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Will the Halloween Trick Turn into a Holiday Treat?

The interest rate boogeyman came out in October as fears of an overzealous Federal Reserve monetary policy paralyzed investors into thinking rising interest rates could murder the economy into recession. But other ghostly issues frightened the stock market last month as well, including mid-term elections, heightening trade war tensions, a weakening Chinese economy, a fragile European economy (especially Italy), rising oil prices, weakening emerging market economies, anti-Semitism, politically motivated bomb threats, and anxiety over a potential recession after an aged economic expansion embarks on its 10th consecutive year of gains.

This ghoulish short-term backdrop resulted in the Dow Jones Industrial Average suffering a -5.1% drop last month, and the technology-heavy NASDAQ index screamed even lower by -9.2%. The results for the full year 2018 look more constructive – the S&P 500 is up +1.4% and the NASDAQ has climbed +5.8%.

Should the dreadful October result be surprising? Historically speaking, seasonality in the stock market has been quite scary during the month of October, especially if you consider the spooky stock Market Crash of 1929 (-19.7%) , the 1987 Crash (-21.5%), and the bloody collapse during the October 2008 Financial Crisis (-16.8%). There is good news, however. Seasonally, the holiday months of November and December typically tend to treat investors more cheerfully during the so-called “Santa Claus Rally” period. Since 1950 through 2017, the average return for stocks during November has been +1.4% (45 up years and 23 down years). For December, the results are even better at +1.5% (51 up years and 17 down years).

November (1950-2017) December (1950-2017)
Up Years Down Years Up Years Down Years
2017   2.40% 2015  -0.02% 2017   1.08% 2015  -1.87%
2016   3.29% 2011  -0.32% 2016   1.76% 2014  -0.33%
2014   2.45% 2010  -0.44% 2013   2.31% 2007  -0.76%
2013   2.68% 2008  -7.48% 2012   0.70% 2005  -0.10%
2012   0.28% 2007  -4.18% 2011   0.86% 2002  -6.03%
2009   5.74% 2000  -8.01% 2010   5.99% 1996  -2.15%
2006   1.66% 1994  -3.93% 2009   1.48% 1986  -2.83%
2005   3.52% 1993  -1.29% 2008   1.65% 1983  -0.87%
2004   3.86% 1991  -4.39% 2006   1.26% 1981  -3.01%
2003   0.71% 1988  -1.89% 2004   3.25% 1980  -3.39%
2002   5.71% 1987  -8.51% 2003   5.08% 1975  -1.15%
2001   7.52% 1984  -1.51% 2001   0.76% 1974  -1.78%
1999   1.92% 1976  -0.78% 2000   0.41% 1969  -1.87%
1998   5.91% 1974  -5.32% 1999   5.78% 1968  -4.16%
1997   4.46% 1973 -11.39% 1998   5.64% 1966  -0.15%
1996   7.34% 1971  -0.25% 1997   1.57% 1961  -0.32%
1995   4.10% 1969  -3.41% 1995   1.74% 1957  -3.31%
1992   3.03% 1965  -0.88% 1994   1.26%
1990   6.00% 1964  -0.52% 1993   0.98%
1989   1.65% 1963  -1.05% 1992   1.01%
1986   2.15% 1956  -3.10% 1991  11.19%
1985   6.51% 1951  -0.95% 1990   2.48%
1983   1.74% 1950  -0.26% 1989   2.14%
1982   3.60% 1988   1.48%
1981   3.27% 1987   7.28%
1980  10.24% 1985   4.51%
1979   4.26% 1984   2.24%
1978   0.61% 1982   1.50%
1977   2.86% 1979   1.68%
1975   2.47% 1978   1.16%
1972   4.56% 1977   0.28%
1970   4.74% 1976   5.25%
1968   4.80% 1973   1.79%
1967   0.75% 1972   1.18%
1966   0.31% 1971   8.62%
1962  10.16% 1970   5.68%
1961   3.77% 1967   2.63%
1960   2.97% 1965   0.90%
1959   1.52% 1964   0.39%
1958   1.78% 1963   2.44%
1957   3.17% 1962   1.35%
1955   7.64% 1960   5.08%
1954   7.71% 1959   2.03%
1953   0.41% 1958   4.78%
1952   4.31% 1956   1.50%
1955   0.29%
1954   5.85%
1953   0.12%
1952   3.47%
1951   3.62%
1950   3.81%

 

While the last 31 days may have been distressing, at Sidoxia we understand that terrifying short-term volatility is a necessary requirement for long-term investors, if you desire the sweet appreciation of long-term gains. Fortunately at Sidoxia our long-term investors have benefited quite handsomely over the last 10 years from our half-glass-full perspective. The name Sidoxia actually is derived from the Greek word for “optimism” (aisiodoxia).

Performance has been fruitful in recent years, but the almost decade-long bull market has not been all smooth sailing (see Series of Unfortunate Events), as you can see from the undulating 10-year chart below (2008-2018). Do you remember the Flash Crash, Debt Ceiling, Greek Crisis, Arab Spring, Crimea, Ebola, Sequestration, and Taper Tantrum, among many other events? Similar to the volatility experienced in recent weeks, all these aforementioned events caused scary downdrafts as well.

The S&P 500 hit a low of 666 in March 2009, but even with the significant fall last month, the stock market has more than quadrupled in value to 2,711 today.

The compounding benefits of long-term investing are quite evident over the last decade when you consider the record profits of the stock market. Compounding benefits apply to individual stocks as well, and Sidoxia and its clients have experienced this first hand through ownership in positions in stocks like Amazon.com Inc. (+2,692% in 10 years), Apple Inc. (+1,324%), and Google (parent Alphabet) (+507%), and many other less-familiar growth companies have allowed our client portfolios and hedge fund to outperform their benchmarks over longer periods of time. Although we are proud of our long-term performance, we have definitely had periods of under performance, and there will come a time in which a more defensive stance will be required. However, panicking is very rarely the best course of action when you are talking about your long-term investment strategy. Staying the course is paramount.

During periods of heightened volatility, like we experienced in October, the importance of owning a broadly diversified portfolio across asset classes (including stocks, bonds, real estate, commodities, emerging markets, growth, value, etc.) is worth noting. Of course an asset allocation should be followed according to a risk tolerance appropriate for your unique circumstances. As financial markets and interest rates gyrate, investors should get in the practice of rebalancing portfolios. For example, at Sidoxia, we are consistently harvesting our gains and opportunistically redeploying those proceeds into unloved areas in which we see better long-term appreciation opportunities. This whole investment process is designed for reducing risk and maximizing returns.

As in some famously scary stock market periods in the past, October turned out to be another frightening month for investors. The good news is that we have seen this scary movie many times in the past, and we have lived to tell the tale. The economy remains strong, corporate profits are at record levels and still rising, consumer and business confidence levels are near all-time highs, and interest rates remain historically low despite the Fed’s gradual interest rate hiking policy. While Halloween has definitely worried many investors, history tells us that previous tricks may turn into holiday treats!

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (November 1, 2018). Subscribe on the right side of the page for the complete text.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in AAPL, AMZN, GOOGL, 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.

November 1, 2018 at 3:41 pm Leave a comment

Trade War Bark: Hold Tight or Nasty Bite?

bark

In recent weeks, President Trump has come out viciously barking about potential trade wars, not only with China, but also with other allies, including key trade collaborators in Europe, Canada, and Mexico. What does this all mean? Should you brace for a nasty financial bite in your portfolio, or should you remain calm and hold tight?

Let’s take a closer look. Recent talks of trade wars and tit-for-tat retaliations have produced mixed results for the stock market. For the month, the S&P 500 index advanced +0.5% (+1.7% year-to-date), while the Dow Jones Industrial Average modestly retreated -0.6% (-1.8% YTD). Despite trade war concerns and anxiety over a responsibly cautious Federal Reserve increasing interest rates, the economy remains strong. Not only is unemployment at an impressively low level of 3.8% (tying the lowest rate seen since 1969), but corporate profits are at record levels, thanks to a healthy economy and stimulative tax cuts. Consumers are feeling quite well regarding their financial situation too. For instance, household net worth has surpassed $100 trillion dollars, while debt ratios are declining (see chart below).

house balance

Source:  Scott Grannis

Although trade is presently top-of-mind among many investors, a lot of the fiery rhetoric emanating from Washington should come as no surprise. The president heavily campaigned on the idea of reducing uniform unfair Chinese trade policies and leveling the trade playing field. It took about a year and a half before the president actually pulled out the tariff guns. The first $50 billion tariff salvo has been launched by the Trump administration against China, and an additional $200 billion in tariffs have been threatened. So far, Trump has enacted tariffs on imported steel, aluminum, solar panels, washing machines and other Chinese imports.

It’s important to understand, we are in the very early innings of tariff implementation and trade negotiations. Therefore, the scale and potential impact from tariffs and trade wars should be placed in the proper context relative to our $20 trillion U.S. economy (annual Gross Domestic Product) and the $16 trillion in annual global trade.

Stated differently, even if the president’s proposed $50 billion in Chinese tariffs quadruples in value to $200 billion, the impact on the overall economy will be minimal – less than 1% of the total. Even if you go further and consider our country’s $375 billion trade deficit with China for physical goods (see chart below), significant reductions in the Chinese trade deficit will still not dramatically change the trajectory of economic growth.

china trade

Source: BBC 

The Tax Foundation adds support to the idea that current tariffs should have minimal influence:

“The tariffs enacted so far by the Trump administration would reduce long-run GDP by 0.06 percent ($15 billion) and wages by 0.04 percent and eliminate 48,585 full-time equivalent jobs.”

Of course, if the China trade skirmish explodes into an all-out global trade war into key regions like Europe, Mexico, Canada, and Japan, then all bets are off. Not only would inflationary pressures be a drag on the economy, but consumer and business confidence would dive and they would drastically cut back on spending and negatively pressure the economy.

Most investors, economists, and consumers recognize the significant benefits accrued from free trade in the form of lower-prices and a broadened selection. In the case of China, cheaper Chinese imports allow the American masses to buy bargain toys from Wal-Mart, big-screen televisions from Best Buy, and/or leading-edge iPhones from the Apple Store. Most reasonable people also understand these previously mentioned consumer benefits can be somewhat offset by the costs of intellectual property/trade secret theft and unfair business practices levied on current and future American businesses doing business in China.

Trump Playing Chicken

Right now, Trump is playing a game of chicken with our global trading partners, including our largest partner, China. If his threats of imposing stiffer tariffs and trade restrictions result in new and better bilateral trade agreements (see South Korean trade deal), then his tactics could prove beneficial. However, if the threat and imposition of new tariffs merely leads to retaliatory tariffs, higher prices (i.e., inflation), and no new deals, then this mutually destructive outcome will likely leave our economy worse off.

Critics of Trump’s tariff strategy point to the high profile announcement by Harley-Davidson to move manufacturing production from the United States to overseas plants. Harley made the decision because the tariffs are estimated to cost the company up to $100 million to move production overseas. As part of this strategy, Harley has also been forced to consider motorcycle price hikes of $2,200 each. On the other hand, proponents of Trump’s trade and economic policies (i.e., tariffs, reduced regulations, lower taxes) point to the recent announcement by Foxconn, China’s largest private employer. Foxconn works with technology companies like Apple, Amazon, and HP to help manufacture a wide array of products. Due to tax incentives, Foxconn is planning to build a $10 billion plant in Wisconsin that will create 13,00015,000 high-paying jobs. Wherever you stand on the political or economic philosophy spectrum, ultimately Americans will vote for the candidates and policies that benefit their personal wallets/purses. So, if retaliatory measures by foreign countries introduces inflation and slowly grinds trade to a halt, voter backlash will likely result in politicians being voted out of office due to failed trade policies.

eps jul 18

Source: Dr. Ed’s Blog

Time will tell whether the current trade policies and actions implemented by the current administration will lead to higher costs or greater benefits. Talk about China tariffs, NAFTA (North American Free Trade Agreement), TPP (Trans Pacific Partnership), and other reciprocal trade negotiations will persist, but these trading relationships are extremely complex and will take a long time to resolve. While I am explicitly against tariff policies in general, I am not an alarmist or doomsayer, at this point. Currently, the trade war bark is worse than the bite. If the situation worsens, the history of politics proves nothing is permanent. Circumstances and opinions are continually changing, which highlights why politics has a way of improving or changing policies through the power of the vote. While many news stories paint a picture of imminent, critical tariff pain, I believe it is way too early to come to that conclusion. The economy remains strong, corporate profits are at record levels (see chart above), interest rates remain low historically, and consumers overall are feeling better about their financial situation. It is by no means a certainty, but if improved trade agreements can be established with our key trading partners, fears of an undisciplined barking and biting trade dog could turn into a tame smooching puppy that loves trade.

investment-questions-border

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (July 3, 2018). Subscribe on the right side of the page for the complete text.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in AAPL, AMZN, and certain exchange traded funds (ETFs), but at the time of publishing had no direct position in WMT, HOG, HPQ, 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.

July 5, 2018 at 1:59 pm Leave a comment

Why the Masses Missed the 10-Year Bull Market

The investing masses generally are notoriously short-termed focused. Although the overall stock market notched another gain this month, stock values are still down roughly -8% from the January peak, which has caused some investor angst. Despite this nervousness, stock prices have quadrupled and the bull market has entered its 10th year after the March 2009 low (S&P 500: 666). Given this remarkable accomplishment, we can now look back and ask, “Did investors take advantage of this massive advance?” The short answer is “No.” For the most part, the fearful masses missed the decade-long, U.S. bull market. We know this dynamic to be true because data regarding stock ownership has gone down significantly, and hundreds of billions of dollars have been pulled from U.S. equity funds over the duration. For instance, Gallup, the survey and analytics company, annually polls the average percentage of Americans who own stocks and they found ownership has dropped from 62% of Americans in 2008 to 54% in 2017 (see chart below).

Much of the negativity that has dominated investor behavior over the last decade can be explained by important behavioral biases. As I describe in Controlling the Investment Lizard Brain, evolution created an almond-sized tissue in the prefrontal cortex of the brain (amygdala), which controls reasoning. Originally, the amygdala triggered the instinctual survival flight response for lizards to avoid hungry hawks and humans to flee ferocious lions. In today’s modern society, the probability of getting eaten by a lion is infinitesimal, so rather than fretting over a potential lion slaughtering, humans now worry about their finances getting eaten by financial crises, Federal Reserve interest rate hikes, and/or geopolitical risks.

Even with the spectacular +300% appreciation in stock values from early 2009, academic research can help us understand how pessimism can outweigh optimism, even in the wake of a raging bull market. Consider the important risk aversion research conducted by Nobel Prize winner Daniel Kahneman and his partner Amos Tversky (see Pleasure/Pain Principle). Their research pointed out the pain of losses can be twice as painful as the pleasure experienced through gains (see diagram below).

Given this backdrop, how can these gargantuan gains be maintained (or improved upon) when investors are continually draining money out of riskier stocks and pouring cash into more conservative bonds? (see Fund Flows Paradox). There are several major factors that can explain the colossal gains in the face of a stock investor exodus:

  • Share Buybacks: While investors might not be buying loads of stocks, corporations have purchased trillions of dollars in stocks since the financial crisis. As you can see from the chart below, the table is set for 2018 to be a record year in share buybacks ($842 billion estimate), thanks to record profits and tax legislation that is making it cheaper for corporations to bring back foreign profits abroad.

Source: Marketwatch

  • Mergers & Acquisitions (M&A): Record profits, low interest rates, and high cash levels have led to trillions of dollars in U.S. M&A activity (almost $2 trillion in 2017) – see chart below. Not all of this was funded with cash and debt, but suffice it to say, enormous amounts of equity have been removed from the stock market.

Source: IMAA Institute

  • Limited IPOs: Certainly, we have seen a few high-profile, stock deals hit the market in the form of initial public offerings (IPOs) over the last year. Some prominent IPOs over the last year, include Dropbox Inc. (DBX), Spotify Technology (SPOT), and Snap Inc. (SNAP), however this limited supply of new deals is a drop in the bucket. As you can see from the chart below, the number of IPOs is significantly below the 1999-2000 peak and the recent added supply pales in comparison to the latest supply-sucking share buybacks and acquisitions.

Source: Statista

Just as important as these supply related issues are to the stock market, demand related issues are important as well. While individual U.S. investors have been scarred by the 2008-2009 financial crisis, ultimately, over the long run, money does not care about behavioral biases. Money goes where it is treated best. Theoretically, the best treatment could be in U.S. stocks or U.S. bonds, or it could be in pork bellies or the Thai baht currency, among many other asset classes (e.g., real estate, commodities, venture capital, Bitcoin, etc.). Much like a trip to the grocery store, global money flows search for the best deals. If beef prices spike by +30% and chicken prices drop by -20%, guess what? Shoppers will now buy more chicken and less beef. Similarly, when Japanese 10-year bonds are yielding 0.04%, German 10-year bonds 0.56%, and U.K. 10-year bonds 1.42%, then U.S. 10-year Treasuries with a 2.96% yield don’t look so bad.

More importantly, as it relates to stock prices, there has been a mass divergence between the interest rate yields earned on Treasuries and the earnings yield (E/P or the inverse P/E ratio) since this 10-year bull market began (Ed Yardeni has a great chart of this Fed Valuation chart). Stocks, as they are valued today, are effectively providing double the yield of bonds (roughly a 6% yield vs 3% yield, respectively). As long as this phenomenon remains intact over the medium term, stocks could continue to significantly outperform bonds. Eventually a spike in stock prices and/or an earnings decline caused by a recession will lower the earnings yield on stocks, but until then, nervous investors will likely continue to underperform.

What the almost 10-year bull market teaches us is that our behavioral shortcomings can be a drag on performance and stock values, but the economic laws of supply and demand can play an even more significant role in the direction of the stock market. Learning how to control your lizard brain (amygdala), and understand how the pain of losses (risk aversion) can distort decision making processes can help you more clearly see how record profits (see chart below), share buybacks, M&A activity, and limited stock issuance (i.e. IPOs) will impact stock prices. Understanding these lessons will better prepare the masses in navigating through future bull and bear markets.

Source: FACTSET

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (May 1, 2018). Subscribe on the right side of the page for the complete text.

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 DBX, SPOT, SNAP, 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.

 

May 3, 2018 at 10:23 am Leave a comment

Glass Moving from Half-Empty to Half-Full

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (February 1, 2018). Subscribe on the right side of the page for the complete text.

Economic growth accelerated in 2017, the unemployment rate is sitting at a 17-year low, housing prices are up significantly, Consumer Confidence is near the highs of 2000, corporations are doing cartwheels thanks to tax cut legislation, and the stock market has recently set new records. Not a bad start to the year, eh?

Fat Wallets & Stuffed Purses

The strength of the economy, coupled with the optimism of business and consumers, has resulted in a financial boon for Americans, as shown in the chart below. Not only have financial assets and real estate gone up significantly since the 2008-2009 Financial Crisis, but household debt has also remained relatively stable. The combination of these factors have American households sitting on almost $1 trillion in household value, a new record.

Source: Calafia Beach Pundit

As we move ahead through the first month of 2018, the +5.8% gain in the Dow Jones Industrial Average, and the +5.6% advance in the S&P 500 index have further fattened wallets and stuffed the purses of equity investors. On an annual basis, the results only look even better, with the Dow up +32% and the S&P +24%. Given the sharp appreciation in value, casual observers might expect a flood of new investors to pile into stocks and equity mutual funds…not true. Actually, this buying phenomenon has yet to occur. However, it is true investor sentiment has begun shifting to a “glass half-full” perspective due to the vast number of positive economic headlines. Nevertheless, it’s important for investors to remember this pace of gains cannot be sustainable forever.

There is no theoretical limit on the number of potential market moving events. The stock market could temporarily get rattled by another North Korean nuclear test, a terrorist attack, a geopolitical standoff, an inflammatory tweet, an infinite number of other unforeseen events, or stock prices could simply go down due to profit-taking (i.e., investors sell to lock-in gains). Regardless, the economic momentum is palpable and the president did not waste any time at the recent State of the Union address to remind Americans.

Currently, there are limited signs of euphoric stock buying, but there will be a point in time, as in all economic cycles, when investment excesses will overwhelm demand and will therefore lead to a recession. Let’s not forget, an overzealous monetary policy (i.e., too many rate increases), led by a new Federal Reserve chief (Jerome Powell), is another scenario which could slam the breaks on an overheated economy.

Follow the Money

In attempting to read the tea leaves about the future direction of the stock market, we are inspired by the famous quote from the 1976 film All the President’s Men, “Follow the money.” Actions speak louder than words in our book, which is why at Sidoxia Capital Management (www.Sidoxia.com), we track the money buying and selling actions of investors. There is never a shortage of information, and the professionals at the ICI (Investment Company Institute) are kind enough to publish the Weekly Fund Flows data  (see chart below), which details the amount of dollars funneling in and out of stock and bond funds. Despite the stock market more than tripling in value, and contrary to common belief, more than -$200 billion has poured out of domestic stock funds and ETFs (Exchange Traded Funds) from 2015 through early 2018.

Source: ICI through 1-17-18

How can this counterintuitive money exodus transpire during a bull market? Quite simply, corporations have been using record piles of cash to buy trillions of dollars in stock through “stock buybacks” and “mergers & acquisitions” activity. All this corporate stock purchase activity has offset the money flowing out of funds, which has helped catapult stock prices higher. History tells us, that before this long-term bull market that started in 2009 ends, flows into U.S. stock mutual funds and ETFs will turn significantly positive after years of hemorrhaging.

Many speculators and traders waste time on a plethora of unreliable sentiment surveys and indicators (e.g., CBOE Volatility Index, AAII Sentiment Survey, Put-Call Ratio, etc), but my 25+ years of investment experience tells me the fund flows data works much better as a longer-term contrarian indicator. To put “contrarian” investing in English, famed billionaire investor, Warren Buffett, summed it up best when he said, “Be fearful when others are greedy and greedy when others are fearful.”

Sharing the Wealth

Speaking of greed, corporations have been greedy capitalists as they have watched profits surge to record levels. Yet many of these greedy corporations have decided to share some of the spoils garnered from the recent tax legislation with rank and file employees. For instance, consider the small sampling of the following large corporations that have decided to pay their employees bonuses:

Overall, even though trillions of savings remain in cash and money is still flowing out of US stock funds, the investment glass is shifting from a glass half-empty perception to a glass half-full impression. A time will come when the masses will believe the glass half-full will turn to a glass over-flowing. I don’t think anyone can predict with any certainty when that time will arrive, but I will continue doing my best to drink as much water as possible before it spills.

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in T, CMCSA, DIS, and certain exchange traded funds (ETFs), but at the time of publishing had no direct position in AAL, BAC, JBLU, LUV, USB, 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.

February 1, 2018 at 12:22 pm Leave a comment

‘Tis the Season for Giving

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (December 1, 2017). Subscribe on the right side of the page for the complete text.

Holiday season is in full swing, and that means it’s the primetime period for giving. The stock market has provided its fair share of giving to investors in the form of a +2.7% monthly return in the S&P 500 index (up +18% in 2017). For long-term investors, stocks have been the gift that keeps on giving. As we approach the 10-year anniversary of the 2008 Financial Crisis, stocks have returned +68% from the October 2007 peak and roughly +297% from the March 2009 low. If you include the contributions of dividends over the last decade, these numbers look even more charitable.

Compared to stocks, however, bonds have acted more like a stingy Ebenezer Scrooge than a generous Mother Theresa. For the year, the iShares Core Aggregate bond ETF (AGG) has returned a meager +1%, excluding dividends. Contributing to the lackluster bond results has been the Federal Reserve’s miserly monetary policy, which will soon be managed under new leadership. In fact, earlier this week, Jerome Powell began Congressional confirmation hearings as part of the process to replace the current Fed chair, Janet Yellen. As the Dow Jones Industrial Average rose for the 8th consecutive month to 24,272 (the longest winning streak for the stock index in 20 years), investors managed to take comfort in Powell’s commentary because he communicated a steady continuation of Yellen’s plan to slowly reverse stimulative policies (i.e., raise interest rate targets and bleed off assets from the Fed’s balance sheet).

Because the pace of the Federal Funds interest rate hikes have occurred glacially from unprecedented low levels (0%), the resulting change in bond prices has been relatively meager thus far in 2017. In that same deliberate vein, the Fed is meeting in just a few weeks, with the expectation of inching the Federal Funds rate higher by 0.25% to a target level of 1.5%. If confirmed, Powell plans to also chip away at the Fed’s gigantic $4.5 trillion balance sheet over time, which will slowly suck asset-supporting liquidity out of financial markets.

Economy Driving Stocks and Interest Rates Higher

Presents don’t grow on trees and stock prices also don’t generally grow without some fundamental underpinnings. With the holidays here, consumers need money to fulfill the demanding requests of gift-receiving individuals, and a healthy economy is the perfect prescription to cure consumers’ empty wallet and purse sickness.

Besides the Federal Reserve signaling strength by increasing interest rates, how do we know the economy is on firm footing? While economic growth may not be expanding at a barn-burning rate, there still are plenty of indications the economy keeps chugging along. Here are a few economic bright spots to highlight:

  • Accelerating GDP Growth: As you can see from the chart below, broad economic growth, as measured by Gross Domestic Product (GDP), accelerated to a very respectable +3.3% growth rate during the third quarter of 2017 (the fastest percentage gain in three years). These GDP calculations are notoriously volatile figures, nevertheless, the recent results are encouraging, especially considering these third quarter statistics include the dampening effects of Hurricane Harvey and Irma.

Source: Bloomberg

  • Recovering Housing Market: The housing market may not have rebounded as quickly and sharply as the U.S. stock market since the Financial Crisis, but as the chart below shows, new home sales have been on a steady climb since 2011. What’s more, a historically low level of housing inventory should support the continued growth in home prices and home sales for the foreseeable future. The confidence instilled from rising home equity values should also further encourage consumers’ cash and credit card spending habits.

Source: Calculated Risk

  • Healthy Employment Gains: Growth in the U.S. coupled with global synchronous economic expansion in Europe, Asia, and South America have given rise to stronger corporate profits and increased job hiring. The graph highlighted below confirms the 4.1% unemployment rate is the lowest in 17 years, and puts the current rate more than 50% below the last peak of 10.0% hit in 2009.

Source: Calculated Risk

Turbo Tax Time

Adding fuel to the confidence fire is the prospect of the president signing the TCJA (Tax Cuts and Jobs Act). At the time this article went to press, Congress was still feverishly attempting to vote on the most significant tax-code changes since 1986. Republicans by-and-large all want tax reform and tax cut legislation, but the party’s narrow majority in the House and Senate leaves little wiggle room for disagreement. Whether compromises can be met in the coming days/weeks will determine whether a surprise holiday package will be delivered this year or postponed by the Grinch.

Unresolved components of the tax legislation include, the feasibility of cutting the corporate tax rate from 35% to 20%; the deductibility of state and local income taxes (SALT); the potential implementation of a tax cut limit “trigger”, if forecasted economic growth is not achieved; the potential repeal of the estate tax (a.k.a., “death tax”); mortgage interest deductibility; potential repeal of the Obamacare individual mandate; the palatability of legislation expanding deficits by $1 trillion+; debates over the distribution of tax cuts across various taxpayer income brackets; and other exciting proposals that will heighten accountants’ job security, if the TCJA is instituted.

Bitcoin Bubble?

If you have recently spent any time at the watercooler or at a cocktail party, you probably have not been able to escape the question of whether the digital blockchain currency, Bitcoin, is an opportunity of a lifetime or a vehicle to crush your financial dreams to pieces (see Bitcoin primer).

Let’s start with the facts: Bitcoin’s value traded below $1,000 at the beginning of this year and hit $11,000 this week before settling around $10,000 at month’s end (see chart below). In addition, blogger Josh Brown points out the scary reality that “Bitcoin has already crashed by -80% on five separate occasions over the last few years.” Suffice it to say, transacting in a currency that repeatedly loses 80% of its value can pose some challenges.

Source: CoinMarketCap.com  

Bubbles are not a new phenomenon. Not only have I lived through numerous bubbles, but I have also written on the topic (see also Sleeping and Napping through Bubbles). I find the Dutch Tulip Bulb Mania that lasted from 1634 – 1637 to be the most fascinating financial bubble of all (see chart below). At the peak of the euphoria, individual Dutch tulip bulbs were selling for the same prices as homes ($61,700 on an inflation-adjusted basis), and one historical account states 12 acres of land were offered for a single tulip bulb.

Forecasting the next peak of any speculative bubble is a fool’s errand in my mind, so I choose to sit on the sidelines instead. While I may be highly skeptical of the ethereal value placed on Bitcoin and other speculative markets (i.e. ICOs – Initial Coin Offerings), I fully accept the benefits of the digital blockchain payment technology and also acknowledge Bitcoin’s value could more than double from here. However, without any tangible or intellectual process of valuing the asset, history may eventually place Bitcoin in the same garbage heap as the 1630 tulips.

For some of you out there, if you are anything like me, your digestion system is still recovering from the massive quantities of food consumed over the Thanksgiving holiday. However, when it comes to your personal finances, digesting record-breaking stock performance, shifting Federal Reserve monetary policy, tax legislation, and volatile digital currencies can cause just as much heartburn. In the spirit of “giving”, if you are having difficulty in chewing through all the cryptic economic and political noise, “give” yourself a break by contacting an experienced, independent, professional advisor. That’s definitely a gift you deserve!

www.Sidoxia.com

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.

December 2, 2017 at 6:30 am Leave a comment

Hurricane & Political Surprises as Dow Rises

hurricane

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (September 1, 2017). Subscribe on the right side of the page for the complete text.

It was a tumultuous month politically, economically, and meteorologically. The devastating destruction left in the wake of Hurricane Harvey’s 130 mile per hour winds and 50+ inches of rain displaced more than 30,000 people in Texas, destroyed upwards of 40,000 homes, and created estimated damages of $190 billion, making this storm the costliest hurricane in history (see table below).

hurricane cost

But Hurricane Harvey wasn’t the only destructive force wreaking havoc on Americans. There were numerous geopolitical storms raining down over the newswires as well, including the following:

North Korea Nuclear Standoff: The war of words between North Korean dictator Kim Jong Un and President Trump intensified significantly. When leader Kim Jong Un threatened to launch missiles at the U.S. mainland and Guam, President Trump responded by warning that North Korea would face “fire and fury,” if the U.S. is provoked and promised our military was “locked and loaded.” Defense Secretary Jim Mattis backed the president by cautioning North Korea it would be “game on,” if North Korean missiles were fired against U.S. territories. Tensions were raised after a provocative North Korean ballistic missile test aimed at the U.S. was launched over Japan into the Pacific Ocean.

Racial Strains in Charlottesville: A demonstration in Charlottesville, Virgina, protesting the removal of a Confederate statue of General Robert E. Lee, led to the death of protester Heather Heyer by a neo-Nazi participant (Ku Klux Klan and white nationalists were also participants in the protest). After many journalists criticized President Trump for a lukewarm response, his top economic adviser Gary Cohn stirred the political pot by saying, “I believe this administration can and must do better in consistently and unequivocally condemning these groups and do everything we can to heal the deep divisions that exist in our communities.” Attorney General Jeff Sessions called the incident “domestic terrorism.”

White House Shuffle: After strained relations with President Trump, White House Chief Strategist Steve Bannon became the latest staff departure.  The other high profile firings / resignations include White House Communicator Director Anthony Scaramucci, White House Chief of Staff Reince Priebus, Press Secretary Sean Spicer, FBI Director James Comey, and National Security Advisor Michael Flynn.

Looming Government Shutdown: Will Congress agree on an increase in the $20 trillion debt ceiling, or will ideological factions within Congress sabotage an agreement that would prevent the government’s lights from shutting off and our country from defaulting on its debt obligations? The answer to this crucial question needs to be resolved by the end of this month. By chance, political lemonade could be made from natural disaster lemons. Due to the critical need for Hurricane Harvey disaster relief funding, Congress could be pressured into accelerating the signing of a combined legislative package that joins time-sensitive disaster relief funding with a resolution to the debt ceiling. If this wasn’t enough responsibility, Congress must also reauthorize the federal government’s flood insurance program, and reauthorize the Children’s Health Insurance Program (CHIP).

Terrorist Attack in Barcelona: A van plowed into pedestrians in the popular Las Ramblas tourist area in the center of Barcelona, Spain, killing at least 14 people and injuring more than 130. The ISIS terror group claimed credit for the attack and the police believe all 12 members of the terror cell are in custody or dead.

The Great Tax Hope: A cornerstone to the Trump administration’s economic agenda has been the promise of tax reform and tax relief to stimulate economic GDP (Gross Domestic Product) growth above 3%. Treasury Secretary Steve Mnuchin originally hoped to spearhead new legislation by the end of August, but now is hopeful a tax bill will reach the President’s desk for signing by the end of the year. Although details of the tax plan have been scarce, key components endorsed by many Republicans include, a simplification of the tax code that has not been overhauled since 1986; a reduction in corporate tax rates from 35% to 15%; repatriation of domestic profits trapped in overseas markets; and the abolishment of the estate tax. Time will tell what compromises and/or concessions will need to be made, if tax reform will succeed in achieving a different fate than healthcare reform.

Despite this storm of massively depressing news, all three major stock indexes (Dow Jones Industrial Average, S&P 500, & NASDAQ), once again, all notched gains for the month to new record highs. With the Dow now at a level of 21,948, the index is up a healthy +11% for 2017 with still a third of the year left. In what could turn out to be the worst-ever U.S. natural disaster and gloomy political headlines, how can stock prices keep going up? The short answer, as I have written continuously, stocks care about more important factors than politics and localized one-time disasters. Here are some of the factors the stock market does care about:

Rising Profits: 

On a day-to-day, week-to-week basis, stock prices can be extremely volatile. However, over the long-run, stock prices generally follow the direction of corporate profits. With profits at record levels (see chart below), and showing continued growth, observers should not be surprised by persistent price appreciation.

corp prof

Source: Calafia Beach Pundit

Near Record-Low Interest Rates:

In an environment where interest rates are near 75-year lows, and you are earning next to 0% on your bank savings, it’s no wonder that many shrewd investors have successfully flocked to stocks. This is not 1981, when you could earn upwards of 15% on a bank CD (stocks were much less desirable). As long as interest rates remain low, with healthy profits, stocks will remain attractive.

10y

Source: Trading Economics

Consumer Confidence Builds:

In spite of messy geopolitics and Washington gridlock, consumers are beginning to become desensitized to all the pessimistic noise. Two-thirds of our economy is driven by consumer spending, and with rising confidence (see chart below), this augurs well for the economy, corporate profits, and the stock market.

consumer confidence

Source: Bespoke

Strong Jobs – Low Unemployment:

Confidence is great, but you need to make money before you can spend it. And in order to make money, most people need a job. The good news is unemployment is at extremely low levels. In fact, as you can see from the chart below, unemployment claims are at the lowest levels since 1973. The unemployment rate of 4.3% also impressively dipped to a 16-year low. More discretionary income has also led to a sustainable recovery in the housing market, despite the low inventory of homes.

weekly unemploy

Source: Calculated Risk

Synchronized Global Recovery:

Not many people realize it, but the economic size (GDP) of the Eurozone is a larger combined economy than the U.S. The chart below serves as a general proxy for our respective economies. What you can see is that since the 2008-2009 financial crisis, Europe (red line) has for the most part lagged the U.S. (blue line), but in recent quarters, Europe has caught up with us. Seeing the manufacturing indices above the 50% level is a good sign, because it signals expansion. If you were to examine other larger developed economies (like China and Japan), you would also notice economic growth has been picking up or holding steady at strong levels. Together, these economic data points mean we are currently experiencing a synchronized global recovery, which is positive for stock prices.

manufacturing index

Source: Calafia Beach Pundit

Overall, while the newswires are buzzing with stories of political and natural hurricanes, there have been an abundance of positive factors that have pushed stock values to new record highs. The media loves politics, doom, and gloom, but your investments care more about profits, interest rates and the economy. Do yourself a favor and do not get emotionally involved in the panic headlines du jour. Instead, focus on the big picture and the many other opportunities for investment growth and preservation, otherwise your personal finances may turn into a scary natural disaster.

investment-questions-border

www.Sidoxia.com

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

September 1, 2017 at 1:59 pm Leave a comment

Keeping the Economy Afloat

There have been plenty of concerns about rising interest rates, flattening yield curves, and potential recessions, but we all know that consumer spending accounts for roughly two-thirds of our country’s economy. Well, I certainly met my personal economic duty this summer by putting my consumer spending responsibilities to work. Not only did my family vacation involve approximately 5,700 miles of cross-country flying, but also 1,400 miles of driving all over the East Coast. By placing my credit card charging limits to the test on hotels, Airbnb, restaurants, gasoline, and overpriced tourist activities, I may have single-handedly kept the economy afloat for the rest of 2017.

Here’s a synopsis of the Slome family adventure and my spending spree binge.

Bon Jour Montreal!

View of the city from Mount Royal.

Montréal is the cultural, French-speaking crown jewel of Canada. Unbeknownst to me, the largest city in Canada’s province of Québec is actually a floating island on the Saint Lawrence River. The city name, Montreal, is actually derived from the prominent and picturesque hill at the heart of the city, Mount Royal.

Port of Montreal – Cirque de Soleil tents in the background.

Finger Lakes Fun

Ithaca, New York is located at the base of the Finger Lakes (Cayuga Lake) in upstate New York. With a population of around 30,000, this college town is home to my business school alma mater (Cornell University), which was founded in 1865 and home to a total of more than 20,000 students.

 

Taughannock Falls, which is Native American for “great fall in the woods,” is a 215-foot waterfall making it the highest single-drop waterfall east of the Rocky Mountains.

 

My drone shot of Cayuga Lake and a small portion of the Cornell University campus.

Niagara Falls

We chose to check out the 176-foot Niagara Falls from the Canadian side of the U.S.-Canada border. About 34 million gallons per minute flows during the summer time, and our drenched extremities were proof positive of this fact.

 

Panoramic view of Niagara Falls from Journey Behind the Falls.

 

View of Horseshoe Falls from 520 feet in the air while on the rotating restaurant in the Skylon Tower.

Rockin’ It in Cleveland

Cleveland is the second-largest city in Ohio, located on Lake Eerie. Even though the Cleveland Cavaliers may have lost in the NBA Finals to the Golden State Warriors, the city still rocks. The “Forest City” is home to the famous Rock and Roll Hall of Fame designed by renowned architect I. M. Pei and the well-known West Side Market.

The iconic pyramid-shaped Rock and Roll Hall of Fame located on the beautiful Lake Eerie waterfront.

 

It’s a little known fact that Cleveland is home to the original Christmas Story movie house. The movie was set in the early-1940s but released in 1983. Nostalgic items such as the infamous leg lamp, Red Ryder Carbine Action 200-shot Range Model BB gun, and photos of Ralphie can be found in the adjacent museum.

Slomes Seize Steel City

We discovered the vibrant city of Pittsburgh, also known as the “Steel City” and “City of Bridges” (446 bridges), at the intersection of the Allegheny, Monongahela, and Ohio Rivers “Three Rivers”. This sports-driven city is home to the World Champion Penguins (hockey), Steelers (football), and Pirates (baseball) professional teams. My dad grew up here and attended the University of Pittsburgh (“Pitt”) for both his undergraduate and medical school degrees. The rolling hills landscape provides some breathtaking views of the city, especially from Mount Washington.

 

Downtown Pittsburgh from Mount Washington.

 

The 42-story Gothic Cathedral of Learning located at the center of the Pitt campus – the second tallest university building in the world.

Gettysburg – Civil War Galore

As we began our eastward trek, Gettysburg, Pennsylvania offered a beneficial dual purpose in providing both a valuable history lesson and also a pit-stop on the way to our next vacation location. It was dumb luck rather than strategic planning that landed us at Gettysburg on the 154th anniversary of the greatest but bloodiest Civil War battle in July 1863 (half way through the Civil War 1861 – 1865). The United States of America may have looked a lot different if the 75,000 Confederate troops led by General Robert E. Lee would have defeated the 97,000 Union troops commanded by General George Meade. However, when all was said and done, the anti-slavery Union troops defeated the Confederates over a three-day battle, which resulted in more than 6,000 deaths and greater than 50,000 casualties. President Abraham Lincoln honored the fallen Union soldiers in his famous two-minute Gettysburg address four months after the battle (November 1963). In the speech, Lincoln provided an important historical context of the battle, which ultimately turned the tide of the Civil War in the Union’s favor as they fought for human equality.

A view from the Gettysburg battlefield on the 154thanniversary of the famous Confederate-Union clash.

 

Looking for enlightenment as I sit next to Abe outside the Gettysburg Museum.

Wade Watches Washington

Stopping at the nation’s capital was a logical progression, as we continued our East Coast adventure. Whether you are a political junky or not, it’s difficult to not get sucked into the grandeur of this majestic city of roughly one million (including commuters) on the Potomac River. The District of Columbia borders the states of Virginia and Maryland and is named after President George Washington, a man who shares the same birthday with me. Between the memorials, monuments, museums, entertainment options, and restaurants, there is no shortage of activities to choose from in this spectacular city.

The Lincoln Memorial had new meaning after our Gettysburg visit.

 

We stopped to say hello to President Trump, then the president and I both decided to send out a tweet.

Beach Blast

Completing our journey at Virginia Beach was no accident. All of our speed vacationing required a little R&R, and turned out to be a blast in more than one way. Not only did we enjoy soaking in the miles of beaches and hundreds of hotels and restaurants along the oceanfront, but we also appreciated the 4th of July fireworks blasting right outside our beach resort.

Nice view outside our oceanfront room.

 

A little relaxing cruise time down the strand.

Like any vacation, the 2017 summer family adventure eventually came to an end. No matter what I believe or say, the debate about the timing of the next recession and/or bear market will rage on for eternity. But the fact remains, despite an unemployment rate of 4.4% near cyclically low levels, there is still a record high of six million job openings available, which means there is still plenty of slack in the economy to sustain economic expansion. Although I will continue to save and strive to maintain positive investment performance figures, I will also do my best to keep the economy afloat with my consumer spending and travel binging habits.

P.S. If you spend more time vacation planning than investment planning, give us a call…we can help!

www.Sidoxia.com

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, SCM 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 the information to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

 

 

July 9, 2017 at 12:19 am 3 comments

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