Drama Meets Composure
October 10, 2018
The national drama playing out before the midterm elections contrasts sharply with a stock market that has every reason to fade but remains stuck in a pattern of composure, otherwise described as slower growth for longer. This may be due to the construct that equity valuations remain near their historic averages. To illustrate, on a price-to-earnings basis, stocks are cheaper now than they were at the beginning of 2018. This is what happens when significant advances in corporate earnings are not met with significantly higher prices.
Nevertheless, price-to-earnings multiples tend to continue to expand throughout a recovery period, causing analysts to predict a continuation of price-to-earnings multiple expansion in 2019. Therefore, the strategy team at Credit Suisse has now increased the year-end 2019 price target for the Standard and Poor’s (S&P) 500, from 3,000 to 3,350.
At the time of this writing, from a technical analysis perspective, of the 91 industry groups tracked by Market Edge, only 16 are rated strong, 41 are weak, 12 are improving, 22 are deteriorating, 5 have been downgraded and 0 are upgraded. Consider this oversold posturing good news as the market is exceptionally oversold and may remain so for another week or so. Technically, therefore as we approach earnings season and November, this market should rebound.
Value Stocks May Yet Have Their Day
During the third quarter, growth stocks far outperformed value stocks, with large-capitalization stocks outperforming smaller-capitalization stocks and U.S. stocks generally outperforming non-U.S. stocks. Through the early going of this final quarter of 2018, value stocks are outperforming growth stocks, with larger companies continuing to outperform smaller ones.
The expectation that the Federal Reserve may finalize interest rate hikes within the next 2-3 quarters to maximize employment and stabilize prices through moderate inflation is causing some investors to think about an investment landscape in which the dollar and interest rates have peaked, the size of the national debt is a concern, growth in GDP has moderated, and tax perks have ended. Such a scenario would appear to favor gold, emerging-markets equities, utilities, longer-term bonds, and financial and consumer large-capitalization stocks. This quarter we have begun to see an improvement in emerging-markets equities and gold, but it’s still very early in the quarter.
Attached to this commentary you’ll find a lengthy Credit Suisse Equity Strategy Report entitled “S&P 500 to 3,350.” The report is comprised of numerous charts and commentaries through its 80 pages of data. If you want the condensed version, skip to page 80. It summarizes the current and proposed sectors which are predicted to outperform the market over the next 16 months. You’ll be able to track our use of this research as we buy and sell positions to participate in the best-performing sectors while using alternative positions to mitigate downside risk in the face of a growing number of negative market indicators. The negative indicators are a weakening residential housing sector along with signals of the possibility of an inverted yield curve, a signal a recession may be forthcoming. As a reminder, the yield curve is basically the difference between interest rates on short-term United States government bonds, for example, two-year Treasury notes, and long-term government bonds, like ten-year Treasury notes.
As scary as references to the financial crisis sound, flattening growth alone does not mean that the United States is destined to slip into another recession soon. Currently, the gap between two-year and ten-year United States Treasury notes is roughly 0.34 percentage points. The gap was last at these levels in 2007, a pre-inverted yield curve period without the benefit of an accommodative Federal Reserve. So, while every recession of the past 60 years has been preceded by an inverted yield curve, an important caveat to the predictive power of the yield curve is that it can’t predict precisely when a recession will begin. Past recessions have come as quickly as six months, or as long as two years after the yield curve inverts, according to the San Francisco Fed’s research note.
For this reason, your portfolio is being managed for this unique climate. I can describe this climate as a combination of bond-market meltdown (due to higher rates), underperformance relative to the S&P 500 which is fully invested in stocks 100% of the time, a higher-than-normal cash position transitioning into gold, and the use of alternative investments such as ETFs, to moderate late-stage volatility. All of this is strategically placed to reduce the downside risk associated with a 10-year-old cycle.
Thank you for your continued support, trust and referral base for continued growth. As always, if you have questions feel free to call or email myself or Robert as we are ever vigilant, every trading day.
Your maximized growth and maintenance of capital preservation are central to what we do daily.
Credit Suisse Equity Strategy Navigator, September 4, 2018
New York Times Business Day, What’s the Yield Curve?, 06/25/2018
Investors should be aware that there are risks inherent in all investments such as fluctuations in investment principal. Past performance is not a guarantee of future results. Asset allocation cannot assure a profit nor protect against loss. Although the information has been gathered from sources believed to be reliable, it cannot be guaranteed. Views expressed in this newsletter may not reflect the views of Bolton Global Capital or Bolton Global Asset Management. The information provided her is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. VW1/VWA0230.