Boom or Bust: 1st Quarter 2017 :: Wamhoff Financial & Accounting

Boom or Bust: 1st Quarter 2017

By: Kyle R. Jones & Brian Riggs

“Facts are stubborn things; and whatever may be our wishes, our inclinations, or the dictates of our passions, they cannot alter the state of facts and evidence.”
~ John Adams

On a daily basis, the mainstream media and financial news outlets are completely obsessed with the political drama surrounding our newly elected President. While the political noise can consume investors’ rational consciousness, we prefer to focus on fact-based data. The U.S. stock market reacted positively after the election results were confirmed, much to the chagrin of the mainstream media and financial prognosticators, who expected a negative market reaction.

Since the election, one macroeconomic metric that we are watching is the Global Macro Surprise Index. As can be seen below, since the election of Donald Trump, the potential for macroeconomic surprises has jumped dramatically. While macroeconomic surprises can be positive or negative, this chart signals that potential volatility in global stock markets in either direction is likely throughout the rest of 2017.

Chart Courtesy of Zerohedge/Bloomberg

Price volatility can be an investor’s best friend, or worst enemy. While we are always going to favor higher prices for stocks, based purely on historical probabilities, we cannot rule out that some policy decisions made by the new U.S. administration may be negative for global economic growth. Furthermore, with a new policy direction coming out of Washington, uncertainty about the future of U.S. economic growth continues to rise.

At the end of January, 2017 Gross Domestic Product (GDP) expectations from economists are starting to edge higher. This is a positive sign that economists view the new administration’s economic policies as being favorable to economic growth as the chart below demonstrates.

Chart Courtesy of Zerohedge/Bloomberg

Unfortunately, while GDP expectations are starting to improve, we would point out that the S&P 500 Index has decoupled from GDP Growth expectations beginning in early 2016. This divergence is concerning as it would indicate that stock prices are somewhat extended at this time.

While the recent past would suggest that equity fundamentals have been ignored by the stock market, we believe that the divergence shown in the chart above places a ceiling above stock prices in the future until GDP data improves. Our view is that future GDP data may limit, or potentially inhibit stock market growth going forward in 2017 and beyond. Until future GDP data is released, we will not be able to accurately measure the impact of economic policy decisions relative to future aggregate U.S. corporate earnings.

Attempting to predict stock market prices in the future is a foolhardy endeavor. However, in speaking with several investment company analysts, expectations about strong stock market returns in 2017 are somewhat timid compared to the recent past. Most financial analysts we have spoken with recently are predicting 3% – 6% equity growth ranges for 2017. For our clients, we view this as an opportunity to remain invested in stocks, however we are adjusting our portfolio models towards large-cap value stocks, which pay regular quarterly dividends.

Another concern that we have for equity prices involves a metric of analysis referred to as market breadth. According to Investopedia, “Market breadth is a technique used in technical analysis that attempts to gauge the direction of the overall market by analyzing the number of companies advancing relative to the number declining.” Presently, market breadth measured using the 200-day simple moving average is underwhelming as shown in the chart below.

Chart Courtesy of Zerohedge/Bloomberg

Consequently, this is another dataset that needs to improve for equity valuations to take off higher in the United States. While these are just a few of the factors that we are looking at to gauge investor and market sentiment, we believe these are relevant given recent political actions. While the data we have presented thus far paints an uncertain picture, we are also monitoring pockets of data suggesting an improving economic climate in the United States.

A strong positive data point regarding an improving economic climate involves reviewing the current level of the consumer confidence index. This index measures the level of confidence the public has in the economy based on spending and saving habits measured in an aggregate format. Current expectations are well above historical norms. The current value is 113, which is the highest figure in 15 years. Clearly the U.S. consumers’ sentiment in regards to economic vitality can have a major impact on the overall economy. Right now, the consumer confidence index is indicative of a strong U.S. consumer base that is confident about the economic future.

At this point in time, the future for U.S. economic growth and stock market upside potential is uncertain. While we have some economic data points that concern us, there are also positive economic indicators present. Periods of uncertainty offer investment opportunities, but presently our belief is that a diversified approach, focusing on both passive and active investment management, is the path forward for successful investment outcomes for our clients.

While we always want our clients to experience strong stock market returns, we continue to believe that a holistic portfolio management approach is the best path towards long-term portfolio prosperity. The utilization of stocks, bonds, alternative investments, and non-correlated portfolio allocations provide our clients with what we feel is the best path forward as we move into a period of economic uncertainty. We believe that U.S. economic growth may have surprises awaiting us ahead, however we believe the upside for stocks statistically has the highest probability outcome over the long-term time horizon. Until next time, here is to a prosperous 2017 . . . Happy Investing!