not a medical professional, but we should all take common sense precautions. Wash your hands, keep your hands away from your face, and use the sanitized towels for the grocery cart.

Simple safeguards will reduce the risk of contracting any number of viruses, including the cold or flu.

If you plan to travel, consider travel insurance.

Looking ahead

From an economic perspective, the Atlanta Fed’s GDPNow model is tracking Q1 GDP at a solid 2.6% (updated Feb 28). Job openings have come down (U.S. BLS), but the labor market continues to be tight, job growth has been strong (U.S. BLS), and weekly first-time claims for unemployment insurance are low (Dept of Labor).

On Friday Feb., 28, the Fed Chief Jerome Powell reiterated that fundamentals for the economy “remain strong.” But the Fed is “closely monitoring developments and their implications for the economic outlook. We will use our tools and act as appropriate to support the economy.”

That last sentence is the Fed’s way of hinting a rate cut or other action is likely in the pipeline. That said, an individually crafted financial plan that incorporates your goals and other factors, including your risk preferences and time horizon, has historically been the best path to achieve one’s financial goals.

The plan incorporates inevitable market declines and keeps one from making rash decisions when markets turn volatile. Or, for that matter, when stocks surge ahead, and one may be tempted to take a more aggressive but riskier posture.

I recognized that these are trying times, not simply from the vantage point of the investment community. No one likes uncertainty, especially as it relates to our health and the health of our loved ones.

Extreme uncertainty drains our most precious resource: our happiness. Turn off the news, get outside, and turn to what brings you peace. I am confident that this too shall eventually pass, and we will be better for it.

If you have any thoughts, questions, or concerns, feel free to reach out to me. That’s what I’m here for.

7300 Wealth Connect – 02 – 20


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

Investors Balance Fundamentals and Fear

The series of new highs we experienced late last year carried over into 2020. During the first month of the year, the Dow Jones Industrial Average1 recorded 5-new closing highs, and the S&P 500 Index3 notched 6 new highs (St. Louis Federal Reserve data). The peak: January 17.

Furthermore, the S&P 500 Index failed to record two-consecutive daily losses for 29-straight trading days, tying a streak that goes back to 1955 (LPL Research, St. Louis Fed).

However, when stocks are priced for perfection, any kind of surprise can create volatility. After a strong run, fears a surprise epidemic in China—the coronavirus—could slow global economic growth provided the perfect backdrop for short-term traders to book profits.

Market drivers—the fundamentals

Many of the themes that fueled the market’s rise during the past decade have been present during the latest rally.

While growth has moderated, the U.S. economy continues to expand. During the final quarter of the year, Gross Domestic Product, which is the largest measure of the value of goods and services, expanded at a 2.1% annualized pace–see Figure 1.

Interest rates remain very low and the Federal Reserve is once again expanding its balance sheet via T-bill purchases. Last year, the Fed cut rates three times (Figure 2), and the 10- year Treasury is yielding well below 2%.

With tailwinds being provided by economic growth, low-yielding, interest-bearing investments provide little competition for stocks. And with official measures of inflation below 2%, the Fed appears to be in no hurry to take back any of last year’s rate cuts.

According to Refinitiv, profit growth is forecast to accelerate in 2020 after being nearly flat in 2019.

The U.S. signed a limited trade deal with China, and Congress passed USMCA, which is a trade agreement between the U.S., Mexico, and Canada that replaces NAFTA.

Optimism is gradually rising that global growth may be stabilizing after slowing over the last two years. The coronavirus remains a wild card.

Priced for perfection

The latest upward leg in the long-running bull market is encouraging. But, when stocks surge and appear priced for perfection, any disappointments or surprises can leave shares vulnerable.

The coronavirus that originated in China has infected over 17,000 people, nearly all in China (MarketWatch as of Feb 2). Yet, we’ve seen epidemics hit the headlines before—SARS in 2003, the 2016 Zika virus, the 2009 H1N1 swine flu, and the 2014 Ebola outbreaks.

While we don’t know when or how quickly this virus may run its course, from an historical perspective, any damage to the global economy or markets was limited during prior epidemics.

Looking ahead

The Conference Board’s Leading Economic Index isn’t flashing red, but recent data suggest we may continue to see U.S. economic growth moderate in the first half of the year.

While trade tensions have diminished, President Trump has threatened to take action against European allies, which could create new uncertainty.

That said, conditions that typically lead to recession aren’t in place today, and low interest rates and an easy environment for accessing credit continue to support the U.S. economy. It’s an important reason stocks started on a positive note as the new year began. If you have any thoughts, questions, or concerns, feel free to reach out to me.

7300 Wealth Connect – 01 -20


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

A Banner Year, A Banner Decade

The decade began under a dark cloud. The U.S. was climbing out of the Great Recession, and many wondered whether the economy might flounder for years. However, as investment legend Warren Buffett likes to say, “Never bet against America.(NBER)”

The economy exited the Great Recession in July 2009 (NBER). As of July 2019, the expansion became the longest on record. The unemployment rate ended 2009 at 9.9% and fell to 3.5% as of November 2019. Over the same period, 22.4 million jobs were created (St. Louis Federal Reserve).

The S&P 500 Index3 bottomed on March 6, 2009 at 676.53, closed at 1,115.10 on December 31, 2009. Ten years later, it finished the decade at 3,230.78. Figure 1 provides a graphic illustration of the long-running bull market.

We see a bull market that can be roughly broken into three periods, interrupted by sideways action that lasted approximately 18 to 24 months.

We recognize that stocks don’t move up in a straight line, and Figure 1 highlights the hurdles that temporarily sidelined the bulls. Yet, powerful tailwinds provided by modest economic growth, profit growth, low interest rates, low inflation, and corporate stock buybacks helped power gains throughout the decade.

The two biggest periods of volatility occurred in 2011 and late 2018. During 2011, recession worries surfaced amid an expanding eurozone debt crisis.

During late 2018, growing trade tensions between the U.S. and China collided with anxieties that Fed rate hikes might push the economy into a recession. But rate hikes that began in late 2015 didn’t carry over into 2019. Instead, the Fed cut the fed funds rate three times, from 2.25- 2.50% to 1.50-1.75%.


A look back at 2019 shouldn’t exclude the final quarter of 2018, when the S&P 500 Index lost nearly 20%. At the time, the Fed was on rate-hike autopilot, the global economy was slowing, and the U.S. and China were bickering about trade.

As the year unfolded, Figure 2 illustrates market action was dominated by U.S.-China trade headlines and Federal Reserve policy.

When volatility surfaced, trade was the epicenter of investor angst. Still, pullbacks during the year were modest by historical standards, with the S&P 500 Index falling by less than 7% during May and August.

As the calendar marched toward the end of the year, stocks recorded new highs as mid-year recession fears subsided, the U.S. and China finally agreed to a limited trade deal, and the Fed cut rates three times.

Further, optimism is slowly rising that the global economy may be stabilizing.

Collapsing yields

One of the biggest surprises of the year was the downturn in Treasury bond yields – see Figure 3. The drop in yields coincided with late 2018 stock market volatility but continued even as stocks recovered.

Several factors played a role.

The Fed shifted gears and cut rates, U.S. economic growth moderated, and key measures of inflation remained low.

Plus, yields around the world tumbled, which made Treasury bonds an attractive alternative.

As longer-term yields in the U.S. declined, the yield curve inverted, which means that the 3- month T-bill and the 2-year Treasury sported higher yields than longer-term bonds such as the 10-year bond.

The inversion between the 2 year and 10 year was very brief; nonetheless, inversions have historically preceded recessions. So, is it different this time?

Record highs in the stock market suggest that investors are optimistic as the near year begins. The steep drop in global yields may have distorted yields at home by artificially pulling them down and inverting the curve.

A look ahead

We began 2018 with unbridled optimism. Yet, stocks peaked in January, leading to the first decline in the S&P 500 Index since 2008.

Investors began 2019 in a somber mood, but the year recorded its best performance since 2013. Does that mean we’re in for another troubling year? Well, the S&P 500 Index posted a gain of 11% in 2014 after 2013’s banner year. So, let’s not read too much into the 2018-2019 pattern.

Many argue that the long-running bull market is living on borrowed time. A bear market must be lurking around the corner, right?

Economic cycles feed bull and bear markets

Since the mid-1960s, bear markets have centered around recessions. The one glaring exception: the one-day 1987 stock market crash.

Much will probably depend on the economy. While trade tensions created some worries, the consensus that economic growth wouldn’t stall likely cushioned the downside when volatility surfaced in May and August.

Taking a longer view, economists generally have an unenviable record of forecasting a recession. No one’s crystal ball is perfect, but conditions that have historically preceded a recession aren’t in place today.

1. Rising interest rates/rising inflation (recessions: 1974, 1980, 1982, 1990, 2001),
2. A credit squeeze that cuts off cash to businesses and consumers (recessions: 1980, 2008),
3. Asset bubbles (recessions: 2001, 2008). While we enter 2020 at highs, valuations in 2000 (earnings vs stock prices) were much higher. Interest rates were also higher.
4. Oil supply shock (recessions: 1974, 1990).

In addition, the decade-long economic expansion has been subpar by historical standards, i.e., it’s been boring. It hasn’t produced excess euphoria that generates excessive business investment and economic imbalances, as we saw in the late 1990s.

We’re in uncharted economic territory today, and the unemployment rate is low. Longer term, the stock market responds to the economic environment. We’ve seen that occur in previous expansions and recessions, we saw it during the last decade, and it seems likely to continue as we move forward.

Investor’s Corner

Control what you can control. You can’t control the stock market, and timing the market isn’t a realistic tool. But the one variable you can control is your investment portfolio.

Among other factors, your plan should consider your time horizon, risk tolerance, and financial goals. Investors with a long-term time horizon that adhere to a holistic financial plan, which takes various cycles into account, are on the best path to wealth creation and their financial goals.

Risks never completely abate, but they can be managed while taking advantage of the long term upward bias in stocks.

7300 Wealth Connect – 12-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

Christmas in November

November has been kind to investors, with multiple new highs for the major market indexes. Major milestones include: 28,000 for the Dow Jones Industrials, 3,100 for the S&P 500 Index (3,000 was eclipsed in July), and 8,600 for the NASDAQ Composite.

The fuel behind the rally

Q3 corporate profits haven’t been strong. In fact, Q3 S&P 500 earnings are down 0.4% versus a year ago (Refinitiv, 98% of companies having reported). However, 75% of S&P 500 companies beaten conservative estimates, which has lent support to shares.

Meanwhile, recession fears that surfaced during the summer months have subsided, encouraging investors to move into stocks.

Figure 1 highlights the ebb and flow of economic activity using a broad-based gauge called the Chicago Fed National Activity Index. It’s far from a household name, but the index is quite comprehensive and includes 85 separate monthly economic reports.

A reading above zero suggests economic growth is faster than the historical average; below zero would suggest growth is below the historical average.

A soft manufacturing sector has been a drag on the economy. While growth this year has not been as robust as 2018, an expanding economy has softened the blow during periods of volatility.

Another variable—low interest rates. The Fed has cut rates three times this year, with the fed funds rate falling to 1.50-1.75% from 2.25-2.50%. While other factors have played a role, a more accommodative Fed has helped pull the yield on the 10-year Treasury down sharply– see Figure 2.

Bottom line—lower interest rates offer up less competition for stocks.

The 800-pound gorilla

Trade tensions with China have dominated trading in 2019.

Optimism early in the year powered gains, increased tensions in May and August created volatility, while renewed optimism in the fall lifted stocks.

Prior to Thanksgiving, China’s Commerce Ministry said the two sides have “reached a consensus on properly resolving related issues (Wall Street Journal).” It’s a generic remark, but positive comments have encouraged investors.

If a deal proves to be elusive, tariffs that are scheduled to go up on December 15 could lead to retaliation by China and renewed volatility.

Still, both sides would like to conclude some type of agreement, even as public posturing is likely to continue. We won’t get the kind of comprehensive agreement hoped for earlier in the year. But it would translate into incremental progress that reduces tensions going forward and sets the stage for a possible phase 2 agreement between the two countries.

7300 Wealth Connect – 11-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

In Like Lion, Out Like a Lamb

In like a lion, out like a lamb is common folklore that refers to weather in March. It’s also an appropriate reference to how the broader market performed in October—volatility at the top of the month and calmer conditions and new high for the S&P 500 Index near the end (MarketWatch data).

One needs to go no further than the soft manufacturing economy and a weak manufacturing report that sparked a rocky start to October.

We have seen upbeat consumer spending, which makes up over two-thirds of the economy, but the smaller industrial side shouldn’t be discounted by investors.

Figure 1 highlights the close relationship between manufacturing activity and the S&P 500 Index since 1995.

The blue line (left side) is the change in industrial production versus a year ago. The red line (right side) is the change in the S&P 500 Index versus a year ago.

It’s not a perfect correlation, and we have seen times when the two variables have diverged. But for the most part, manufacturing has had an influence on stock market performance.

What’s dogging manufacturing?

The International Monetary Fund issued its World Economic Outlook in October. It runs 188 pages and dives deep into the inner workings of the global economy. For our purposes, we’ll touch on the highlights and keep to the matter at hand—manufacturing.

The IMF sited —

1. A sharp downturn in global auto production and sales,
2. Weak business confidence amid growing tensions between the United States and China on trade and technology, and
3. A slowdown in China’s economy, which is being driven by needed regulatory efforts to rein in debt and the consequences of increased trade tensions.

Further, growth in Europe has been weak, with Germany, which is more dependent on trade, teetering on the brink of a recession. Germany is Europe’s largest economy.

Let’s add two more factors.
1. Boeing’s (BA $340) well-documented troubles with its 737 MAX have hindered airplane sales and production, which may be moving the needle on manufacturing at home.
2. Activity in the oil patch has softened as oil companies focus on profitability in the shale fields vs costly all-out production. We can see the downturn in oil-related activity in the GDP data (U.S. BEA), including the most recent release on October 30.

It’s something that may not have mattered 10 years ago. Today, however, the U.S. is the world’s largest oil producer. Therefore, what happens to energy will have an impact on the economy at the margin.

In both cases, the slowdown ripples through to related industries.

A peek into the crystal ball

U.S. GDP, the largest measure of the economy, slowed from an annualized pace of 2.0% in Q2 to 1.9% in Q3, per the preliminary reading from the U.S. BEA. It’s not as robust as 2018, but U.S. growth has been enough to push the jobless rate to a 50-year low (U.S. BLS).

While the Conference Board’s Leading Economic Index is suggesting further moderation, it’s not signaling a near-term recession. Investors who are pushing stocks to new highs aren’t expecting a recession either.

Although the economic expansion has entered its 11th year and trade issues aren’t settled, economic conditions that might force the economy into a recession are mostly absent.

No two economic expansions are exactly alike, but inflation and interest rates aren’t soaring (1980/82 recessions), businesses and consumers have access to credit (1980), and we don’t appear to be in the middle of an asset bubble (2000 and 2008).

Yes, stocks are near or at new highs and we can never discount the potential for volatility. Still, valuations are much more reasonable today (vs 2000) when using earnings and today’s interest rates as our yardstick for valuing equities.

7300 Wealth Connect – 10-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

Trade Headlines and the Federal Reserve

Corporate earnings, Federal Reserve policy, and the economy have historically played a big role in influencing stocks.

While Fed policy factored into market activity in Q3, earnings and the economy took a backseat to trade headlines and geopolitical issues

It’s not that the economic data had no influence. An expanding economy cushioned August’s decline, which was a modest peak-to-trough drop of 6.1% for the S&P 500 Index (St. Louis Federal Reserve data).

If the data had signaled a sharp slowdown or a possible recession, stocks would likely have had a much weaker quarter. Instead, most major indices eked out a gain.

Still, investors took their cues from trade headlines for much of the quarter. In some respects, that’s been the case for the entire year.

Talk that China and the U.S. would agree to comprehensive trade deal fueled gains early in the year. That is, until the train leading toward an agreement ran off the tracks in early May.

China backed away from previously agreed-upon terms, President Trump retaliated with new tariffs, and a tit-for-tat escalation between the economic superpowers ensued.

In early June, the Fed shifted gears and hinted rate cuts might be needed as a buffer against trade uncertainty. Mix in a de-escalation of tensions and stocks recovered.

Enter August, and the Fed reduced the fed funds rate (Figure 1), but unsettling trade headlines created stiff headwinds. In September, the Fed cut again.

But sentiment improved when more comforting headlines revealed both sides would engage. A new round of negotiations between the U.S. and China are on the calendar.

Drama hits a fevered pitch in the nation’s capital

Meanwhile, U.S. House Speaker Nancy Pelosi said she would support an impeachment inquiry against President Trump, which adds another layer of uncertainty into the stock market equation. Yet, the initial reaction from investors has been muted.

Likely reason—the economic fundamentals are favorable. Still, many investors are asking what the political turmoil may mean for stocks.

Past impeachment proceedings may offer some clues – see Table 1

During President Nixon’s second term, inflation and interest rates were high, and the economy slipped into a steep recession. In other words, the economic fundamentals were terrible.

While Nixon resigned from office without being impeached, the House impeached Clinton but the Senate failed to convict. Despite the political brouhaha, stocks performed well amid a favorable economic backdrop.

Although no economic cycle follows the exact same path, today’s economic environment is more closely aligned to the late 1990 than the mid-1970s.

Final thoughts

As we enter Q4, uncertainty abounds. Investors will continue to grapple with trade, a possible European recession, Brexit, and a soft manufacturing sector.

Yet, an expanding economy, low interest rates, an accommodative Federal Reserve, stability in bond yields, and cautiously upbeat trade headlines have lifted the major indices.

We have seen volatility on a short-term basis, and we may see more.

However, the two 2019 selloffs—one in May and one in August—amounted to less than 7% each (St. Louis Federal Reserve). And shares subsequently recovered. For the longer-term investors, 2019 has been relatively calm, and stocks and bonds have performed well.

7300 Wealth Connect – 9-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

Cross-Currents in August

August can be hot and muggy and it leaves one pining for a fresh autumn breeze. Since 1970, August has, on average, been a lackluster performer for stocks (St. Louis Federal Reserve S&P 500 data). Last month was no exception – hot and muggy.

While August’s historically weak numbers are difficult to explain (September is the weakest), last month’s volatility and modest selloff can be traced to a couple of factors: escalating trade tensions with China and rising concerns about the global economy.

Last month, President Trump upped the ante in the trade war with China. Not surprisingly, China retaliated, and the U.S. responded in kind. But what might be the president’s strategy?

China has benefitted from the status quo for over 20 years. China has had no incentive to change its behavior.

Its economy has grown rapidly, in part, due to its ability to sell cheap goods to U.S. consumers. It has also obtained technology via theft and forced technology transfers from its U.S. partners doing business in China.

Up until now, China has had no incentive to play by the rules. Why should it? Crime pays.

There’s a new sheriff in town

Agree with his methods or not, Trump’s goal has been to change the calculus by ratcheting up pressure on China so that the status quo becomes increasingly painful. It’s a high risk/high reward strategy designed to level the playing field.

While China can ill-afford slower growth, Chinese retaliation comes at a price – volatility in financial markets and higher costs for U.S. businesses and consumers.

How long volatility may last is anyone’s guess. Sometimes, a well-timed conciliatory statement or tweet from the president sends stocks higher.

Will economic pain force China to negotiate in good faith? Or, will China wait out the 2020 election? Both sides are feeling the heat, and China is being incented to deal.

Plunging bond yields

Several variables affect bond yields. Expected inflation, expected economic growth, the Fed’s posture, and what is happening to the global economy and global bond yields.

Today, inflation is low, the global economy has slowed, the Fed is cutting interest rates and global bond yields have tanked. All of these factors have attracted cash into longer-term U.S. Treasuries (bond prices and yields move in the opposite direction).

Heightened uncertainty can also encourage investors to sell stocks and place the proceeds into Treasury bonds. The latest decline in yields began when President Trump announced new tariffs on Chinese goods at beginning of August – see Figure 1.

Further, rock bottom yields are creating anxieties that the Treasury bond market is telegraphing a recession.

Yet, there may be exogenous factors that are pressuring yields at home.

There is over $15 trillion (yes, trillion – that’s not a typo) in government debt around the world that yields less than zero (Bloomberg). That’s right, you’ll receive less than your investment if held until maturity.

A 10-year bond government bond in Switzerland sports a yield of -1.02%. Germany’s 10-year government bond yields -0.70% (Bloomberg as of Aug 30).

In comparison, U.S. Treasuries are attractive and may be drawing overseas cash, which artificially depresses yields at home.

Final thoughts

By itself, shorter-term volatility isn’t unusual. We see it from time to time when heightened uncertainty creeps into sentiment.

Still, peak to trough, the S&P 500 Index was down 6.1% between July 26 – August 14. By August’s close, the S&P 500 Index was off just 3.3% from its peak (St. Louis Fed/Yahoo Finance).

As I’ve said before, control what you can control – the financial plan. Much goes into crafting your plan. While it can be tweaked and it doesn’t eliminate risk, it helps manage risk, and it is designed with both up and down economic cycles in mind.

Ultimately, it is also designed with your financial goals in mind.

7300 Wealth Connect – 8-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

A Rate Cut in an Expanding Economy

The economy is expanding, consumer spending and consumer confidence are strong, job growth is respectable, layoffs are low, and the Federal Reserve just cut the fed funds rate by a 1⁄4% to 2.00-2.25% – see Figure 1.

It was a well-telegraphed rate cut. Only the magnitude of the cut was in question.

While the broad-based service sector is doing just fine, the manufacturing sector is in the doldrums, and business spending is soft.

A quarter-point rate cut won’t solve what ails manufacturing, nor will it jumpstart the global economy. Fed Chief Powell acknowledged such.

But he argued the shift in policy supports business confidence, and simply talk of a rate cut or cuts supports financial conditions.

Looking ahead, the Fed wasn’t as dovish as some had anticipated. Powell didn’t commit to a “lengthy cutting cycle,” nor did he say the Fed was one and done. Guidance was vague.

He said the Fed would be carefully reviewing the economic data, which suggests that stronger economic numbers could prevent further rate cuts. Yet, he acknowledged that trade tensions could still impact the decision-making process.

If you’re thinking he was playing his cards close to his vest, he was. Powell didn’t provide specific criteria for the next rate cut. He’s required to do so, but the initial, knee-jerk reaction wasn’t positive.

The most important ingredient in the stock market pie

Ultimately, it’s about economic and corporate profit growth. Today, the economy is expanding. It’s not rock-solid growth, it has moderated since 2018, but the economy is growing at a modest pace – see Figure 2.

In addition, we’re not seeing economic signals that would suggest a recession is looming.
• Key gauges of inflation and interest rates aren’t rising (1980/1982 recessions).
• We aren’t in the middle of a credit squeeze that could snuff out borrowing and the economic expansion (1980 recession).
• We’re not seeing significant asset bubbles (2001 and 2008).

Further, were not experiencing the kind of euphoria that leads to: “This economic joy ride will last forever.”

Yet, worries never completely cease. An economic shock can’t be ruled out, but odds are low.

Final thoughts

You can’t control the stock market and you can’t control the Fed.

From time to time, the Fed will shift gears. For example, we’ve seen shifts in the Fed’s language and guidance in recent months.

So, control what you can control – the financial plan. Much goes into crafting your plan. While it can be tweaked and it doesn’t eliminate risk, it helps manage risk and is designed with up and down economic cycles in mind.

It is also designed with your financial goals in mind.

7300 Wealth Connect – 7-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

The Fed and Trade Keep Investors on Their Toes

The Fed and international trade – these are the two headlines that dominated action in Q2.

Longer term, profits and profit forecasts are the leading driver of equities. Shorter term, sentiment can be influenced by various factors.

For much of the year, favorable headlines highlighting progress toward a trade deal between the U.S. and China aided equities. In addition, the Federal Reserve shifted gears, no longer talking about gradual rate hikes.

Coupled with modest economic growth, stocks have performed admirably.

In early May, the rally hit a roadblock when the president tweeted he would impose additional tariffs on China, injecting a new layer of uncertainty into the economic and stock market equation.

An unexpected tweet by the president in early June threatened Mexico with debilitating tariffs.

Yet, the peak-to-trough decline in the S&P 500 Index from April 30 thru June 3: a modest 6.8% (St. Louis Federal Reserve data). It’s nothing out of the ordinary.

Since 1980, the average annual maximum peak-to-trough pullback for the S&P 500 Index has been 14% (JP Morgan, LPL Research).

But shortly after Trump threatened Mexico, Fed Chief Powell shifted his stance. No longer was the Fed on hold. Instead, Powell implied the Fed would cut rates if the need arose, sparking a turnaround and lifting the S&P 500 Index to a new high.

The economy and Treasury yields

The steep drop in Treasury yields has surprised nearly everyone – see Figure 1.

In part, yields have fallen in developed nations, which encourages overseas investors to buy into higher-yielding U.S. Treasuries (bond prices and yields move in opposite direction).

Worries about a protracted trade war have increased economic uncertainty, which has encouraged a flight into safer U.S Treasury bonds.

And, odds of a rate cut or cuts this year have gone up significantly (CME Group FedWatch Tool), which also encourages investors to place cash into Treasury bonds.

If we read the tea leaves, the Treasury bond market is foreshadowing an economic slowdown. The same could be said from the Conference Board’s Leading Economic Index (LEI).

But the LEI isn’t suggesting the economy will contract this year. A quick peek at investment grade debt or yields in high-yield debt (junk bonds) aren’t suggesting a recession either.

You see, junk bonds are sometimes referred to as the canary in the coal mine. If investors expect a steep economic slowdown or recession, yields in junk debt can spike higher as investors flee shakier firms. That’s not happening right now. Investment grade debt can also come under pressure, though we typically see less volatility.

While the rally in stocks during June as not been as broad-based as we might like to see, action in the S&P 500 Index also suggests growth isn’t about to stall.

Rate cuts and stock market reaction

Since 1974, there have been nine rate-cut cycles by the Fed. Figure 2 illustrates the S&P 500’s reaction, from 1-month after to 12-months after the first rate cut in the cycle.

Over the last 45 years, a pattern has emerged, with stocks performing well when the economy side-stepped a recession, such as the mid-1980s, mid-1990s and the late 1990s. When the economy slid into profit-killing recession, rate cuts did little to bolster investor sentiment.

Ultimately, steady economic growth has historically been an important ingredient for stock market gains.

7300 Wealth Connect – 6-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

The Tweet Heard ‘Round the World

The U.S. and China were moving toward an historic trade agreement. It seemed as if the missing pieces of the puzzle were about to fall into place.

Then came a surprise tweet by President Trump on Sunday May 5th. Trump said he would raise tariffs on Chinese imports into the U.S.

Odds were low such an event would happen, but May’s Market Insights alluded to the possibility. “The U.S. and China have yet to reach a new trade agreement, and a setback could create unwanted volatility.” Unfortunately, that is what happened.

What came as a complete surprise – a month-end announcement by the president of new levies on all goods imported from Mexico, the 2nd largest U.S. trading partner (U.S. BEA), until “the illegal immigration problem is remedied.”

Investors are now grappling with the fallout of new trade tensions and the possible impact on the U.S. and global economy.

What happened with China? An apparent miscalculation by Chinese negotiators.

Here’s a May 9th headline in the Wall Street Journal: China Hardens Stance as Chinese Negotiators Emboldened by Perception U.S. was Willing to Compromise. A May 8th story by Reuters: China Backtracked on Almost All Aspects of U.S. Trade Deal.

From the vantage point of investors, renewed acrimony and ramped-up rhetoric on both sides have created a new round of volatility, though recent declines have been modest.

What might it mean for investors? Let’s review three possible scenarios.

1. The U.S. and China quickly come to terms – an enforceable trade deal is achieved. It’s the best outcome. Exporters benefit, U.S. intellectual property is protected, and any improvement in business confidence could translate into a new round of capital spending and hiring. Stocks likely rally. But look for Trump to set his sights on Europe and Japan.

2. Talks completely break down and we see more tit-for-tat retaliation – a full-blown trade war. Investors aren’t expecting this outcome. It’s the worst scenario. We would likely see more volatility as investors attempt to price in heightened economic uncertainty and any downside to U.S. and global economic growth.

3. Negotiations drag on for months, maybe through year end and beyond. The two sides appear to be far apart right now. Still, talks are better than no talks.

By month’s end, worries about the global and U.S. economy pushed longer-term Treasury bond yields to the lowest level since September 2017. (St. Louis Federal Reserve)

Yes, housing activity is down (Natl Assoc of Realtors, U.S. Census, U.S. BEA) and manufacturing has softened. But the economic slowdown isn’t as pronounced as the slowdown in 2015-16. And most leading economic indicators aren’t signaling a recession.

While short-term moves are difficult to precisely forecast, there are some important differences between today and the late 2018 selloff.

Risks never completely abate

The flare-up in trade tensions is the latest in a long list of risks and events that have buffeted stocks. Yet, shares have climbed the proverbial wall of worry – see Fig. 1.

The biggest risk to the bull market would be a profit-killing recession. Yet, the historical recipe for a recession isn’t in place – a credit squeeze, higher inflation that prompts higher rates from the Fed, or an asset bubble fueled by easy credit. Still, investors aren’t sure how to price a trade war’s impact on the economy. There isn’t a recent historical precedent.

Control what you can control. You can’t control the stock market, and timing the market isn’t a realistic tool. But, you can control the portfolio. Your plan should consider your time horizon, risk tolerance, and financial goals.

Risks never abate. The investment plan doesn’t eliminate risk but helps manage risk. Further, the plan is designed to capture the long-term upward market bias. It helps put you on a path towards your financial goals.

7300 Wealth Connect – 5-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

Green Grass and High Tides

On April 23, the S&P 500 Index3 finished the day at 2,933.68, eclipsing its prior all-time closing high of 2,930.75. That was achieved on September 20, 2018 (St. Louis Federal Reserve).

We’ve experienced an impressive turnaround from the gloomy sentiment that pervaded the market late last year. It also marks an official milestone for the long-running bull market that began in March 2009.

Officially, the bull market, as measured by the S&P 500 Index, has extended its run past 10 years. Lengthwise, but not performance, it exceeds the 1990s (Figure 1). Note – bull markets come to an end when the index declines by 20% or more from a prior high. The three-month selloff in late 2018 came up just shy of 20% – down 17.77%.

Over the last 50 years, bear markets have coincided with profit-killing recessions. The one notable exception – the 1987 one-day selloff. It topped 20%.

Coincidently (or not), 1998 and 2011 came up just shy of the arbitrary 20% figure. In both cases, a recession did not materialize. While a bear market is inevitable, we’re not yet writing the obituary on the current bull market.

The latest rally to a new high has been marked with low volatility, similar to what we saw during 2017.

While the lack of a sharp downdraft is welcome, let’s also recognize that selloffs aren’t unusual.

Look at Figure 2. Since 1980, the average annual gain in the S&P 500 Index, including reinvested dividends, has been 12.6%. The index has finished in positive territory 32 times, or 82% of the time. Yet, the average intra-year pullback totaled nearly 14%.

If history is our guide, a pullback this year can’t be ruled out. But, we see that broad-market indexes have historically had a long-term upward bias. Keep in mind that the average annual change can vary by a substantial margin.

A look behind the rally

  1. The first read on Q1 Gross Domestic Product (GDP), which is the largest measure of U.S. economic activity, came in at an annual pace of 3.2% (U.S. BEA). The headline number may not reflect the underlying trend for the quarter as consumer and business spending eased, but it’s still a solid start to the year. More importantly, near-term recession fears have subsided.
  2. In addition, economic growth overseas appears to be stabilizing.
  3. And, the Federal Reserve has said it doesn’t expect to hike interest rates this year.

    It’s not that rate hikes, in response to stronger economic growth, will automatically trip up the bulls. Eight rate increases between December 2015 and September 2018 didn’t prevent new highs. But in October, investors began to suspect the Fed was on rate-hike autopilot.

    At the time, the Fed seemed less concerned with the economic data and more concerned about getting interest rates back to a more normal level.

    I get it. Money that’s too cheap during strong economic growth can create economic imbalances that rarely end well.

    However, the Fed’s posture appeared to be too aggressive. As growth slowed late last year and stocks fell, the Fed took a much more cautious stance. A slowdown in inflation is also helping reinforce the central bank’s more flexible attitude.

  4. The U.S. and China have yet to reach a new trade agreement, and a setback could create unwanted volatility. But cautiously upbeat headlines have aided sentiment.
  5. Finally, Q1 earnings are topping a low hurdle (Refinitiv). We’ve seen this before. Companies issue conservative forecasts, analysts pare back estimates, firms top a low bar, and investors react favorably.

Risks never completely abate. When the grass appears to be too green and lush, and the high tide covers what lurks on the ocean’s floor, reality usually returns. But, when that occurs, keep Figure 2 in mind.

7300 Wealth Connect – 4-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

A Strong Start to the Year

The first quarter feels as if it has been the mirror image of the final quarter of 2018. Economic conditions are far from robust, but investors have jumped back into stocks, brushing aside fresh concerns. In fact, the S&P 500 Index 3 turned in its best quarter since Q3 2009, per the Wall Street Journal.

The Fed’s newfound flexibility has played a big role in supporting the market, in my view. In December, the Fed was talking about two rate hikes this year. That has changed. The Fed is no longer on rate-hike autopilot. Instead, it is carefully looking at the economic data as it contemplates its next move.

Crosscurrents have developed at home and the global economy has slowed. We’re seeing it in the trade data and specific sectors of the economy, including housing and autos.

The latest Fed forecast projects no rate hikes this year, and Fed Chief Powell pushed back against talk of a 2019 rate cut at his March press conference.

Cautious optimism about a U.S.-China trade agreement has also lent support. Despite favorable headlines, the two economic powers have yet to conclude an agreement that opens Chinese markets to U.S. goods, protects intellectual property of U.S. companies, and prohibits forced technology transfers. Most reports suggest the enforcement mechanism of any deal has been the sticking point.

Yielding to the curve

While the data are not pointing to an economic contraction, the economy has entered into a slower orbit of growth. Coupled with slower economic growth around the globe, we witnessed an inversion of the yield curve for the first time in over a decade.

What is the yield curve? The yield curve plots the yields of a bond with the same credit quality (such as Treasuries) over various maturities. It’s illustrated in Figure 2.

A year ago (3/29/18) the curve was “normally” sloped – longer-dated maturities offered a higher yield. Today, we see a “kink” in the curve. As of 3/28/19, the 10-year bond yielded less than the 3-month T-bill.

Why do we care? Should we care? An inverted yield curve may restrict bank lending, but by itself, it does not cause a recession. Instead, it’s the bond markets signal that short-term interest rates may eventually fall in response to an economy that is expected to weaken.

Importance: the 10-year/3-month has inverted prior to each of the last seven recessions, according to data provided by the St. Louis Federal Reserve. The one glaring exception – the curve inverted in 1966 without an ensuing recession. But growth did slow considerably (St. Louis Fed GDP data).

On average a recession has occurred 11 months following the inversion of the 10-year/3-month T-bill.

That’s the bad news – any good news?

While the 10-year/3-month has inverted, not all signs point to a recession.

  • The Conference Board’s Leading Economic Index® has been flat since October, but it has not turned lower. Historically, it declines in front of recessions, with an average lead time of 7 to 20 months (Advisor Perspectives). That’s quite a range and highlights the difficulty in predicting and timing a recession. But we’re not currently getting a recessionary signal from the LEI.
  • During the last seven recessions, the 10-year/2-year Treasury yields inverted an average of 20 months before a recession (St. Louis Federal Reserve, NBER). It has yet to invert in this economic expansion.
  • Low yields around the world may be encouraging bond buys in the U.S., which could be artificially pushing U.S. yields lower (bond prices and bond yields move in the opposite direction).
  • Today, the Fed is on hold. Moreover, financial conditions have eased in the first quarter, according to the St. Louis Fed Stress Index and Chicago Fed National Financial Conditions Index. I get these aren’t household names, but they are followed closely by economists and Fed officials. Today’s levels signal access to credit isn’t restrictive and there is ample liquidity in the financial system.
  • Finally, the steep drop in longer-term Treasury yields has pushed mortgages rates down sharply. In October, the average 30-year fixed rate mortgage was 4.90%, according to Freddie Mac’s weekly survey. As of March 28, the weekly survey placed the average rate at 4.06%. It supports the struggling housing market.

Final thoughts

Let’s not dismiss what’s happened to the yield curve. It’s been a long-running economic expansion and U.S. growth has slowed. But other warning signals aren’t pointing to a contraction. Throw the government shutdown into the mix and Q1 is unlikely to deliver impressive results.

Historically, we have seen a bounce in the second quarter. The St. Louis Fed notes that in recent decades, Q1 GDP has been “substantially weaker than growth in other quarters.”

Recessions have typically been preceded by major economic imbalances, such as a stock market bubble or housing bubble. Or, a sharp rise in inflation forces the Fed to aggressively respond with rate hikes.

For the most part, neither conditions are currently present, lessening odds a near-term recession is lurking. Further, recent market action has been impressive. It’s not as if we haven’t seen some volatility, but year- to-date performance isn’t suggesting an economic contraction is imminent.

7300 Wealth Connect – 3-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

A Rising Stock Market, Housing’s Doldrums, and Animal Spirits

It’s been a strong start to 2019. In researching this month’s piece, I came across these stats that illustrate market strength.

Through Friday, February 24 —

  • The Dow Jones Industrial Average and the S&P 500 Index are off to their best starts in over 30 years, according to Dow Jones Market Data (MarketWatch).
  • We’ve had 8-straight weekly gains for the Dow in 2019, which is the best start since 1964 when the granddaddy of market averages logged 11-weekly gains.
  • The Russell 2000 Index^ has rung up its longest-ever weekly win streak to start a year – 8 in a row.

^The Russell 2000 Index is an unmanaged index of 2,000 smaller companies. The index cannot be invested into directly. Past performance does not guarantee future performance.

What’s behind the rally?

In part, the market was extremely oversold in late December, and markets tend to eventually bounce when the economic fundamentals don’t line up with a significant selloff.

But the snapback from oversold levels doesn’t completely explain recent gains.

  1. For starters, the Fed’s new-found flexibility is aiding shares. No longer are investors worried the Fed might push rates up too high and kill the economic expansion. Instead, the Fed said it can be patient as it eyes any changes in interest rates. While the Fed hasn’t defined exactly what it means by “patient,” broadly speaking, it means the Fed isn’t planning any near-term rate increases.

    Though sentiment can shift quickly, one measure of rate expectations published by the CME Group places odds the Fed won’t raise the fed funds rate this year at 90% (as of Feb 28).

  2. Continued progress on the trade front with China has also lifted spirits. And there have been no
    shortage of encouraging headlines.

    One from Reuters on February 20: Exclusive: U.S., China sketch outlines of deal to end trade war – sources. These included: forced technology transfer and cyber theft, intellectual property rights, services, currency, agriculture, and non-tariff barriers to trade, according to two sources familiar with the progress of the talks.

    As the month continued to progress, President Trump postponed a sharp increase in tariffs on Chinese imports, which had been scheduled for March 2. Still, sticking points remain. Reduced barriers to U.S. exports would be welcome. However, enforcement provisions that relate to forced technology transfers and structural changes that cut subsidies for state-owned businesses must be hammered out.

    The abrupt end to the U.S./North Korean summit adds an interesting wrinkle. Did China play a role in the failed talks. Or was Trump’s decision to walk out a signal to China that he could do the same on a trade agreement if it wasn’t to his liking? Early market reaction suggests it is not an issue.

  3. Though economic data have been mixed, the U.S economy continues to expand, albeit at more moderate pace. Note that GDP slowed from 3.4% in Q3 to 2.6% in Q4 (U.S. BEA). The path for housing and consumer attitudes is indicative of the mixed reports.

Housings shaky foundation

Housing has been in the doldrums. Prices have been rising for several years, inventory has been limited, especially for starter homes, and mortgage rates spiked last year.

Sifting through the data tells us that this leading economic indicator has fallen into a recession. Existing home sales and new home sales are down (Natl Assoc. of Realtor [NAR] and U.S Census Bureau). And the same can be said for housing starts and building permits – see Figure 1.

Single-family housing starts are clearly more volatile, but the trend has been to the downside. Permits, which are more forward-looking, have also floundered.

Lately, however, we may be seeing some stability amid the decline in mortgage rates (Freddie Mac weekly survey). Homebuilder confidence has improved per the NAHB monthly survey, and January’s NAR’s index of pending home sales rose at its fastest monthly pace since early 2017.

Animal Spirits

Mixed data is another way of saying that some reports are strong while others are weak. So, let’s end this update on a more favorable note. After sliding three-consecutive months, consumer confidence surged in February.

The end of the government shutdown and rising stock prices appeared to bolster sentiment.

This is a soft measure of the economy as sentiment isn’t a direct component of GDP. But it is a gauge that measures the “animal spirits” that can drive economic activity. A low level of confidence suggests animal spirits are dormant, while a high level suggests they are stirring.

While the level matters, the trend is just as important. Note in Figure 2 that confidence typically peaks in front of a recession, which makes February’s sharp gain encouraging as we push into 2019.

7300 Wealth Connect – 2-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

A Bright Start to the New Year

Stocks took a beating late last year, with key market indexes putting in their 2018 lows the day before Christmas (WSJ, various sources). For daily-market watchers – something that’s not recommended for longer-term investors – volatility and quick shifts in sentiment can be maddening. Besides, over a shorter period, markets can overshoot and can undershoot.

Since Christmas Eve, major U.S. market indexes have stabilized and posted strong gains. What’s behind the upturn in sentiment? Let’s review some of the factors behind the rally.

  1. Fed Chairman Jerome Powell is doing a better job of conveying the Federal Reserve’s intentions.

    Many variables flow into the stock market price equation, including interest rates and the expected direction of interest rates. In December, the Fed projected two rate increases in 2019 (down from four in 2018), and Powell highlighted the strength of the economy.

    However, investors took his upbeat remarks as a sign the Fed might hike rates too high and prematurely end the economic expansion.

    Enter January and Powell emphasized a different message. He said the Fed will be flexible going forward, carefully reviewing market signals and the economic data as it considers any rate increases.

    The Fed took an even more dovish turn at its end-of January meeting, eliminating language in its post-meeting statement that “gradual” rate hikes might be needed. Instead, the Fed said it could be “patient” on raising rates, which likely means no increases at least through June, and maybe through much of the year. It all depends on the economy.

  2. Trade frictions and acrimony with China took a toll on stocks last year. This year, cautiously optimistic headlines that some progress is being made on a new deal has lifted spirits. That said, the U.S. and China have plenty of ground to cover, and we may see short-term risks may pop up again.

    Still, both sides have a vested interest in reaching an agreement. China’s economy is slowing down, and new barriers will take a deeper bite. Failed talks may create a new cloud over U.S. growth and could create additional short-term market volatility.

  3. An early read on Q4 S&P 500 earnings haven’t been that bad. Definitive estimates (through 1/31/19) Q4 earnings will rise 15.0% vs a year ago. It’s down from Q3’s 28.4%, but commentary being issued has been respectable.

    Looking ahead, profit growth is projected to slow significantly in 2019 – see Figure 1. In part, 2018 was aided by a big cut in the corporate tax rate, so a slowdown was expected. Given some of the uncertainty over the U.S. and global economy, analysts have been ratcheting down 2019 estimates. Still, current forecasts are reasonable.

  4. Strong employment numbers from the U.S. BLS in December and January have alleviated fears that economic growth might be poised to slow too quickly.
  5. Oil prices have stabilized. A continue drop in oil prices might be welcome for drivers, but it could also be a sign world demand is faltering. Such a scenario might signal a recession.

Does global growth matter? The short answer – sort of

U.S. exports account for about 13% of total U.S. economic activity (U.S. BEA data), and S&P 500 companies gather an estimated 30% of sales from overseas (exports are products made at home and sold overseas; overseas sales may or may not have originated in the U.S.).

When global growth slows, sales from the larger multinationals may feel some of the pain. In January, Apple (AAPL $166) and Caterpillar (CAT $133) warned that weakness in China was pressuring sales. And the major stock market indexes reacted negatively on those days.

We sometimes experience volatility when bellwethers report unexpectedly bad news (the opposite can be true, too), but as Figure 2 illustrates, China does not account for a significant share of corporate revenues. U.S. exports to China make up about 1% of U.S. economic activity (U.S. BEA data).

The S&P 500’s advance last month was the best January in over 30 years, per the Wall Street Journal.

Continued weakness in the global economy and the inability to conclude a trade agreement with China that protects U.S. interests may inject volatility into short-term trading. But a more flexible Fed and continued economic and profit growth created tailwinds for stocks last month.

7300 Wealth Connect – 1-19


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

The Year Volatility Returned

The lack of volatility in 2017 was nearly unprecedented. We witnessed 310 trading days without two consecutive daily pullbacks in the S&P 500 Index3 of at least 0.5%, according to research firm Bespoke Group.

The unprecedented streak ended in late January. History tells us we “revert to the mean (average).” Timing such events, however, is nearly impossible.

In 2018, the broad-based index of 500 major companies rose or fell by at least 1% 64 times versus just eight in 2017. Yet, as Figure 1 highlights, last year’s volatility was not out of the range of what might be considered unusual.

The modern S&P 500 Index began in 1957; prior data using S&P 90. Both are unmanaged and cannot be invested into directly.

Note in Figure 1 that 2007 – 2011 and 2015 produced a greater number of 1% daily changes. Still, the Q4 selloff exacerbated concerns.

Figure 2 illustrates the late-year downturn, but it also highlights that year-end weakness was not out of the ordinary either.

Longer term, stocks react to the economic fundamentals. Short term, unpredictable events can quickly dampen sentiment, and pricing in uncertainty is difficult; hence, Q4’s decline and volatility.

What happened?

The global economy has been slowing and the US economy is showing signs of moderating. And with it, analysts have trimmed 2019 profit estimates (Refinitiv formerly Thomson Reuters). Consequently, some of the decline has been in reaction to the fundamentals. But was the selloff overdone?

Eight rate hikes by the Federal Reserve since the rate-hike cycle began didn’t hamper bullish sentiment, that is, until October. Communication faux pas by Fed Chief Jerome Powell in early October and late December took a toll on sentiment.

While trade frictions between the U.S. and China added to the souring mood, the issue extends beyond its direct impact on stocks. For starters, there is a bipartisan consensus on Capitol Hill that China doesn’t play fairly. Furthermore, Chinese theft of intellectual property and forced technology transfers are creating national security issues.

While many in the US and around the world share the president’s goal of fair and free trade with China, the current path to obtain the desired outcome has generated some of the tensions we’ve seen in the market. This is not meant to be a political statement, only a reflection of the reality that stocks have traded down on negative trade headlines.

Looking ahead

  1. The economic outlook will likely influence the direction of markets over the next year. A strong holiday shopping season last year (Wall Street Journal) aids growth. Falling gasoline prices may lend additional support to consumer spending. But manufacturing appears to be slowing and US leading economic indicators suggest growth will moderate in the first half of 2019.
  2. Earnings growth peaked in 2018 and growth will slow in 2019. Markets have been trying to price in some of the slowdown; hence, some of the late-year decline can be traced to the fundamentals. But markets can overshoot on both the upside and downside.
  3. What will the Federal Reserve do? Eight rate hikes tied to economic growth did little to discourage investors until early October (Fig. 3) amid concerns that rate increases might stifle economic activity and depress corporate profits. Currently, the Fed has projected two 0.25 percentage point rate increases in 2019. The number of increases will likely depend on how the economy performs.
  4. The Trump administration delayed a big hike in tariffs on Chinese imports until March (WSJ), pending a trade deal with China. Plenty of ground must be covered over a short period of time. However, progress over the next couple of months and a workable framework might further delay the imposition of higher tariffs, which would likely aid business confidence.
  5. US political instability did little to slow stocks in 2017, as optimism about the economy fueled gains and overshadowed political worries. Today, turnover in the administration has injected uncertainty into the mix, though it’s difficult to quantify its impact. Will Congress and the administration work together or will acrimony continue?
  6. Brexit and Italy’s financial troubles aren’t far from the front burner. Both issues had a minor impact on trading this year. While the European Union has approved a deal for the UK to exit the EU, it’s an agreement that can’t pass Parliament. It’s been a difficult split, but it’s not in either party’s interests for the UK to fall out of the EU without an agreement that establishes parameters going forward.

Just the facts

The broad market indexes can be unpredictable, and selloffs can and do occur. While we have yet to break the 20% threshold that marks a bear market, the peak to trough for the S&P 500 came within 0.20 percentage points of bear territory. We saw similar drops in 1998 and 2011 without a corresponding recession.

Since WWII, the S&P 500 has averaged a pullback of 31% every 5 years. Since 1980, the annual average drawdown in the S&P 500 Index has been 14%. Yet, the index, including reinvested dividends, has risen nearly 80% of the time.

Despite regular pullbacks, the S&P 500 has produced a compounded annual return of nearly 10% since 1928, all dividends reinvested. That means a $100 investment 90 years ago was worth $382,370 at year end. The same investment in the 3-month T-bill would have turned into $2,052 and $7,366 for the 10-year Treasury bond (Data sources: NYU Stern School of Business Stock, Bond Returns, S&P Dow Jones Indices, LPL, St. Louis Federal Reserve; past performance no guarantee of future performance).

Selling low and buying high isn’t a way to reach your financial goals. It is one reason we recommend an evidenced-driven, highly diversified investment plan. It’s not only a roadmap to your goals, it reduces volatility and helps separate the emotional component that may encourage decisions based on the sentiment of the day. You know, when euphoria encourages too much risk, and pessimism pushes us to sell after a decline.

Following a diversified plan that incorporates factors outside of market sentiment has historically been the best path to reach one’s financial goals.

If you have any questions or concerns, feel free to reach out to me. That is what I’m here for.

7300 Wealth Connect – 12-18


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

October’s Cool Breeze Flows into November

The midterm elections have ended, and stocks were supposed to resume their upward march, right? Did you know that since 1950, the S&P 500 Index has gained ground in every 12-month period that followed a midterm election? It’s an impressive 17 for 17, according to stats complied by the Wall Street Journal. The average increase has been 15.3%.

Well, we’re less than four weeks outside the election, and shares are struggling to follow the script.

The S&P 500 Index shed 10.2% from its September 20th high to the most recent low the day after Thanksgiving (St. Louis Fed). The decline wasn’t atypical and was likely related to the various economic fundamentals. Thanks to a late-month rally, major U.S. market indexes managed to end November in the green.

What’s been going on? For starters, the leaders for much of the bull market, high-flying technology stocks, have come under pressure due to regulatory and global growth concerns. Without leadership from some of the big-name tech stocks, we’ve witnessed selling in other sectors.

Still, a 10% correction in a major index isn’t out of the ordinary. In fact, since 1980, the average intra-year pullback for the S&P 500 has been just under 14% (LPL Research). We’ve yet to see a selloff of that magnitude.

Moderating U.S. economic growth

More recently, there have been growing signs the U.S. economy is slowing down from the fast pace witnessed earlier in the year.

Housing starts and housing sales are down from recent peaks (data from U.S Census and National Assoc of Realtors), and weekly first-time claims for unemployment insurance, a good leading indicator of economic activity, have edged up from the September low (Dept of Labor).

Moreover, global economic growth has been slowing for much of the year. It’s not enough to tip the U.S. economy into a recession, but it seems likely to create stiffer headwinds for U.S. exports and ding profits for firms that conduct a significant share of business overseas.

Given signs that growth is moderating at home, analysts have been trimming 2019 profits estimates (Thomson Reuters).

While trade tensions with China have created uncertainty, the U.S. announced at the end of the month it will postpone its threat to increase tariffs on $200 billion in Chinese goods to 25% from 10% (WSJ). But obstacles remain to a more permanent deal that protects U.S. interests and opens Chinese markets.

Rate Worries

Then, there have been rate worries. Eight rate hikes by the Federal Reserve since late 2015 did little to dent sentiment through September. Figure 1 illustrates that rates are off rock-bottom levels but aren’t far from historical lows.

We must go back to the 1950s to find a 10-year Treasury yield below 3% (excluding post-financial crisis yields). A fed funds rate at 2.0-2.25% is also at the low end of the 60-year range – see Figure 1.

While rates haven’t risen in response to an unwanted rise in inflation, investors have begun to fret the Fed might overshoot on the upside and slow growth too much.

Soothing comments from Fed Chief Jerome Powell in late November appeared to quiet concerns that the Fed was on “rate-hike autopilot.” In other words, the Fed suggested it is flexible and could slow any plans to boost interest rates in 2019.

Crude awakening

Oil prices have plunged – see Figure 2. The recent sharp decline in crude oil has its roots in several factors.

Slowing global growth, the stronger dollar (as oil is priced in dollars), and the Trump administration’s decision to allow some countries to purchase Iranian crude have played a role. Waivers from the sanctions that began in November were expected, but they were more generous than most had anticipated.

However, one of the biggest factors may be “Made in the USA.”

Thanks to price hikes earlier in the year, oil companies have been drilling for profits in the shale fields at home. Unlike conventional drilling, which can take years to produce oil, shale can be tapped much more quickly.

Based on estimates provided weekly by the Energy Information Administration, U.S. oil production has risen to 11.7 million barrels per day (Figure 3), ahead of number 2 Russia and number 3 Saudi Arabia.

It’s another way of saying the U.S. is now the largest oil producer in the world. Moreover, production has not only been rising, the pace has been accelerating.

Throw all the variables into the oil price equation and we’ve witnessed a steep decline in price.

Final Thoughts

Volatility is a normal part of investing. Stocks have a long-term upward bias, but the ascent has not been without pullbacks.

While moderation in U.S. growth may be temporary, recent uncertainty has encouraged investors to reprice risk, i.e., discount the slowdown in U.S. economic growth and profit growth. It’s an inexact science and markets can and do sometimes overshoot, both to the upside and the downside.

Yet, the odds of near-term recession remain are low, which has helped cushion the downside. In recent years, previous corrections have run their course when any economic fears turned out to be overblown and economic growth didn’t falter.

7300 Wealth Connect – 11-18


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

A Cool Wind Greets October

Last month’s update began with the headline, Strong Economic Fundamentals Drives Shares to New Highs. While I acknowledged that October has a ghoulish reputation, September is, on average, the weakest month for stocks (MarketWatch – Dow Jones Industrial going back to 1896).

This year, October, which historically sports a gain (St. Louis Fed data back to 1970), lived up to its supposedly undeserved reputation.

Let’s dive in and dissect October’s weakness, review the near-term outlook, and put October’s pullback in perspective.

Behind the decline

There wasn’t a specific catalyst that sparked the selloff but there were factors that influenced sentiment.

  1. Interest rates and a Fed policy mistake. Eight rate hikes by the Fed since December 2015 didn’t cause much concern until we entered October. Are investors getting anxious about an overshoot on rates that could put the brakes on economic growth? It’s not unusual for the cost of money to rise when the economy is expanding, and a growing economy is supportive of corporate profits.

    The Fed has yet to signal it may ease up on plans to gradually hike the fed funds rate. Expect one more 0.25 percentage-point increase in December. The Fed has penciled in three such hikes in 2019.

  2. China, slower global growth, and tariffs. This may be the biggest reason why we’re seeing the latest round of volatility. For firms that conduct a substantial amount of business overseas, we may see a moderation in earnings growth in Q4 and next year.

    And tariffs, which weren’t bothering investors a few weeks ago, have taken center stage. Fear—it will further slow economic growth among some industrial names and boost inflation at home.

    While Q3 earnings growth has been very strong – up over 26% per Thomson Reuters (estimate through Nov 1), various firms have commented that they are concerned about the impact of U.S. trade policy. Further, earnings growth is expected to moderate in 2019.

    The cut in the corporate tax rate is aiding results today. But let’s not discount U.S. economic growth. How the U.S. economy performs next year will play a key role in earnings.

  3. A U.S. economic slowdown? While U.S. GDP expanded at an annual rate of 3.5% in Q3 (preliminary data from the U.S. BEA), there was one notable soft spot – weakness in business spending.

Weakness in capital spending may be just a one-time slowdown, and consumer spending remains strong. Moreover, job growth and the gradual acceleration in wage gains are set to support consumer outlays.

The Fed’s Beige Book, which is an anecdotal review of the economic data, isn’t suggesting a near-term slowdown, and the Conference Board’s Leading Index hit another high in September.

While housing has stalled—an important leading indicator—and auto sales have moderated, odds of a near-term recession, which would likely send shares into bear market territory, remain low.

Taking the stairs up and the elevator lower

Stocks seems to take the stairs higher and the elevator lower. While we recognize that stocks don’t move up in a straight line, steep declines can sometimes be unnerving.

But trying to time the market and avoid surprises, well, it’s not a realistic option.

Benjamin Graham is not a household name, but he is well-recognized in the investment community. Best known as a mentor to Warren Buffett, he authored “Security Analysis” and “The Intelligent Investor,” two titles that influence financial planning today.

In the 1970s, he said, “If I have noticed anything over these sixty years on Wall Street, it is that people do not succeed in forecasting what’s going to happen to the stock market.” Agreed. Besides, a market timer must be successful twice – consistently and correctly forecasting the peak and trough.

While we may look for patterns that might provide insights, i.e., bear markets center around recessions and profit growth underpins longer-term stock market performance, former Fed Chief Ben Bernanke counseled, “These must be used with considerable caution and healthy skepticism.”

Even if a pattern emerges that may suggest a possible market turning point, if one is either early or late, it becomes exceedingly difficult to outperform the longer-term investment plan.

With that in mind, note in Figure 1 that market pullbacks are quite common. And so are annual advances.

The average intra-year decline in the S&P 500 Index since 1980 has been almost 14%. Yet, the total return on the S&P 500 Index, including dividends, averaged a healthy 12.6% annually since 1980. Moreover, we’ve only experienced six full-year declines.

This year the largest intra-year decline is 10%. That occurred in February. We came close to 10% last month. While the swiftness in October’s selloff may be disquieting, recent weakness isn’t out of the ordinary.

We’ve seen risks push their way onto the stage before. When anxieties failed to materially impact the economic outlook, stocks recovered. Stay tuned.

7300 Wealth Connect – 10-18


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

Strong Economic Fundamentals Drives Shares to New Highs

October has a ghoulish reputation. Maybe it’s the October 1929 market crash or the one-day decline in October 1987 that exceeded 20%. Using data from the St. Louis Federal Reserve that goes back nearly 50 years, September has historically been the worst month for stocks.

There isn’t a plausible reason that might explain weakness in September, but this year, September saw new highs.

The Dow Jones Industrials, which is made up of 30 large companies, topped its January 26th high late last month. The S&P 500 Index, which is comprised of 500 large companies, pushed past its prior peak in August, added to its advance in September, and registered its best quarter since 2013 (CNBC).

Shorter term, risks never completely abate. Problems in developing markets are simmering, and we’ve been treated to a steady drumbeat of discouraging headlines on trade with China.

On September 18, the U.S. confirmed that tariffs on another $200 billion in Chinese imports will go into effect. China promptly slapped tariffs of $60 billion on U.S. exports. Market response: the Dow closed up 184 points that day (WSJ).

Retailers have begun to loudly complain that tariffs will boost prices. At a late September press conference, Fed Chief Jerome Powell said he’s “been hearing a rising chorus of concerns from businesses all over the country about disruption of supply chains, materials, cost increases, and loss of markets.”

But he was quick to point out that if you look at the data holistically, “It’s hard to see much happening at this point (slowing the U.S. economy).” That’s likely why investors aren’t fretting over trade frictions right now.

Maybe investors are underestimating the longer-term negative impact. That said, when new risks have failed to materially dent the economic outlook, investors refocused on the fundamentals.

It’s the upbeat economic data, rising corporate profits, and still-low interest rates that have helped push shares to new highs. This has been an ongoing narrative absent new headline risks.

Rates, the Fed, and new highs

Rates are no longer at rock-bottom levels as they were in the years that followed the 2008 financial crisis. Since the Federal Reserve began hiking interest rates in late 2015, the Fed has raised the fed funds rate eight times. Each hike has been in 0.25 percentage-point increments. Today, the target range for the fed funds rate is 2.00-2.25% – see Figure 2.

According to the Fed’s own projections, expect one more increase at the December meeting. The goal: slowly normalize interest rates without tipping the U.S. economy into a recession. But, raise rates too slowly in the face of solid economic growth and the Fed risks overheating the economy and lifting inflation.

When the Fed was about to begin lifting rates, some analysts worried it would be bad for stocks. A higher guaranteed return could diminish the appeal of equities.

Figure 2 suggests otherwise. Since the Fed first boosted the fed funds rate (blue line), the S&P 500 Index (red line) has risen 41% (through Sept 28).

You see, other factors also influence the overall level of closely-followed market indexes. The improving economy has played a significant role in lifting corporate profits, which has the biggest long-term influence on stock prices.

Besides, interest rates are still low, and the Fed has not been hiking rates in response to higher inflation, which could create a stiffer headwind for stocks. Instead, it has been gradually hiking interest rates in response to an improving economy.

Wrap up

We can’t discount the possibility that unexpected headlines could sway sentiment and create volatility.
We’ve seen it before.

A favorable outlook for profits is no guarantee stocks will be higher next month or by the end of the year. But strong fundamentals – rising corporate profits, solid economic growth, and still-low interest rates – have underpinned shares in the second half of the year.

7300 Wealth Connect – 09-18


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

A Milestone and Turkey Talk

It’s been a long-running bull market. Born in the depths of the Great Recession, the current bull market, as measured by the S&P 500 Index, has sidestepped a bear market since bottoming on March 9, 2009 at 676.53 (St. Louis Federal Reserve). A bear market is generally defined as a 20% drop or more. The widely followed index closed August 31 at 2,901.52 (WSJ).

On August 22, the current bull market extended its run to 3,453 calendar days (CNBC), taking the crown away from the previous champion, the run-up of the 1990s – see Figure 1. In some respects, it’s just a date. But it’s also a milestone.

As Figure 1 illustrates, lengthiest doesn’t necessarily mean best performing. That title still resides with the October 1990 – March 2000 bull market. It’s trough-to-peak return totaled 417% vs today’s run, which through August 31, has amounted to 329%.

More importantly, investors who have adhered to a disciplined approach that includes a diversified stock portfolio have been rewarded.

Sure, there have been times when the bulls have been knocked off balance. Greece, European financial woes, China anxieties, and the collapse in oil prices forced corrections of at least 10% since 2009.

An uptick in Treasury bond yields earlier this year pushed investors to the sidelines. What may have been a modest dip turned into a 10% correction when products tied to market volatility exacerbated selling.

While some sectors have suffered, trade frictions also caused jitters but have yet to trigger a significant slowdown in the U.S. Given strong profit and economic growth, low interest rates, and low inflation, investors have once again focused on the medium- and long-term drivers of stock prices – the favorable economic fundamentals.

Let’s talk Turkey

From time to time, a tremor from an overseas incident reaches our shores and impacts our markets. In most cases, when we look back at the event, it barely creates a ripple at home. It’s a footnote in market history few remember.

Russia’s invasion of Ukraine four years ago was a one-day market event. The U.K.’s Brexit vote in 2016 jarred investors for a couple of days, but that was about it. Europe’s financial turmoil in 2011 created waves. But in each case, none of these incidents caused significant harm to the U.S. economy.

In each case, cooler heads prevailed, and longer-term investors, those who stuck with a disciplined approach and avoided the temptation of an emotional response, were rewarded.

That leads us to the nation of Turkey. Problems have been simmering for a long time in Turkey. Last month, U.S. investors reacted when President Trump tweeted he wanted to double steel and aluminum tariffs on the struggling nation. It was like lighting a match in an already parched forest.

The lira, which has already begun to sag, quickly extended losses – see Figure 2. The Financial Times reported the European Union was concerned that some banks might have too much exposure to Turkey, and shorter-term investors were quick to react – at least for one day.

It’s not that a currency crisis can’t lead to what’s called “contagion,” when a financial crisis in one corner of the globe spreads. We saw that in 1998 when Russia defaulted. But odds of such an event are low.

Turkey’s problems have been in the making for years. It has borrowed too much money – much in dollars – to grow its economy. If borrowed in dollars, interest accrues in dollars, and loans must be repaid in dollars. Rising U.S. interest rates and rising inflation in Turkey conspired against the lira.

A lower lira means it’s costlier to convert lira into dollars, i.e., the debt level effectively rises, making repayment more difficult. In turn, a crisis of confidence develops, encouraging foreign investors to dump the lira, and a vicious downward cycle ensues.

Issues in other troubled areas also bear watching. Argentina comes to mind. But bottom line, it was a one-day selloff that amounted to less than one percent, and attention quickly returned to the positive economic fundamentals.

As we approached the end of August, the S&P 500 Index, the NASDAQ Composite, and a number of other key indexes rose to record highs (MarketWatch, various sources).

Given the negative headlines generated by trade frictions and emerging market woes, economic growth + profit growth + low interest rates have gone a long way in underpinning stocks.

7300 Wealth Connect – 08-18


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

Entering the Second Half of the Year with Momentum

The U.S. economy just recorded its best quarter in nearly four years. Gross Domestic Product (GDP), which is the broadest measure of the value of a country’s economy, grew at an annual pace of 4.1%, according to the U.S. Bureau of Economic Analysis – see Figure 1.

We’ll get two more revisions over the next couple of months, but the early read is encouraging.

Without trying to minimize the good news, it’s important to point out that the GDP report is old data. It’s a snapshot of April – June. We’re entering August, which leads us to the next question. Was Q2 a one-time event, or are we entering a higher orbit of growth?

We’ve had false starts before – bursts of activity followed by a slowdown. And the trade war with U.S. trading partners is creating uncertainty.

Figure 2 illustrates that GDP, when measured on a year-over-year basis, has consistently and gradually accelerated for eight-consecutive quarters. It points to momentum.

Consumer and business confidence remains strong, and tax cuts, fiscal stimulus, and regulatory relief are likely to encourage economic activity.

While growth in Q3 and Q4 may not match Q2’s 4.1% pace, there are reasons for cautious optimism as we push into the second half of the year.

The big picture

Economic growth is beneficial in many ways. It creates jobs and new opportunities. While wage growth hasn’t been robust, a growing economy is necessary for wages to rise.

For savers, the expansion has finally started to lift interest rates, albeit at a gradual pace. For investors, economic growth is the engine of profit growth. And profit growth is the biggest factor that drives stocks higher over the longer term.

Q2 earnings season has been marked by several themes. Some companies have fretted about higher raw material costs, higher freight costs, and the negative impact of tariffs.

A couple of high-profile disappointments in the social media space generated recent volatility in the NASDAQ Composite, which for much of the year has been the beneficiary of tech outperformance. But these misses were mostly company-specific and not tied to economic weaknesses.

Thanks to the cut in the corporate tax rate, from 35% last year to 21% this year, Q2 earnings growth is very strong – see Figure 3. But let’s not discount U.S. economic growth either. By and large, forecasts being issued by companies for the rest of the year have generally been upbeat (Thomson Reuters).

Given the negative headlines generated by trade tensions, economic growth + profit growth + interest rates that remain near historic lows have gone a long way in propping up stocks.

It suggests that investors aren’t experiencing too much anguish over the ongoing trade war. Or, it’s possible investors are underestimating the economic impact. Possibly, they expect the U.S. to prevail, or they simply don’t believe a trade war, even if extended in length, will have that much of an economic impact.

It has created some day-to-day volatility, and additional choppy action can never be ruled out. But the economic fundamentals continue to lend support.

As July came to a close, the S&P 500 was up 5.34% since the end of last year. It’s not earth-shattering, and it almost feels puny compared to last year’s exceptional performance. But if it were possible to extend the year-to-date gain through December, the S&P 500’s return would end up near its long-term annual average.

7300 Wealth Connect – 07-18


The summary below is provided for educational purposes only. If you have any thoughts or would like to discuss any other matters, please feel free to contact me.

Nine Years Old

The economic recovery began in July 2009 – that according to the National Bureau of Economic Research, the official arbiter of recessions and economic expansions. A quick review of the math, and it means the current expansion just turned nine years old, or 108 months.

Let’s put that into perspective. We’ve surpassed the long-running expansion of the 1960s by two months. We’re within striking distance of the all-time longest expansion, which ran through the 1990s and lasted exactly ten years – see Figure 1.

It has not been an impressive economic recovery – see Figure 2. The graphic illustrates it has been the weakest since at least 1950 (the U.S. government began collecting quarterly data in 1947). But it’s probably one reason for its longevity.

You see, fast growth can sometimes force the Fed to quickly hike interest rates, which can stifle the economy. Or, it can create speculative excesses – economic booms – that sow the seeds of the next recession. We experienced that in the late 1990s.

Besides the general slowdown in growth post WWII, two things stand out.

First, recessions are typically short interruptions in what otherwise has been a long-term upward trajectory for the economy. Second, the 2001 recession was so shallow, it failed to produce a year-over-year (y/y) decline in GDP. In fact, the U.S. economy generated an uninterrupted period of y/y GDP growth that lasted nearly 17 years!

Still, growth stalled in 2001, the jobless rate rose, and the shallow recession was enough to prick the bubble in stocks, which had become extremely overvalued.

The current cycle is no longer young, and it generally leads to concerns that a recession could be lurking. Importance to investors: recessions and bear markets historically go hand in hand.

But is a recession in the next year inevitable? Not necessarily. Optimists, led by Byron Wien, the respected vice chairman of Blackstone, said in his July commentary be believes the current cycle “has at least several more years left to run.”

Bolstering his case, inflation is gradually moving higher but remains low, and wages are up but aren’t accelerating at a fast clip. Both factors are keeping the Federal Reserve from hiking interest rates too quickly. Moreover, fiscal stimulus, including the recently enacted tax cuts, is in the pipeline.

While Mr. Wien’s confidence isn’t shared by all analysts, most short-term leading economic indicators aren’t suggesting a recession will ensue this year or early next year.

Looking ahead and the upcoming election

Last year’s strong rally carried over into 2018 but quickly ran into a brick wall when longer-term Treasury yields tracked higher. The Dow Jones Industrials and the S&P 500 Index have failed to recapture January highs, but the tech-heavy NASDAQ Composite and closely followed measures of mid-sized and smaller-sized companies did set new highs in June (MarketWatch data).

As the month came to a close, escalating trade tensions have hampered sentiment, especially as it relates to large multinationals, whose reach extends around the globe.

An all-out global trade war would constitute a threat to U.S. and global economic growth and counter the economic stimulus from the tax cuts. So far, however, retaliatory actions have been measured.

While difficult to quantify the direct impact, the upcoming midterm elections may be creating headwinds. Yes, economic growth and corporate profits are a big factor in the longer-term direction of stocks, but political uncertainty can sometimes translate into shorter-term investor angst.

A recent study published in the Wall Street Journal found that since the creation of the Dow Jones Industrials in the late 1890s, the oldest and best known of the market indexes has produced “an annualized gain of just 1.4% in the six months before midterm elections, in contrast to a 21.8% annualized return in the six months thereafter.”

The study noted the pattern was not as pronounced during presidential elections. It didn’t repeat itself during non-election years. Of course, these are just averages. Economic and international factors may come into play, and each cycle has its own unique features.

We enter the second half of the year with a modest pullback in global economic momentum, but growth at home remains strong. Corporate profit growth is likely to remain strong this year and moderate in 2019, while low interest rates, and a low level of inflation – at least for now, have helped counter the headwinds created by the ongoing spat in trade.