Fools Gold?

by Jeremy Bryan, CFA

Stocks are firmly in positive territory after a difficult 2022. Despite the positive performance, questions regarding economic growth, inflation trends, and Federal Reserve actions have many investors wondering if this recent rally is a mirage. The beginnings of bull market rallies are often met with a healthy dose of skepticism and fear of the next shoe to drop. However, bull market rallies often exceed even positive prognostications and those that remain paralyzed to the fear of a reversion can often get left waiting for a doomsday scenario that never arrives.

Economic sentiment in 2023 has been characterized as the “just around the corner” recession, which has been widely predicted but yet to materialize. There are certainly historical precedents to suggest this viewpoint is warranted. First, the actions of the Federal Reserve to control inflation, mainly by increasing interest rates, usually lead to a slowing economy that often overcorrects into recession. Second, the treasury yield curve has been inverted (meaning short maturity treasuries have higher yield than long maturity treasuries) for over a year now, and inverted yield curves have historically preceded future recessions.

Contradicting this outlook is the continued growth in US Gross Domestic Product (GDP). The first and second GDP results were in positive territory and recent estimates are reflecting an accelerating growth profile. Also, corporate earnings estimates for the S&P 500 have stabilized and reflect flat growth in 2023 but with potential for double digit growth in 2024.

The primary reason, in our estimation, for continued US economic growth has been the resilience of the US consumer combined with a renaissance in US manufacturing. For the consumer, jobs demand remains high, and wages are growing. This has led to continued spending even as spending trends shifted from goods to services. Lastly, after a long period of stagnation, the US is experiencing high growth in manufacturing, especially semiconductor manufacturing. This has come from businesses “onshoring” their supply chains as insurance against future potential disruption, and from incentives created by fiscal policy via the inflation reduction and CHIPS acts.

Our opinion is that a “soft landing”, or a slow growth environment avoiding recession, is now the more likely scenario. However, this is still a manner of degrees of confidence and nowhere near a certainty. Job loss and corporate earnings declines tend to come as we fall into recession, so they are not great predictors of recessions. The further the Federal Reserve pushes interest rates higher to control inflation, the greater the potential for a future recession. If the economy begins facing greater than expected job loss, the resulting conservatism of spending could lead us to recession as well. We don’t believe these are the most likely scenarios, but they certainly are possible.

Despite a higher degree of confidence that we can avoid recession, this doesn’t mean the market is immune to correction. Five to ten percent declines happen all the time, even in a healthy bull market. These corrections are a part of investing as markets rarely go straight up over an extended period. There are fits and starts in all bull markets, and we fully expect higher volatility and a correction to arrive at some point in the future.

Finally, remember that there are diversified ways to achieve returns in the current environment. Interest rates are significantly higher than they were two years ago. This is a negative for spenders but is typically a positive for savers. Savers now achieve higher rates of return for the same amount of risk. This is a good outcome and allows investors to strike the right balance of growth and safety but still meet their long-term investment objectives. Given the significant performance of the stock market year to date, it may make sense to understand your current risk profile and adjust allocations back to the proper alignment. This is very different than timing the market, which we do not advocate, but rather a rebalance back to the proper asset allocation.

To expand on these Market Commentaries or to discuss any of our investment portfolios, please do not hesitate to reach out to us at 775-674-2222.

Posted on August 2, 2023 Read More

Markets at the Midway Point

We are now at the midway point of the year and stocks and bonds are both in positive territory.  This is a welcome change from 2022 when both stocks and bonds were negative, interest rates were still poised to increase, and inflation had taken hold of the economy. 

By no means are we all in the clear but let us reflect on where we are. 

From an asset perspective, the S&P 500 is significantly off the recent bottom in September 2022.  Further, bonds have had positive year-to-date performance and yields provide a much higher base of income generation now. 

From an economic perspective, investors continue to wait for the widely predicted recession while also looking with an optimistic lens that we may be able to avoid one altogether.  Recently, more positive economic datapoints lend some credence to this idea.  The most recent GDP data was stronger than expected and certainly not reflecting a current recession.  US employment continues to be relatively robust and wages, while slowing, are still growing in most industries.  Also, inflation is still elevated but has begun to come down from peak levels and oil prices are significantly lower than this time last year. 

From a company perspective, there are several things that are providing investors with some level of positivity.  First and foremost, artificial intelligence (“AI”) as a true driver of future business and economic performance has taken hold of the markets.  Companies that are leveraged to benefit from AI have rocketed upward this year as the business ramifications, while still largely in theory more than application, are as wide reaching as the internet was in the mid-1990s.  Second, recent data shows that US manufacturing is experiencing a bit of a renaissance as infrastructure building has coalesced with a trend toward “onshoring” for businesses to create a more secure supply chain.  Lastly, the housing market continues to hold up stronger than expected due to resilient demand and still very low supply compared to long term historical averages. 

Further, corporate earnings estimates have begun to stabilize.  According to FactSet, corporate earnings are expected to be flat in 2023 before re-accelerating positively in 2024.  Over longer periods of time, the stock market tends to be correlated with corporate earnings growth.  If estimates of double digit 2024 growth are accurate, markets could continue to trend upward from current levels. 

Based on the above, there have been significant reasons for the markets to be more positive about the road ahead and stock performance has largely followed this trend.  Concerns, however, are a consistent theme in stock and bond markets. Here are the items we continue to watch as we progress throughout the year:

  • The Federal Reserve: Investors are anticipating that the US Fed is closer to the end than the beginning of interest rate increases. On the other hand, Fed Governors have maintained that they will continue to raise rates until they feel they have done enough to control inflation.  The risk is that an overly aggressive Fed could push the US economy into a recession.
  • Jobs: The fact that jobs have been resilient has, in our opinion, been the saving grace of the US economy. When consumers have jobs, they spend money.  If the US economy faces severe job loss, then spending will likely reduce, and our spending-based economy will likely slow and potentially go into recession. 
  • Corporate Earnings: Companies will begin to report earnings starting in Mid-July. If trends weaken, or if company outlooks for the remainder of the year soften, stocks are likely to face some difficulty. 
  • Politics and Conflict: An ever-present concern and risk, the Russia-Ukraine conflict and US-China relations have the potential to exacerbate concerns in stock and bond markets.  This is partnered with the beginning of the election trail that will also begin to heat up and will likely be contentious.

Our opinion remains optimistic overall but understanding that investors have achieved significant 2023 returns in the first half of the year.  Upward progress in the markets is rarely a straight line.  There will be corrections in the future, but even if US investors face a short and shallow recession, we believe falling below the S&P 500 low in September 2022 is unlikely.  The primary items we will continue to monitor are job health and corporate earnings.  If these remain resilient, we would likely be buyers of any future weakness. 

Finally, it is important to remember that we are in a different place than 2021.  During that period, when the stock market was working well as interest rates were near zero, a prevalent theory was based on T.I.N.A. (There Is No Alternative).  It simply meant that safer assets like money market accounts or bonds were providing very little income, so investing in the stock market was the only way to generate return.

This is no longer the case.  Investments with very little risk now have yields that benefit savers and allow them to properly balance their portfolios to be consistent with their risk tolerance while still achieving returns.  Further, buffered index solutions can protect capital from some level of downside loss while still participating in upside up to a pre-determined cap level.  As a result, there are alternatives to investing only in the stock market to generate return.

It is our opinion that investors should utilize all tools in their toolbox to achieve their objectives but also to properly align their risk.  Bonds and safer assets are tools that can be used to generate return with lower volatility than the stock market.  This does not, however, mean eliminating stock investments from portfolios.  Investing in the stock market carries higher risk but has historically achieved higher returns and has been the primary tool for long-term growth.  In our opinion, the ability to properly align portfolios to protect from downside loss, take advantage of a recurring income stream in bonds, and achieve long-term growth from stocks is a much better scenario than the T.I.N.A. markets of prior years. 

To expand on these Market Commentaries or to discuss any of our investment portfolios, please do not hesitate to reach out to us at 775-674-2222.

Posted on July 6, 2023 Read More

Much Ado About Nothing?

by Jeremy Bryan, CFA

After significant media attention that led to hand wringing and warnings of pending doom, the US government appears to be headed toward an agreement that would extend the debt ceiling beyond the next election cycle in 2024.  Compromises and concessions were made by both sides, but in the end, the debt ceiling issues will likely resolve without a significant negative influence on companies or individuals in the near term.

It is our belief that political trends and their short term influences are typically not compatible with actions regarding long term investment planning.  The reason is two-fold:  First, predicting political events and trends is fraught with peril, and second, predicting the market reaction to these events is completely independent and equally as difficult. 

So, while a US default would have clearly had ramifications regarding the economy and our ability to finance our future debt, it is a difficult proposition to make substantive changes to investment plans based on these potential concerns (and in this case, their resolution). 

This is important because the debt ceiling is indicative of future issues investors will face between politics and portfolios.  We will certainly face more issues on the political front in the future, including an election in 2024 that will be likely be both highly contested and very contentious.  The early indications and polling will change, revert, change again, and the potential ramifications of different elected officials based on their future plans will be dissected thoroughly. 

For many investors, these gyrations can often lead to the feeling of a need to act.  Most likely, these actions tend to be based on worries regarding the “other party” and a need to prepare for the forthcoming doom and gloom if those parties were to be elected.  

We completely understand how this can happen.  Often, political information can be overwhelming and the discourse can be filled with predictions of catastrophe.  The closer we get to actual results; the level of noise tends to increase with higher and higher levels of “urgency required”.

In these times, we rely on tried and true methods of investment planning and diversification.  A well thought out investment plan includes the following:

  • An objective – and this objective is usually based on a life goal and is usually not tied to political affiliation
  • A consideration of risk – measured in the ability to take risk and the tolerance to accept risk. This includes both known and unknown risks to ensure a safety net against adverse conditions.
  • An understanding of time horizon – acknowledging that money needed in the short term should be invested very differently than legacy initiatives that may have decades to appreciate.

Note, what we do not incorporate into these plans is our prediction on which political party will be in power and an allocation based on policies that are likely to pass or not pass in the coming years.  This is not how we perceive asset allocations and is very rarely part of the decision making process of investment selection. 

We invest in businesses and we select investments based on fundamental data that includes the health of the economy, the health of businesses, and the valuation (or amount we must pay to invest).  Businesses across the globe function as part of the economic and political ecosystem, but good businesses are adaptable and find ways to satisfy customers and build efficient operations regardless of political entity.  Some regimes make this more challenging than others, but history would tell us that US businesses in particular are some of the best managed and capable to adjust and thrive under changing conditions.  These are the businesses which we look for when investing and provide the backbone of the assets that are used in executing on the well-defined investment plan.

As political winds swirl, and the noise becomes deafening, it is our goal that a return to the basics will provide the ability to stay the course to achieve the objectives for your money.  We will also provide commentary on current issues but with a rational analysis and reasoned approach for investment decision making. 

To expand on these Market Commentaries or to discuss any of our investment portfolios, please do not hesitate to reach out to us at 775-674-2222.

Posted on June 5, 2023 Read More
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