Year End – 2014

The end of the year provides an opportunity to reflect upon last year’s expectations, analyze the facts, and establish new market expectations. One caveat in this annual ritual is that stocks, bonds and commodities will travel their own path regardless of what the prognosticators claim. The noise coming from the bulls and bears will be even louder this year and it will be critical for investors to check their emotions at the door and begin to focus on those things under their control. Before worrying about where the market is going, analyze where your financial plan is headed. Things like asset allocation, diversification, risk, savings, spending, income, growth, and principal preservation matter greatly. Controlling the things under your control will lead to better long-term financial decisions.

Entering 2014 we expected stocks to produce high single digit returns with seven percent corporate earnings growth, a two percent dividend yield with valuations (price/earnings ratios) remaining constant. At the end of the day, the stock market generally delivered. The S&P 500 exceed expectations gaining 13.7 percent with a small valuation increase. The Dow Jones Industrial Average was up 10.0 percent while the more volatile NASDAQ gained 14.7 percent. International stocks once again underperformed as slower economic and profit growth in those markets generated flat to slightly negative results.

Entering 2014 we expected bonds to earn their coupon generating returns in the low single digits. On average, this was true but the sectors within the bond market produced an unexpected wide dispersion of outcomes. The yield curve flattened as short-term interest rates were locked in near zero and yields on seven, ten and thirty year bonds declined causing U.S. Treasury prices to rise. The twenty plus year Treasury Index posted equity type returns of 25.1 percent. The high yield corporate bond segment of the bond market surrendered to a 40 percent decline in oil prices as credit default concerns heightened. High yield bonds still posted a 2.5 percent gain for the year.

So where does this leave the markets for 2015? Stock valuations are currently stretched a bit and fourth quarter earnings announcements are the key to maintaining the positive price momentum. Expect greater volatility in the coming year as oil price changes impact both stock and bond markets and economic recovery or recession in Europe will play a major role in the market direction. As always, geopolitical events will add to sudden price movements. We expect corporate earnings to grow at five to six percent. This coupled with a two percent dividend yield and moderate decline in price earnings ratios lead us to a return expectation of six to seven percent in stocks next year. Market corrections should be viewed as buying opportunities as we believe this is a long-term secular bull market.

Bond yields are low and likely to stay here for an extending period of time. The yield on the ten year U.S. Treasury note is 1.64 percent higher than the German ten year Bund. It has been fifteen years since this spread was this wide. Expect long U.S. Treasury yields to continue their move lower. The Federal Reserve remains dovish and the economic environment will continue to provide cover for their current policies. Expect short rates to stay low for the first half and maybe 25 basis points higher in the second half of the year. Two to four percent are fair bond return expectations for 2015.

Commitment to your financial plan while keeping market driven emotions removed from financial decision making process will make or break individual results this year. Remove the emotional panic button from the investment equation. When we get the ten percent price decline, think buy more versus running to cash. The long-term investor will be rewarded. Embrace your financial plan and stay for the long haul.

Posted on January 6, 2015
Call Us: (775) 674-2222