Quarterly Market Update

The markets have continued an impressive recovery from the lows at the beginning of the year and in the aftermath of BREXIT. The markets have drifted higher in the third quarter climbing a “Wall of Worry.” This commonly used Wall Street term describes a market that appreciates in the face of a lot of questions and headwinds. With the Federal Reserve still holding short term rates very low, investors have been buying higher quality stocks with dividends to replace the loss of yield on bonds. We believe this theme will continue for the next couple of quarters as the Federal Reserve tries to evaluate mixed economic reports and employ a cautious strategy to interest rates.

In contrast to our improving domestic economy, international economies are still searching for a sign of improvement. International economic numbers are showing little signs of recovery even in a negative interest rate environment. There is growing concern regarding the strength of the European Union agreements, as Britain very publicly voted to leave the Union in late June. In response to the struggling international markets, most experts are forecasting US interest rates will remain lower for longer than originally anticipated. This will give foreign central banks time to try and stabilize their own economies.

The US consumer is showing signs of strength as automobile sales are still very strong, and the housing market has continued upwards from strong numbers last year. The labor markets are reporting wage inflation and US consumer discretionary spending is on the rise. We believe this will continue for the next couple quarters and carry the economy into sustainable economic growth.

Energy markets were stronger in the third quarter. On September 28, OPEC agreed to its first production cut in 8 years, sending global oil prices soaring by more than 5%. However, this agreement represents less than 1% of total global oil production. While the OPEC agreement may strengthen oil prices in the short term, it will likely have little long-term effect. Oil producing nations and members of OPEC are trying to support the price of oil to a level where profits are maximized but limit interest in energy alternatives like natural gas. We believe oil will trade in the $40-$60 a barrel range as oil producers balance output versus encouraging energy alternatives. 

The political environment has been concerning. As our country tries to evaluate the two candidates for president, the markets will try to find direction based on the risk associated with either candidate. Even though the president is the face of our nation, we believe that the congressional elections matter more as it relates to actual successful new policies. We will continue to monitor the political races and evaluate perceived risk associated with either party.

In conclusion, we believe the markets will continue to climb the “Wall of Worry” as the American consumer spending will be the defining influence on the economy.

As always, please contact us if you have any questions or you would like to discuss your accounts.

Quarterly Market Update

Since the rebound from the first quarter oil-related sell-off, the S&P 500 was trading in a range between 2,040 and 2,119. As oil prices moved towards $50/barrel, all eyes turned to the United Kingdom (UK) and its referendum on remaining in the European Union (EU). Despite the dire warnings about leaving, the UK voters elected to cut ties.

Markets hate surprises and uncertainty and the Brexit, as it has been named, brought both. The “yes” vote surprised investors, triggering a global sell-off. The S&P 500 and UK’s FTSE both lost about 5%, while Japan’s Nikei shed 8%. Markets will regain the lost ground, but it could take some time as investors sort through the uncertainty of a country exiting the EU for the first time. The unprecedented process could take up to two years as a massive number of agreements will need to be renegotiated or initiated--things like trade, movement of labor, and airspace just to name a few. Needless to say, the disruption of these negotiations will weigh on an already fragile EU and global recovery. The consensus is a negative economic impact on both the UK and the EU.

The European woes will wash ashore in the U.S. Our concerns begin with a stronger dollar. With the uncertainty in Europe, the U.S. dollar and Japanese yen will continue to strengthen as foreign investors flee to safety. The stronger dollar will create downward pressure on the price of oil and on U.S. companies’ profits overseas. A weakening economy in Europe and the UK will also dampen corporate profits.

Fortunately, unlike last year, oil is in a better place to weather this pressure. Saudi Arabia reported inventories have declined six straight months while they have pumped out oil at near-record levels. For now, we see oil continuing to trade in a range, somewhere between $40 to $55 per barrel. Relatively low and stable oil prices will help tremendously.

The U.S. economy continues to move forward unevenly. Business optimism remains low while the U.S. consumer confidence increased to mid-March levels. A strengthening EU recovery would have helped. Now U.S. economic growth depends more on the U.S. consumer. April retail sales were up, so that’s a good sign. Housing continues to provide good news--existing home sales and new home sales increased. Unemployment remains stable. However, only 38,000 jobs were added in April. Economic growth prospects were already adjusted downward before the Brexit. Undoubtedly, the Brexit will knock GDP down a few more tenths of a percent, edging towards 2%.

Expect greater volatility going forward as the negotiation process produces uncertainty. However, we believe the good news will outweigh the bad news and the market will climb higher through the volatility. Bonds could rally in the short term as interest rates will stay lower for longer as the world digests the economic news. We are committed to an overweight in domestic equities and an emphasis on quality, dividend-paying stocks.

As always, please contact us if you would like to discuss your accounts.

Quarterly Market Update

The market has been very volatile this quarter with a sharp downswing followed by a very nice recovery. The main driver of both was the price of oil. The early fears associated with falling oil prices were mitigated by a recovery in the oil market. We believe that the market and oil will be highly correlated until oil prices stabilize and begin trading in a range.

The reasons for the high correlation are many. Investors feared that oil prices fell due to a decrease in demand, signaling the onset of a recession and the need to sell equities to buy risk-free assets. In addition, the extreme fall-off in oil prices created the need for sovereign wealth funds of oil-producing countries to sell global equity positions in direct investments and hedge funds to close massive budget deficits. Finally, companies in the energy sector have high percentages of leverage. Banks have exposure to the energy sector through loans. Unsurprisingly, as oil dropped during the selloff, we saw the banking sector nearly double the losses of the S&P 500.

But it felt like the market was at odds with the economic trends, which seem to indicate an improving U.S. economy. Wage growth rebounded in March and year-over-year 2.3% wage inflation points to a tightening job market. Unemployment is hovering around 5%, and the job participation rate moved higher for the fourth consecutive month. The housing market is showing a 4-month inventory of houses (normal is 6 months). Facts like these were punctuated with an exclamation point at, what now appears to be, the bottom of the selloff. On February 11th, J.P. Morgan Chase’s CEO, Jamie Dimon took $27 million of his own money and purchased 500,000 shares of his company’s stock, as if to say, “This selloff belies the fundamentals of the bank and the economy.” Perhaps not coincidentally, the market has rallied since then.

The international scene is a different story as the economic recovery overseas struggles to find its footing. The European and Japanese central banks have gone further negative with their short-term interest rates. These global growth woes are clearly influencing the Federal Reserve Board’s interest rate decisions, reinforcing the fact that the Fed’s decision to raise rates no longer is constrained by its original targets of 6.5% unemployment and 2% inflation. This makes sense given that raising rates would strengthen the dollar, which would result in lower oil prices and U.S. corporate profits. Both consequences would negatively affect the U.S. economy.

Looking forward, we look for oil-producing countries to freeze and even cut production, creating enough price stability needed for global growth to gain traction. However, that could take some time. And while U.S. households are saving their gas-pump stimulus for now, we expect that to change as labor markets continue to tighten and wages increase. Consider also that rising rents, slowly rising interest rates, and increasing household formations will provide a tailwind to the starter house segment of the housing market. In all this, the Fed will likely only raise rates once or twice in 2016 enough to confirm the recovery’s progress and avoid choking it. That said, the market feels like it’s done with its big jump. Thus, for now, we would favor individual U.S. dividend-paying stocks.

Please contact us if you have questions about your individual account. We would welcome the opportunity to talk with you.

Market Update

When is a trunk not a storage space in a car? When the conversation is about a large, grey mammal that lives in India. Context matters. Similarly, in volatile markets like these, it’s important to view the most recent events in the context of more impactful, longer term trends. That is, the 10 percent decline in January—is it the beginning of a bear market or a normal correction in a bull market?

A major driver of markets in 2016 has been the price of oil. With oil prices looking like they would hit $20 a barrel, there was a bounce this past week when traders caught wind that oil-producing nations finally seem likely to cut production to stabilize prices. This will help move oil prices out of the spotlight and decouple them from influencing the market direction.

Furthermore, investors expected interest rates to be a major driver of markets this year. Specifically, they were concerned that raising rates too quickly could choke economic growth. This week, the Fed left the short-term interest rate unchanged due to continuing global economic weakness. Investors now believe that the Fed will raise rates one to three times in 2016 instead of the four to six originally anticipated, helping to ease concerns of an overly-aggressive rate hike policy.

Like the Fed, we are concerned about a faltering global recovery. However, it is clear that central banks are committed to stimulating their economies through further quantitative easing. Last week, European Central Bank’s Mario Draghi hinted that more stimulus would be discussed at the ECB’s March meeting due to concerns of deflation. This week the Bank of Japan announced negative interest rates. That is, banks pay interest on cash they leave sitting at the Bank of Japan. Also this week, China’s central bank took action, injecting more liquidity into its economy. Central banks clearly are taking action.

Ultimately, the market volatility we have seen the past month is not going away in the near term. But looking out over the rest of the year, good unemployment numbers overall (there is regional dislocation due to job losses in the energy sector) and persistent lower oil prices will result in higher U.S. consumer spending in other sectors. The positive earnings reports coming out during this earnings season may be reflective of this longer-term expectation. If this indeed is a developing trend, the U.S. consumer will stimulate domestic economic growth. As such, we believe that when the market recovers, the 10-percent decline in January will not be viewed as a change in trajectory, signaling the start of a bear market. Instead, it will be seen as a normal correction in a continuing bull market.

As always, please contact the office if you have any questions.

Market Update

The world markets experienced a pullback this past week in reaction to events in China, a further decline in oil prices, and North Korea’s announcement that it detonated a hydrogen bomb (H-bomb).

In China, investors’ concerns over the Chinese economic slowdown resulted in panic selling in their stock market. The Shanghai Composite experienced a 7% drop on two different days, the last being Thursday. Due to the sharp sell-off, the Chinese market triggered “circuit breakers” that halted trading both days. The trading stoppage stimulated panic due to the perceived lack of buyers for those trying to sell their positions. On Thursday, the China government decided to suspend the circuit breakers to try and help price discovery. In addition, the Chinese central bank cut its benchmark lending rate. But to allay fears that China is devaluing its currency indiscriminately, the central bank also took steps to strengthen the yuan.

Oil prices followed suit this week, dropping another 10 percent down to around $33 per barrel. Supplies have continued to grow because the production of oil still exceeds consumption. Markets responded with a correlated drop as they have the past two years.

It didn’t help matters that earlier in the week the North Koreans staged a powerful explosion it claimed to be an H-bomb test. The latest provocation increased tensions in the region. All of North Korea’s neighbors, including China, responded by denouncing the claimed testing of a nuclear device.

The net result in the U.S. has been a lot of volatility and a 3 percent decline in the S&P 500. However, the US economic data continues to point to an economic recovery. For example, the most recent jobs report estimated that 292,000 new jobs were created in December. Furthermore, the numbers for both October and November were revised upward by 40,000 and 10,000 respectively. For all of 2015, 2.7 million jobs were added.

In addition, persistent low oil prices will facilitate the stimulation of consumer spending and help the retail sector to recover. Earnings season starts next week, which could be a chance for companies to deliver good news as a result of lower oil and energy costs. Although a reported 15% of the companies in the S&P 500 are negatively impacted by falling oil prices, the majority of companies have a positive reaction to lower energy prices.

Finally, the global uncertainty should cause the Fed to consider fewer interest-rate-hikes this year. At the end of 2015, most analysts thought the Fed would raise short-term interest rates at least six times. Now they are thinking more like two to four times. This means lower interest rates will likely persist longer than originally projected.

We believe that the market is oversold on a shorter-term basis. The oversold market coupled with improving jobs number and first-quarter earnings that companies will begin reporting next week should set up for a market rally over the next week or two.

This has been a volatile week. If you have any questions, please contact us.

Quarterly Market Update

Early in the fourth quarter, U.S. and international equities rebounded off their 2015 lows and then showed a great deal of volatility as they faded at the end of the year. However, while U.S. equities rebounded back towards their 2015 highs before fading, international equities never got anywhere near theirs. As a result, international equities posted negative returns for the year. For example, the Morgan Stanley All Country World Index ex-U.S. (MSCI ACWI ex-US) posted around a 5% loss, which was driven largely by the negative returns of emerging market equities.

With U.S. equities, the general trend was large company stocks outperforming mid- and small-company stocks in 2015. This was clearly evident in that the large company stock S&P 500 index returned a little over 1%, whereas the S&P 400 and S&P 600 indexes (mid-cap and small-cap indexes, respectively) both were negative for the year, losing around 2% each.

Fixed income in the U.S. was generally flat in 2015 but it finished with a negative trajectory due to the U.S. Federal Reserve’s finally raising interest rates. In addition, international bonds posted negative returns due to the strong dollar’s effect on foreign currency exchange rates.

A major cause of the fourth quarter volatility was the fluctuation in the price of oil, which, after seeming to stabilize around $45/barrel, continued its slide and ended the year around $37/barrel. A major contributor to the collapse in oil prices that began in 2014 was the increased output driven by technology and efficiency in the U.S. energy sector over the previous six or seven years along with reduced demand caused by China’s economic slowdown. It has been exacerbated by OPEC’s continued unwillingness to cut production to prop up prices in the face of an expanding oil glut.

Going forward, oil will continue to push volatility into the financial markets. Look for the price of oil to move around with geopolitical unrest, China’s slowing economy, and Iranian oil coming to market after sanctions are lifted sometime this year. Despite the expected fluctuation in the price of oil, the theme over the next few years, at least, will be lower oil prices.

A similar theme holds true with interest rates. The U.S. Federal Reserve Board will look to raise short-term interest rates, although the oil prices and China could reduce the number of rate hikes. Longer-term interest rates, however, will be tethered to the interest rates of other developed countries. That is, while the European Central Bank (ECB) has reduced its quantitative easing, it’s still intent on keeping interest rates low.

Expect the volatility we saw in the second half of 2015 to continue into 2016 with an upside bias. In addition, look for sustained, lower oil prices and a stronger dollar which will stimulate additional U.S. consumer spending in 2016. In addition, the U.S. economy should continue improving as should Europe’s, albeit a little slower.

Please contact us if you have any questions. 

Quarterly Market Update

For the past six weeks, markets have traded in correction territory (a correction is a reverse movement of at least 10%). The reversal began in late August, likely due to negative economic data and stock market performance in China. It seemed like the market was beginning to regain its footing until the U.S. Federal Reserve Bank (the Fed) announced on September 17th that they were going to leave short-term interest rates in the 0 to ¼ percent range due to low inflation caused by “recent global economic and financial developments.”

We believe this is a correction in an overall rising market. While the declining price of energy (oil) and import prices are negative shocks in the short-term, they eventually will dissipate and result in more disposable income for consumers. In fact, stronger consumer spending, 2 ¼ percent GDP in the first six months, and solid employment numbers (pace of job gains, unemployment, and so on) led many to believe a September Fed rate hike was going to happen. The Fed clearly affirmed these numbers. Furthermore, bank lending activity reflects more of a growth footing, while strong corporate balance sheets reflect prudent borrowing—not irrational exuberance. Finally, there are numbers coming out of China that indicate the growing Chinese middle class is still consuming. Apple CEO, Tim Cook, recently went on record stating that China is one of its hottest markets and represents a long-term “unprecedented opportunity.” Nike’s strong earnings this past week included a 30% increase in sales year over year in China. Like Apple, Nike executives believe they have major opportunities in China because of its growing middle class, despite the struggling Chinese economy.

Quarterly Market Update

The end of the second quarter provides a good opportunity to review what happened the first half of the year and to share some insight into our plan for the rest of the year.

Let's start with a general review of the markets to date. Before looking at individual asset categories, there is one overall market note. The Greek debt situation is coming to a head with negotiations coming down to the wire. Will Greece exit the Euro zone or will they reach a deal? The uncertainty surrounding this question triggered a selloff in late June into July both domestically and internationally. In addition, the Chinese stock market woes did not help as the Shanghai composite shed 32 percent from its June 12th high. That said, here are some additional highlights for the first half:

    -The broader U.S. market moved sideways the first half of the year with a fair amount of volatility. The U.S. total stock market indexes posted less than 2 percent gains in the first half.

    -The Greek selloff in June and July affected international stocks more than U.S. stocks. But even with the larger giveback, international stocks still drove performance in the first half of the year.

    -As expected, fixed income was a drag on returns. Interest rates rose in the second quarter in anticipation of a Federal Reserve rate hike that likely will come in the fall. The rising rates caused the year-to-date returns for U.S. aggregate bond indexes to end in negative territory at the end of the second quarter.

    -In terms of S&P 500 sectors, health care finished the second quarter with the strongest returns, up almost 10 percent for the year. Energy was the worst performing sector in the second quarter with nearly a 6 percent decline.

Looking forward, here is what to expect:

    -We will keep our current allocation to international stocks and may increase our exposure when the Greek situation has more clarity. A Greek exit from the Euro zone will roil the markets, but after the drama passes, the European markets should recover and move upward as the European economy continues to strengthen.

    -Domestic stocks remain more expensive than international stocks. We believe that the best opportunities this year will continue to be in small- and mid-cap stocks as well as in three sectors.

    -The financial sector of the S&P 500 has lagged the broader index over the past 5 years. As a result, it is relatively undervalued. As the economy continues to strengthen, so will loan activity which will enable banks to put near-zero-interest cash to work. Furthermore, higher interest rates will increase banks’ interest margins. Both developments would boost earnings.

    -Technology stocks have outpaced the broader index over the past 5 years. Although valuations are a little expensive, they are still reasonable based on expected growth. We believe technology stocks have momentum and that CFOs will allow hardware and software upgrades when they believe the economic recovery is on sound footing.

    -The health care sector has consistently outperformed the broader S&P 500 index the past five years, besting the broader index by 60% over that period. However, like technology, the sector generally has reasonable valuations when future growth is considered. We expect returns in the health care sector will be higher than the broader index, albeit more modest than the 20% annualized returns we have seen in the past. We expect that higher utilization and continued innovation should be able to overcome the headwinds created by implementing provisions of the Affordable Care Act and managing downward price pressure created by Medicare.

    -Fixed income will continue to be a drag on returns, but we need to hold an underweighted position to provide some buffer if there are large negative events in the stock market.

Please contact us if you have questions or would like to review your account’s performance.