Posts filed under ‘Government’

Super Bowl Blitz – Dow 20,000

team

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (February 3, 2017). Subscribe on the right side of the page for the complete text.

If you have been following the sports headlines, then you know the Super Bowl 51 NFL football championship game between the four-time champion New England Patriots and the zero-time champion Atlanta Falcons is upon us. It’s that time of the year when more than 100 million people will congregate in front of big screen TVs across our nation and stare at ludicrous commercials (costing $5 million each); watch a semi-entertaining halftime show; and gorge on thousands of calories until stomachs bloat painfully.

The other headlines blasting across the media airwaves relate to the new all-time record milestone of 20,000 achieved by the Dow Jones Industrials Average (a.k.a., “The Dow”). For those people who are not glued to CNBC business television all day, the Dow is a basket of 30 large company stocks subjectively selected by the editors of the Wall Street Journal with the intent of creating an index that can mimic the overall economy. A lot of dynamics in our economy have transformed over the Dow’s 132 year history (1885), so it should come as no surprise that the index’s stock components have changed 51 times since 1896 – the most recent change occurred in March 2015 when Apple Inc. (AAPL) was added to the Dow and AT&T Inc. (T) was dropped.

20,000 Big Deal?

The last time the Dow closed above 10,000 was on March 29, 1999, so it has taken almost 18 years to double to 20,000. Is the Dow reaching the 20,000 landmark level a big deal in the whole scheme of things? The short answer is “No”. It is true the Dow can act as a fairly good barometer of the economy over longer periods of time. Over the 1998 – 2017 timeframe, economic activity has almost doubled to about $18 trillion (as measured by Gross Domestic Product – GDP) with the added help of a declining interest rate tailwind.

In the short-run, stock indexes like the Dow have a spottier record in correlating with economic variables. At the root of short-term stock price distortions are human behavioral biases and emotions, such as fear and greed. Investor panic and euphoria ultimately have a way of causing wild stock price overreactions, which in turn leads to poor decisions and results. We saw this firsthand during the inflation and subsequent bursting of the 2000 technology bubble. If that volatility wasn’t painful enough, last decade’s housing collapse, which resulted in the 2008-2009 financial crisis, is a constant reminder of how extreme emotions can lead to poor decision-making. For professionals, short-term volatility and overreactions provide lucrative opportunities, but casual investors and novices left to their own devices generally destroy wealth.

As I have discussed on my Investing Caffeine blog on numerous occasions, the march towards 20,000 occurred in the middle of arguably the most hated bull market in a generation or two (see The Most Hated Bull Market). It wasn’t until recently that the media began fixating on this arbitrary new all-time record high of 20,000. My frustration with the coverage is that the impressive phenomenon of this multi-year bull market advance has been largely ignored, in favor of gloom and doom, which sells more advertising – Madison Avenue execs enthusiastically say, “Thank you.” While the media hypes these stock records as new, this phenomenon is actually old news. In fact, stocks have been hitting new highs over the last five years (see chart below).

dji-07-17

More specifically, the Dow has hit consecutive, new all-time record highs in each year since 2013. This ignored bull market (see Gallup survey) may not be good for the investment industry, but it can be good for shrewd long-term investors, who react patiently and opportunistically.

Political Football

In Washington, there’s a different game currently going on, and it’s a game of political football. With a hotly contentious 2016 election still fresh in the minds of many voters, a subset of unsatisfied Americans are closely scrutinizing every move of the new administration. Love him or hate him, it is difficult for observers to accuse President Trump of sitting on his hands. In the first 11 days of his presidential term alone, Trump has been very active in enacting almost 20 Executive Orders and Memoranda (see the definitional difference here), as he tries to make supporters whole with his many previous campaign trail promises. The persistently increasing number of policies is rising by the day (…and tweet), and here’s a summarizing list of Trump’s executive actions so far:

  • Refugee Travel Ban
  • Keystone & Dakota Pipelines
  • Border Wall
  • Deportations/Sanctuary Cities
  • Manufacturing Regulation Relief
  • American Steel
  • Environmental Reviews
  • Affordable Care Act Requirements
  • Border Wall
  • Exit TPP Trade Deal
  • Federal Hiring Freeze
  • Federal Abortion Freeze
  • Regulation Freeze
  • Military Review
  • ISIS Fight Plan
  • Reorganization of Security Councils
  • Lobbyist Bans
  • Deregulation for Small Businesses

President Trump has thrown another political football bomb with his recent nomination of Judge Neil Gorsuch (age 49) to the Supreme Court in the hopes that no penalty flags will be thrown by the opposition. Gorsuch, the youngest nominee in 25 years, is a conservative federal appeals judge from Colorado who is looking to fill the seat left open by last year’s death of Justice Antonin Scalia at the age 79.

Politics – Schmolitics

When it comes to the stock market and the economy, many people like to make the president the hero or the scapegoat. Like a quarterback on the football field, the president certainly has influence in shaping the political and economic game plan, but he is not the only player. There is an infinite number of other factors that can (and do) contribute to our country’s success (or lack thereof).

Those economic game-changing factors include, but are not limited to: Congress, the Federal Reserve, Supreme Court, consumer sentiment, trade policy, demographics, regulations, tax policy, business confidence, interest rates, technology proliferation, inflation, capital investment, geopolitics, terrorism, environmental disruptions, immigration, rate of productivity, fiscal policy, foreign relations, sanctions, entitlements, debt levels, bank lending, mergers and acquisitions, labor rules, IPOs (Initial Public Offerings), stock buybacks, foreign exchange rates, local/state/national elections, and many, many, many other factors.

Regardless to which political team you affiliate, if you periodically flip through your social media stream (e.g., Facebook), or turn on the nightly news, you too have likely suffered some sort of political fatigue injury. As Winston Churchill famously stated, “Democracy is the worst form of government except for all the other forms that have been tried from time to time.”

When it comes to your finances, getting excited over Dow 20,000 or despondent over politics is not a useful or efficient strategy. Rather than becoming emotionally volatile, you will be better off by focusing on building (or executing) your long-term investment plan. Not much can be accomplished by yelling at a political charged Facebook rant or screaming at your TV during a football game, so why not calmly concentrate on ways to control your future (financial or otherwise). Actions, not fear, get results. Therefore, if this Super Bowl Sunday you’re not ready to review your asset allocation, budget your annual expenses, or contemplate your investment time horizon, then at least take control of your future by managing some nacho cheese dip and handling plenty of fried chicken.

investment-questions-border

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

www.Sidoxia.com

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in AAPL, T, FB and certain exchange traded funds (ETFs), but at the time of publishing had no direct position in any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

February 4, 2017 at 8:02 am Leave a comment

Wiping Your Financial Slate Clean

slate

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (January 3, 2017). Subscribe on the right side of the page for the complete text.

The page on the calendar has turned, and we now have a new year, and will shortly have a new president, and new economic policies. Although there is nothing magical about starting a fresh, new year, the annual rites of passage also allow investors to start with a clean slate again and reflect on their personal financial situation. Before you reach a desired destination (i.e., retirement), it is always helpful to know where you have been and where are you currently. Achieving this goal requires filtering through a never-ending avalanche of real-time data flooding through our cell phones, computers, TVs, radios, and Facebook accounts. This may seem like a daunting challenge, but that’s where I come in!

Distinguishing the signals from the noise is tough and there was plenty of noise in 2016 – just like there is every year. Before the S&P 500 stock index registered a +9.5% return in 2016, fears of a China slowdown blanketed headlines last January (the S&P 500 fell -15% from its highs and small cap stocks dropped -26%), and the Brexit (British exit) referendum caused a brief 48-hour -6% hiccup in June. Oil was also in the news as prices hit a low of $26 a barrel early in the year, before more than doubling by year-end to $54 per barrel (still well below the high exceeding $100 in 2014). On the interest rate front, 10-Year Treasury rates bottomed at 1.34% in July, while trillions of dollars in global bonds were incomprehensibly paying negative interest rates. However, fears of inflation rocked bond prices lower (prices move inversely to yields) and pushed bond yields up to 2.45% today. Along these lines, the Federal Reserve has turned the tide on its near-0% interest rate policy as evidenced by its second rate hike in December.

Despite the abbreviated volatility caused by the aforementioned factors, it was the U.S. elections and surprise victory of President-elect Donald Trump that dominated the media airwaves for most of 2016, and is likely to continue as we enter 2017. In hindsight, the amazing Twitter-led, Trump triumph was confirmation of the sweeping global populism trend that has also replaced establishment leaders in the U.K., France, and Italy. There are many explanations for the pervasive rise in populism, but meager global economic growth, globalization, and automation via technology are all contributing factors.

The Trump Bump

Even though Trump has yet to accept the oath of Commander-in-Chief, recent investor optimism has been fueled by expectations of a Republican president passing numerous pro-growth policies and legislation through a Republican majority-controlled Congress. Here are some of the expected changes:

  • Corporate/individual tax cuts and reform
  • Healthcare reform (i.e., Obamacare)
  • Proposed $1 trillion in infrastructure spending
  • Repatriation tax holiday for multinational corporate profits
  • Regulatory relief (e.g., Dodd-Frank banking and EPA environmental reform)

The chart below summarizes the major events of 2016, including the year-end “Trump Bump”:

16-sp-sum

While I too remain optimistic, I understand there is no free lunch as it relates to financial markets (see also Half Trump Full). While tax cuts, infrastructure spending, and regulatory relief should positively contribute to economic growth, these benefits will have to be weighed against the likely costs of higher inflation, debt, and deficits.

Over the 25+ years I have been investing, the nature of the stock market and economy hasn’t changed. The emotions of fear and greed rule the day just as much today as they did a century ago. What has changed today is the pace, quality, and sheer volume of news. In the end, my experience has taught me that 99% of what you read, see or hear at the office is irrelevant as it relates to your retirement and investments. What ultimately drives asset prices higher or lower are the four key factors of corporate profits, interest rates, valuations, and sentiment (contrarian indicator) . As you can see from the chart below, corporate profits are at record levels and forecast to accelerate in 2017 (up +11.9%). In addition, valuations remain very reasonable, given how low interest rates are (albeit less low), and skeptical investor sentiment augurs well in the short-run.

16-eps

Source: FactSet

Regardless of your economic or political views, this year is bound to have plenty of ups and downs, as is always the case. With a clean slate and fresh turn to the calendar, now is a perfect time to organize your finances and position yourself for a better retirement and 2017.

investment-questions-border

www.Sidoxia.com 

Wade W. Slome, CFA, CFP®

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in FB and certain exchange traded funds (ETFs), but at the time of publishing had no direct position in TWTR or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

January 3, 2017 at 12:17 pm Leave a comment

Half Trump Empty, or Half Trump Full?

glass

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (December 1, 2016). Subscribe on the right side of the page for the complete text.

It was a bitter U.S. presidential election, but fortunately, the nastiest election mudslinging has come to an end…at least until the next political contest. Unfortunately, like most elections, even after the president-elect has been selected, almost half the country remains divided and the challenges facing the president-elect have not disappeared.

While some non-Trump voters have looked at the glass as half empty, since the national elections, the stock market glass has been overflowing to new record highs. Similar to the unforeseen British Brexit outcome in which virtually all pollsters and pundits got the results wrong, U.S. experts and investors also initially took a brief half-glass full view of the populist victory of Donald Trump. More specifically, for a few hours on Election Day, stock values tied to the Dow Jones Industrial Average index collapsed by approximately -5%.

It didn’t take long for stock prices to quickly reverse course, and when all was said and done, the Dow Jones Industrial Average finished the month higher by almost +1,000 points (+5.4%) to finish at 19,124 – a new all-time record high (see chart below). Worth noting, stocks have registered a very respectable +10% return during 2016, and the year still isn’t over.

dji-2016

Source: Investors.com (IBD)

Drinking the Trump Egg Nog

Why are investors so cheery? The proof will be in the pudding, but current optimism is stemming from a fairly broad list of anticipated pro-growth policies.

At the heart of the reform is the largest expected tax reform since Ronald Reagan’s landmark legislation three decades ago. Not only is Trump proposing stimulative tax cuts for corporations, but also individual tax reductions targeted at low-to-middle income taxpayers. Other facets of the tax plan include simplification of the tax code; removal of tax loopholes; and repatriation of foreign cash parked abroad. Combined, these measures are designed to increase profits, wages, investment spending, productivity, and jobs.

On the regulatory front, the President-elect has promised to repeal the Obamacare healthcare system and also overhaul the Dodd-Frank financial legislation. These initiatives, along with talk of dialing back other regulatory burdensome laws and agencies have many onlookers hopeful such policies could aid economic growth.

Fueling further optimism is the prospect of a trillion dollar infrastructure spending program created to fix our crumbling roads and bridges, while simultaneously increasing jobs.

No Free Lunch

As is the case with any economic plan, there is never a free lunch. Every cost has a benefit, and every benefit has a cost. The cost of the 2008-2009 Financial crisis is reflected in the sluggish economic growth seen in the weak GDP (Gross Domestic Product) statistics, which have averaged a modest +1.6% growth rate over the last year. Scott Grannis points out how the slowest recovery since World War II has resulted in a $3 trillion economic gap (see chart below).

us-real-gdp

Source: Calafia Beach Pundit

The silver lining benefit to weak growth has been tame inflation and the lowest interest rate levels experienced in a generation. Notwithstanding the recent rate rise, this low rate phenomenon has spurred borrowing, and improved housing affordability. The sub-par inflation trends have also better preserved the spending power of American consumers on fixed incomes.

If executed properly, the benefits of pro-growth policies are obvious. Lower taxes should mean more money in the pockets of individuals and businesses to spend and invest on the economy. This in turn should create more jobs and growth. Regulatory reform and infrastructure spending should have similarly positive effects. However, there are some potential downside costs to the benefits of faster growth, including the following:

  • Higher interest rates
  • Rising inflation
  • Stronger dollar
  • Greater amount of debt
  • Larger deficits (see chart below)

trumpdeficit

Source: The Wall Street Journal

Even though President-elect Trump has not even stepped foot into the Oval Office yet, signs are already emerging that we could face some or all of the previously mentioned headwinds. For example, just since the election, the yield on 10-Year Treasury Notes have spiked +0.5% to 2.37%, and 30-Year Fixed Rate mortgages are flirting with 4.0%. Social and economic issues relating to immigration legislation and Supreme Court nominations are likely to raise additional uncertainties in the coming months and years.

Attempting to anticipate and forecast pending changes makes perfect sense, but before you turn your whole investment portfolio upside down, it’s important to realize that actions speak louder than words. Even though Republicans have control over the three branches of government (Executive, Legislative, Judicial), the amount of control is narrow (i.e., the Senate), and the nature of control is splintered. In other words, Trump will still have to institute the “art of the deal” to persuade all factions of the Republicans (including establishment, Tea-Party, and rural) and Democrats to follow along and pass his pro-growth policies.

Although I do not agree with all of Trump’s policies, including his rhetoric on trade (see Free Trade Boogeyman), I will continue paying closer attention to his current actions rather than his past words. Until proven otherwise, I will keep on my rose colored glasses and remain optimistic that the Trump glass is half full, not half empty.

investment-questions-border

Wade W. Slome, CFA, CFP®

www.Sidoxia.com

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs), but at the time of publishing had no direct position in  any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

December 3, 2016 at 8:00 am Leave a comment

Trump: Bark Worse Than the Bite?

 

Jack Russell Terrier Snarling

Unless you have been living in a cave this week, you are probably aware the country has elected a new president. Leading up to Election Day, the anxiety was palpable. A populist wave, much like the one experienced in the British Brexit vote earlier this year, resulted in economically disenfranchised voters coming out in full force to vote out the perceived establishment candidate, Hillary Clinton. Financial market pundits and media commentators predicted an immediate 11-13% decline in stock values if Donald Trump were to win. Could they have been more wrong? After a brief -5% decline in pre-trading Dow Jones Industrial Average future prices, the Dow subsequently skyrocketed more than 1,000 points higher to finish up +1.4% for the day (see chart below). For the week, the Dow amazingly rallied by +5.4%.

Source: Investing.com

Source: Investing.com

As I have written on numerous occasions, politics have very little impact on the long-term direction of the financial markets. Yes, it is true that regulations and policies implemented by the president and Congress can influence specific industries or individual companies over the short-run. Hillary Clinton proved this assertion with her pharmaceutical industry tweet, which created a lasting hangover effect on the sector. But guess what? Regulations and politics have always changed throughout our country’s history, with various shifting policies impacting businesses asymmetrically – some positively and some negatively. The good news…in an ever-expanding global economy, accelerated through technology, capitalism forces businesses to adapt to political change.

Considering the amount of our nation’s political variation, what has been our country’s stock market and economic track record over the last 100 years under 17 different presidents (8 Democrats and 9 Republicans)? See chart below:

Source: Macrotrends

Source: Macrotrends

Not too shabby judging by the roughly 188x–fold increase in the Dow Jones Industrial Average (or > ~18,700%+ return) to a fresh all-time record high this week. While I am admittedly nervous about a full, Republican tri-power Trump administration (President/House/Senate), the reality is that Trump’s unconventional, unprecedented platform doesn’t fit squarely into the traditional Republican policy boxes. In fact, he has switched his party affiliation five times. President-elect Trump will therefore need to reach across the political aisle to Democrats, and work with Speaker of the House Paul Ryan to accomplish the platform agenda priorities he outlined during his presidential campaign.

While all this political election discussion has been stimulating and exhausting, fortunately, followers of my Investing Caffeine  blog understand there are much more important factors than politics affecting the performance of the stock market and economy – namely corporate profits, interest rates, valuations, and sentiment (see Don’t Be a Fool, Follow the Stool).

As mentioned, the market’s returns are influenced by four key factors, but sentiment and stock market values are largely shaped by investor behavior. Trump has less control on investor behavior, but his policies can directly impact corporate profits and interest rates – two critical components of economic health. Part of the reason Trump won the election was due to campaign promises regarding many popular stimulative policies, including personal and corporate tax cuts; infrastructure spending; repatriation of foreign money; tax simplification and reform; Obamacare improvement; and immigration reform.

As it turns out, a good number of the issues relating to these policies happen to be bipartisan in nature. Given the Republican-controlled Congress, investors are perceiving these potential policy changes as positive for the market – at least for the first week of his presidential tenure.

For now, President-elect Trump has struck the proper conciliatory tone and made appropriate comments. In the coming days and weeks, investors are watching closely for tangible evidence and clues of his policy priorities, as he fills key political posts on his presidential team. Time will tell whether the early honeymoon will continue past Trump’s inauguration day, but currently, the consensus is his bark heard during Trump’s heated 18-month presidential campaign is worse than the actual bite of his election victory.

investment-questions-border

Wade W. Slome, CFA, CFP®

www.Sidoxia.com

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs), but at the time of publishing had no direct position in  any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page

November 12, 2016 at 1:41 pm Leave a comment

What Do You Worry About Next?

Scared Face

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (November 1, 2016). Subscribe on the right side of the page for the complete text.

Boo! Halloween has just passed and frightened investors have still survived to tell the tale in 2016. While most people have gotten spooked by the presidential election, other factors like record-high corporate profits, record-low interest rates, and reasonable valuations have led to annual stock market gains. More specifically, values have risen in 2016 by approximately +4% (or +6% including dividend payments). Despite last week’s accelerating 3rd quarter GDP economic growth figure of +2.9%, which was the highest rate in two years and more than doubled the rate of the previous quarter (up +1.4%), there were still more tricks than treats during October. Recently, scary politics have shocked many Halloween participants into a zombie-like state, as evidenced by stock values declining around -1.7% during October.

This recent volatility is nothing new. Even though financial markets are significantly higher in recent years, that has not prevented repeated corrections over the year(s) as shown below in the 2009 – 2015 chart.

In order to earn higher long-term returns, investors have to accept a certain amount of short-term price movements (upwards and downwards). With a couple months remaining in the year, stock investors have achieved gains through a tremendous amount of economic and geopolitical uncertainty, including the following scares:

  • China: A significant fallout from a Chinese slowdown at the beginning of the year (stocks fell about -14%).
  • Brexit: A 48-hour Brexit vote scare in June (stocks fell -6%).
  • Fed Fears: Threatening comments in September from the Federal Reserve about potentially hiking increasing interest rates (stocks fell -4%).

With the elections just a week away, political anxiety has jolted Americans’ adrenaline levels. The polls continue to move up and down, but as I have repeatedly pointed out, the only certain winner in Washington DC is gridlock. Sure, in a Utopian world, politicians should join hands and compromise to solve all our country’s serious problems. Unfortunately, this is not the case (see Congress’s approval rating). However, there is a silver lining to this dysfunction…gridlock can lead to fiscal discipline.

Our country’s debt/deficit financial situation has been spiraling out of control, in large measure due to rapidly rising entitlement spending, including Medicare, and Social Security. Witnessing all the political rhetoric and in-fighting is very difficult, but as I highlighted in last month’s newsletter, gridlock has flattened the spending curve significantly since 2009 – a positive development.

And although the economic recovery has been one of the slowest since World War II and global growth remains anemic, the U.S. remains a better house in a bad global neighborhood (e.g., Europe and Japan continue to suck wind), as evidenced by a number of these following positive economic indicators:

  • Employment Improvement: Unemployment has fallen from 10% to 5% since 2009, and more than 15 million jobs have been added over that period.
  • Housing Recovery Continues: Home sales and prices continue their multi-year rise; housing inventories remain tight; and affordability remains strong, given generationally low interest rates.
  • Record Auto Sales: Car sales remain near record levels, hovering around 17 million units per year.
  • Consumer Confidence on the Rise: Ever since the financial crisis, consumer sentiment figures have rebounded by about 50%.
  • Record Consumer Sales: Consumer spending accounts for approximately 70% of our economy, and as you can see from the chart below, despite consumers saving more, stronger employment and wages are fueling more spending.

Source:Calculated Risk

Absent a clean sweep of control by the Democrat or Republican Presidential-Congressional candidates, our democratic system will retain its healthy status of checks and balances. Based on all the current polling data, a split between the White House, Senate, and House of Representatives remains a very high likelihood scenario.

The political process has been especially exhausting during the current cycle, but regardless of whether your candidate wins or loses, much of the current uncertainty will likely dissipate. As the saying goes, at least it is “Better the devil you know than the devil you don’t know.”

After the November 8th elections are completed, there will be one less election to worry about. Thankfully, after 25 years in the industry, I’m not naïve enough to believe there will be nothing else to worry about. When the financial media and blogosphere get bored, at a minimum, you can guarantee yourself plenty of useless coverage regarding the next monetary policy move by the Federal Reserve (see also Fed Fatigue).

Whatever the next set of worries become, U.K. Prime Minister Winston Churchill said it best as it relates to American politics and economics, “You can always count on Americans to do the right thing – after they’ve tried everything else.” If Churchill’s words don’t provide comfort and you had fun getting spooked over the elections on Halloween, feel free to keep wearing your costume. Behind any constructive economic data, the prolific media machine will continue doing their best in manufacturing plenty of fear, uncertainty, and doubt to keep you worried.

investment-questions-border

Wade W. Slome, CFA, CFP®

www.Sidoxia.com

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs), but at the time of publishing had no direct position in  any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

November 1, 2016 at 11:02 am 1 comment

Fall is Here: Change is Near

leaves

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (October 1, 2016). Subscribe on the right side of the page for the complete text.

Although the fall season is here and the leaf colors are changing, there are a number of other transforming dynamics occurring this economic season as well. The S&P 500 index may not have changed much this past month (down -0.1%), but the technology-laden NASDAQ index catapulted higher (+1.9% for the month and +6.0% for 2016).

With three quarters of the year now behind us, beyond experiencing a shift in seasonal weather, a number of other changes are also coming. For starters, there’s no ignoring the elephant in the room, and that is the presidential election, which is only weeks away from determining our country’s new Commander in Chief. Besides religion, there are very few topics more emotionally charged than politics – whether you are a Republican, Democrat, Independent, Libertarian, or some combination thereof. Even though the first presidential debate is behind us, a majority of voters are already set on their candidate choice. In other words, open-minded debate on this topic can be challenging.

Hearing critical comments regarding your favorite candidate are often interpreted in the same manner as receiving critical comments about a personal family member – people often become defensive. The good news, despite the massive political divide currently occurring in the country and near-record low politician approval ratings in Congress , politics mean almost nothing when it comes to your money and retirement (see also Politics & Your Money). Regardless of what politicians might accomplish (not much), individuals actually have much more control over their personal financial future than politicians.

While inaction may rule the day currently, more action generally occurs during a crisis – we witnessed this firsthand during the 2008-2009 financial meltdown. As Winston Churchill famously stated,

“You can always count on Americans to do the right thing – after they’ve tried everything else.”

Political discourse and gridlock are frustrating to almost everyone from a practical standpoint (i.e., “Why can’t these idiots get something done in Washington?!”), however from an economic standpoint, gridlock is good (see also Who Said Gridlock is Bad?) because it can keep a responsible lid on frivolous spending. Educated individuals can debate about the proper priorities of government spending, but most voters agree, maintaining a sensible level of spending and debt should be a bipartisan issue.

From roughly 2009 – 2014, you can see how political gridlock has led to a massive narrowing in our government’s deficit levels (chart below) – back to more historical levels.This occurred just as rising frustration with Washington has been on the rise.

spend-vs-rev

The Fed: Rate Revolution or Evolution?

Besides the changing season of politics, the other major area of change is Federal Reserve monetary policy. Even though the Fed has only increased interest rates once over the last 10 years, and interest rates are at near-generational lows, investors remain fearful. There is bound to be some short-term volatility if interest rates rise to 0.50% – 0.75% in December, as currently expected. However, if the Fed continues at its current snail’s pace, it won’t be until 2032 before they complete their rate hike cycles.

We can put the next rate increase into perspective by studying history. More specifically, the Fed raised interest rates 17 times from 2004 – 2006 (see chart below). Fortunately over this same time period, the world didn’t end as the Fed increased interest rates from 1.00% to 5.25% (stocks prices actually rose around +11%). The same can be said today – the world won’t likely end, if interest rates rise from 0.50% to 0.75% in a few months.

hike-cycle

The next question becomes, why are interest rates so low? There are many reasons and theories, but a few of the key drivers behind low rates include, slower global economic growth, low inflation, high demand for low-risk assets, technology, and demographics. I could devote a whole article to each of these factors, and indeed in many cases I have, but suffice it to say that there are many reasons beyond the oversimplified explanation that artificial central bank intervention has led to a 35 year decline in interest rates (see chart below).

10yr-yld

Change is a constant, and with fall arriving, some changes are more predictable than others. The timing of the U.S. presidential election outcome is very predictable but the same cannot be said for the timing of future interest rate increases. Irrespective of the coming changes and the related timing, history reminds us that concerns over politics and interest rates often are overblown. Many individuals remain overly-pessimistic due to excessive, daily attention to gloomy and irrelevant news headlines. Thankfully, stock prices are paying attention to more important factors (see Don’t Be a Fool) and long-term investors are being rewarded with record high stock prices in recent weeks. That’s the type of change I love.

investment-questions-border

Wade W. Slome, CFA, CFP®

www.Sidoxia.com

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs), but at the time of publishing had no direct position in  any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

October 3, 2016 at 1:03 pm 1 comment

EU Marriage Ends in Messy Brexit Divorce

divorce

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (July 1, 2016). Subscribe on the right side of the page for the complete text.

What Just Happened?

Breakups are never easy, especially when they come as a surprise. That’s exactly what happened with last week’s “Brexit” (British exit) referendum results. History was made when 51.9% of the United Kingdom (U.K.) voters from England, Scotland, Wales and Northern Ireland cast their vote to divorce (“Leave”) their country from the European Union (EU). In the end, the 48.1% of U.K. voters could not generate enough support to “Remain” in the EU (see chart below). Despite torrential downpours in southern Britain, voter turnout was extraordinarily high, as 72% of the 46.5 million registered voters came out in full force to have their voices heard.

Divorce is never cheap, and UK Prime Minister David Cameron paid the ultimate price with his defeat in the Brexit referendum…the loss of his job. Immediately following the release of the referendum results, Cameron, the British Prime Minister since 2010 and leader of the Conservative Party, immediately announced his resignation, effective no later than October 2016 after the selection of his successor.

brexit votes

Source: Bloomberg

One of the reasons behind the shock of the Brexit Leave decision is the longstanding relationship the U.K. has had with the EU. European Union membership first began in 1957 with Belgium, France, Germany, Italy, Luxembourg, and Netherlands being the founding countries of this new political-economic union.

A few decades later, the U.K. officially joined the EU in 1973 with Ireland and the Denmark, shortly before Margaret Thatcher came into power. If you fast forward to today, some 43 years after U.K. originally joined the EU, the Brexit decision represents the largest turning point in European political history. Not since the 1989 falling of the Berlin Wall and the subsequent demise of the Cold War in the Soviet Union has such a large, earth-moving political shift occurred.

Today, there are 28 member countries in the EU with Croatia being the newest member in 2013. Despite the Brexit outcome, there still is a backlog of countries wanting to join the EU club, including Turkey, Serbia, Albania, and Montenegro (and this excludes Scotland, which has voiced an interest in leaving the U.K. for the EU).

What Were Investors’ Reactions?

Financial markets around the world were caught off guard, given many pre-referendum polls were showing the Remain camp with a slight edge, along with British betting parlors that were handicapping an overwhelming victory for the Remain camp. Here’s a summary of stock market reactions around the globe from June 23rd to June 30th:

U.S. (S&P 500): -0.7%

U.K. (FTSE 100): +2.6%

Japan (Nikkei): -4.1%

Germany (DAX): -5.6%

Hong Kong (Hang Seng): +0.4%

China (Shanghai): +1.3%

India (BSE): -0.0%

Surprisingly, modest monthly gains achieved in the S&P 500 prior to the Brexit vote (up +0.8%) were quickly pared after the results came in but remained positive for the entire month (up +0.1%). For the year, U.S. stocks are up a limited +2.7%, which isn’t too bad considering investors’ current mood.

Stocks were not the only financial market disrupted after the Brexit announcement, foreign exchange currency rates were unstable as well. The British pound dived to a 30-year low shortly after the vote to a level of approximately $1.33/£, and was down more than -10% on the day of the announcement (see chart below). UK banks like Barclays PLC (BCS) and Lloyds Banking Group PLC (LYG) also saw their share prices significantly pressured as EU regulatory risks of losing access to European customers and negative global interest rates further squeeze the banks’ profit margins.

To put the currency picture into perspective, the value of the British pound ($2.64/£) peaked in March 1972 at a rate about double the U.S. dollar today. On the positive side of the ledger, a weaker British pound could help boost exports and vacation time to Stonehenge or London, but there is also a risk for a spike of inflation (or stagflation) on the country’s roughly $740 billion in imports (e.g., food, energy, and raw materials).

currency v ppp

Source: Calafia Beach Pundit

Why Did it Happen?

While economically prosperous regions like London and Scotland voted heavily for Remain, the message for change of the Leave camp resonated well with working class towns and rural areas of England (seen here). Besides a geographic split, there was also a demographic divide between voters. As you can see from the YouGov poll below, the majority of younger citizens overwhelmingly voted for Remain, and vice versa for older citizens as it relates to the Leave vote.

18-24: 75% Remain

25-49: 56% Remain

50-64: 44% Remain

65+: 39% Remain

While geography and demographics certainly played a key role in the outcome of the EU Leave referendum result, at the core of the movement also was a populist discontent with immigration and the negative economic consequences created by globalization. There are many reasons behind the sluggish economic global recovery, even if the U.S. is doing best out of the developed countries, but rightly or wrongly, immigration policies and protectionism played a prominent part in the Brexit.

At the heart of the populist sentiment of lost control to Brussels (EU) and immigration is the question of whether the benefits of globalization have outweighed the costs. The spread of globalization and expanded EU immigration has disenfranchised many lower skill level workers displaced by eastern European immigrants, Syrian refugees and innovative solutions like automated machinery, software, and electronic equipment. Economic history clearly shows the answer to the effectiveness of globalization is a resounding “yes”, but the post-financial crisis recovery has been disappointingly sluggish, so a component of the populist movement has felt an urgency to find a scapegoat. The benefits of globalization can be seen in the chart below, as evidenced by the increases in per capita GDP of the UK relative to Germany and France, after joining the EU in 1973. Many observers are quick to identify the visible consequences of globalization (i.e., lower-paying job losses), but fail to identify the invisible benefits (i.e., productivity, lower prices, investment in higher-paying job gains).

UK GDP Ratio

Source: The Wall Street Journal

What happens next?

While some EU leaders want to accelerate the Brexit transition, in actuality, this will require a long, drawn-out negotiation process between the still-unnamed new UK Prime Minister and EU officials. The complete EU-Brexit deal will take upwards of two-years to complete, once Article 50 of the EU Lisbon Treaty has been triggered – likely in October.

In light of the unchartered nature of the Brexit Leave vote, nobody truly knows if this decision will ultimately compromise the existential reality of the EU. Time will tell whether Brexit will merely be a small bump on the long EU road, or the beginning of a scary European domino effect that causes the 28 EU country bloc to topple. If the U.K. is successful in negotiating EU trade agreements with separate European countries, the Brexit even has a longer-term potential of benefiting economic activity.  Regardless of the EU outcome, the long-term proliferation of capitalism and democracy is likely to prevail because citizens vote with their wallets and capital goes where it is treated best.

What does Brexit Mean for Global Markets?

The short answer is not much economically, however there have been plenty of less substantial events that have roiled financial markets for relatively short periods of time. There are two basic questions to ask when looking at the economic impact of Brexit:

1) What is the Brexit impact on the U.S. economy?

If you objectively analyze the statistics, U.S. companies sold approximately $56 billion of goods to the U.K. last year   (our #7 trading partner). Even if you believe in the unlikely scenario of a severe U.K. economic meltdown, the U.K. trade figure is a rounding error in the whole global economic scheme of things. More specifically, $56 billion in trade with the U.K. equates to about .003 of the United States’ $18+ trillion GDP (Gross Domestic Product).

2) What is the Brexit impact on the global economy?

The U.K.’s GDP amounts to about $3 trillion dollars. Of that total, U.K. exports to the EU account for a reasonably insignificant $300 billion. As you can see from the chart below, $300 billion in UK exports to the EU are virtually meaningless and coincidentally equate to about .003 of the world’s $78 trillion estimated GDP.

global gdp

Source: The National Archives

What to Do Next?

Like many divorces, the U.K. Brexit may be messy and drawn out, until all the details are finalized over the next couple years. It’s important that you establish a strong foundation with your investments and do not divorce the sound, fundamental principles needed to grow and preserve your portfolio. As is usually the case, panicking or making an emotional decision relating to your investments during the heat of some geopolitical crisis rarely translates into an optimal decision over the long-run. As I repeatedly have advised over the years, these periods of volatility are nothing new (see also Series of Unfortunate Events).

If you catch your anxiety or blood pressure rising, do yourself a favor and turn off your TV, radio, or electronic device. A more productive use of time is to calmly review your asset allocation and follow a financial plan, with or without the assistance of a financial professional, so that you are able to achieve your long-term financial goals. This strategy will help you establish a more durable, long-lasting, and successful marriage with your investments.

investment-questions-border

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper. 

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs), but at the time of publishing had no direct position in any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

July 2, 2016 at 9:00 am Leave a comment

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