Published April 7, 2017

Amid the longest bull market rally since 1928, there has been much concern about risk and how far the rally can go. The slow, grinding increase has been universally doubted by investors, and yet the rally has continued with occasional pauses and setbacks. Should investors stay in the market and experience the inevitable pullback, or get out and miss the rally?

Another possibility is that the market could pause and let the fundamentals catch up. Currently, the market’s price-earnings (P/E) ratio is about 22 times earnings versus its five-year average of 18.2. Such a lofty P/E points to a correction, but if earnings were to increase, the P/E would go down. Earnings can increase if the economy is strong and profits rise. Right now, optimism prevails.

However, there is a sharp divide among Democrats and Republicans in outlook. A recent survey by the University of Michigan showed that respondents who identified as Democrat expect an imminent recession, a higher unemployment rate, lower income gains and faster inflation. Conversely, Republicans expect strong growth in incomes and job prospects, coupled with lower inflation.

Another catalyst for a market updraft would be a tax cut, and that possibility is being discussed. Tax cuts would have a strong impact on earnings, which in turn would reduce the P/E ratio of stocks. But optimism about a tax cut got a sharp knock recently when President Trump’s move to repeal Obamacare failed to pass in the Republican-controlled U.S. House of Representatives, casting doubt on his ability to implement his overall agenda. So, with the stock market rally long in the tooth, the setback caused the market to pause.

A pause can be healthy […]

Published March 13, 2017

That question in the headline is one that I have been receiving from clients lately. From what I read and see, the stock market’s future is on a lot of people’s minds, and with good reason.

First of all, the market has a history of crashing from time to time – often without warning, like the time Alan Greenspan 72 days into his term as Federal Reserve chairman unexpectedly raised interest rates by a quarter point in October 1987. The market dropped 22.6 percent in one day and dropped more in ensuing trading sessions. The dot-com bubble and the 2007-08 crash are other examples. These events have seared investors’ minds, and so they are wary, as they should be. In a series of slow-grinding moves, this market recovery has gone on for the second-longest time since 1928. Investors begin to wonder if it will continue. Should you be in the market as it climbs to new highs, or drop out of the market in anticipation of a drop? To be in the wrong place at the wrong time can be expensive.

Let’s look at what we know. The long-term trajectory of the stock market is up and to the right on a graph. On an annual basis, the market rises about 75 percent of the time. An investor is betting on the long-term growth of the U.S. economy, which is almost a given, and an investor’s stock selection is a bet on good management, which, while not a given, is more common than not. Those crashes we talked about barely show up on any long-term chart.

The market has been rising for a long time and […]

Published February 10, 2017

Way back in what now seems like the dark ages, the world experienced a financial crisis. The crisis slammed every portion of the globe, and it persisted. From governments down to the bottom of the socioeconomic structure, both assets and jobs were lost. At about this same time, the Middle East was imploding in revolution. These two events would coalesce at a later date in worldwide turmoil.

The recovery from the economic crisis was slow and uneven. Many people who lost their jobs remained unemployed. The percentage of the workforce actually working stayed low. People at the upper end of the economic spectrum found that their assets recovered, as the Federal Reserve kept interest rates low by historical standards and kept them low for a long time. People out of work noticed the disparity. Those with good jobs and their own homes did not notice so much.

As the Middle East disintegrated, with country after country attempting to throw off repressive dictatorships, vast numbers of refugees were created. Many of these refugees sought new lives in countries with stable governments in Europe and elsewhere. Some countries said they would accept displaced people in a humanitarian gesture, but the numbers of refugees were overwhelming. Europe built walls and obstructions to keep the refugees out, because with high unemployment, it did not have much to offer in the form of jobs or opportunity.

Internally, Europe was forced to reinstitute border controls, which had been abandoned with the adoption of the European Union. This was very expensive to people and to commerce. The controls threatened the breakup of the EU. The U.S. pledged to take refugees, but with a […]

Published January 9, 2017

The year 2016 started poorly, with the market dropping more in January than any other time in history. The equity market struggled throughout the year, continuing a trend which saw the S&P gain 1.9 percent from the end of 2014 through the first half of 2016. The California Public Employees Retirement System, the largest public pension fund in the U.S., with all its access to the best investment advisors, gained only 0.06 percent for the trailing 12 months ending June 30, 2016.

It’s no wonder that investors were unhappy with returns. They flocked to low-cost index funds in the belief they were better off, as low interest rates and no-growth policies sucked the gains out of the markets. Once interest rates start to rise and earnings return to the markets, stock pickers will regain the upper hand.

Fixed-income markets, coming off a 35-year bull market, saw massive drops after the election and two trillion dollars in market value in bonds was lost. So much for “low risk” fixed-income investments. Despite the poor performance of the equity markets, they were still the best place to be.

Everything appeared to change with the presidential election. With the Republicans retaining the House and Senate and claiming the White House, a pro-business outlook appeared to be winning the day. Visions of tax reform, fewer regulations and a business-friendly environment filled boardrooms and small businesses across the country. The market jumped nearly 7 percent by the end of the year.

It also helped that the Federal Reserve raised interest rates by a quarter-point and hinted at more rate increases in 2017. Corporate earnings in the third quarter had jumped 3.1 percent from […]

Published December 12, 2016

November began with the impending U.S. election pitting Hillary Clinton against Donald Trump. Clinton was the odds-on favorite and the favorite of the market too. Investors had largely made their bets on a Clinton win. When Trump pulled the upset of the century, investors had to quickly redirect their investments. Equity investors switched from a risk-off scenario to a risk-on scenario.

As President-elect Trump gave a speech outlining his plans, the bond market had a heart attack. Two trillion dollars were wiped out within days. The Financial Times called it the worst bond rout since 1990. Interest rates jumped over 50 basis points within days – an astonishing move for a bond market, culminating in a move of almost 100 basis points since Sept. 1.

Additionally, the Federal Reserve had been signaling a rate hike of 25 basis points, with the futures market suggesting that the increase was more probable than not. Immediately after the Trump talk, the futures market’s certainty of a rate hike rose to 100 percent. The market did the Fed’s work for the Fed. Indeed, with the increase in interest rates of nearly 100 basis points, the Fed could easily raise rates 50 basis points, and probably will in the near term.

Investors picked winners and losers from a Trump presidency that sometime brought surprises. For instance, a conservative stock like Constellation Brands, a purveyor of Mexican beer, dropped nearly 20 percent in a flash because of Trump’s threatened tariffs on Mexican imports. Tech share values dropped and have continued to decline, because Trump is a perceived threat to international trade. What was conservative became risky and what was growth (tech is […]

Published November 14, 2016

In echoes of Brexit, Donald Trump rode a wave of dissatisfaction to win the Presidency of the U.S. His campaign was directed to white working class voters, formerly reliable Democratic voters. With the U.S. economy growing at a very slow pace, workers have not had a real pay raise in years. Many workers felt left out of the economy while the “elite” class prospered. Trump dispensed a bromide of nationalism and xenophobia which carried him to victory. It was the same message that worked in the Brexit vote to the surprise of pollsters and the ruling class. Although Trump had trouble staying on message, he eventually got his message across to unhappy voters who were willing to accept his approach.

The campaign was unorthodox, but that had an appeal to voters who saw themselves as left out. Voters wanted unorthodox solutions. The campaign was devoid of plans to solve the problems of the country and quickly descended into name calling. It stayed there for 18 months. Voters were fed up with the campaign. The country became deeply divided. Trump told a dark message. He portrayed himself as the only one that could make things better. The disaffected were receptive.  At the end of the day voters did not vote for a candidate, but against the other candidate.

The immediate reaction to his impending win was a huge drop in the market averages. At one point in pre-dawn trading the Dow futures were down 900 points.  Circuit breakers were triggered which required a time out. When the time out expired, the averages began a recovery.   The dollar dropped in value, as did most other currencies, especially […]

Published October 10, 2016
As we head into the fourth quarter of this year, the outlook is decidedly mixed. European bank worries, the Federal Reserve and interest rates, elections and corporate profits all weigh on the economy. After a long period of negative interest rates, the European economy is softening and its banks are struggling. The negative rates have hurt those most intended to benefit. Bank profits have fallen, interest yields have collapsed and European economies have suffered.

The most notable bank to suffer is Deutsche Bank, with over 100,000 employees and 1.6 trillion euros in assets. Long a bulwark of the German economy and itself a large investor in German companies, Deutsche Bank has seen its market capitalization plummet. Other banks have declined to do business with Deutsche Bank, and hedge fund managers are shorting the stock. Market value has dropped dramatically. Nor is Deutsche Bank alone: Commerzbank, Germany’s number two bank, is laying off 10,000 workers, Greek banks have become penny stocks and Monte De Peschi, the oldest bank in the world, is barely surviving.

It is not just that Deutsche Bank is struggling, but that it represents great systemic risk – perhaps the biggest financial risk in the world right now, according to Christine Lagarde, head of the International Monetary Fund. The implications of a failure of Deutsche Bank extend throughout the world. In addition to Deutsche Bank’s internal problems, the U.S. Department of Justice has threatened to fine the bank $14.5 billion. I lived and worked in Germany for many years; my office was there when I was CEO of Dresdner Bank’s international Asset Management Company and again when I did the restructuring of Metallgesellschaft. […]

Published September 12, 2016

Each week Fed leaders take to the luncheon circuit to speak in favor of higher interest rates. Each time they seem ready to raise rates something gets in the way. If it is not China, it is Brexit, or it is employment data. The one time the Fed did raise rates, the market corrected sharply.

Ever determined, the Fed speakers are again calling for rate increases. After Chairwoman Janet Yellen opened the door just a crack at the Jackson Hole economic conference, it seemed very likely that the Fed would raise rates in September. This contrasts with previous Fed expectations not to raise rates before December and maybe not at all this year. But a subpar jobs report showing hiring of 151,000 workers in August stunned the markets, again reflecting the weak economy. With 24,000 fewer jobs than expected, the jobless rate held steady at 4.9 percent.

The labor participation rate remained at a meager 62 percent. The report is likely to keep the Federal Reserve on hold when it meets on Sept. 21.

Furthermore, the Institute for Supply Management Non-Manufacturing Business Activity Index showed a surprise massive slowdown in growth in August, raising new warnings about the economy. This servicesector index represents a large portion of the economy. Coming on the heels of the recent decline in the manufacturing index, these gauges represent a twin blow. Expectations of a rate increase in the futures markets showed a sharp drop, with expectation of a September rate increase dropping to 13 percent.

There is a strong case for raising rates. Except for the single raise in December 2015, rates have been extremely low for many years. These low […]

Published August 8, 2016

The gross domestic product numbers just posted show U.S economic growth at 1.2 percent for the second quarter of 2016, and when added to the numbers for the first quarter, they show anemic 0.9 percent growth for the year to date. Economists had expected 2.6 percent growth after seven years of slow to no growth; the U.S. now exhibits more of the same.

The U.S. economy has grown at a 2.1 percent annual rate since the recovery began in 2009. The current expansion remains smaller than the one during Richard Nixon’s administration, and that expansion lasted a mere three years. Even Janet Yellen, the Federal Reserve’s chairwoman, sees slow long-term growth.

During this “recovery,” 3.1 million more people fell into poverty, and the percentage of Americans in poverty climbed from 14.3 percent to 14.8 percent.

Sixty percent of households saw their income shrink between 2009 and 2014, while the bottom 20 percent saw their incomes decline by 8 percent over that time.

More people are on food stamps. According to the U.S. Department of Agriculture, 8.7 million more people were on food stamps in April than when the recovery started.

The number of people who dropped out of the workforce climbed 14 million. There is less optimism. The IBD/TIPP Economic Optimism Index was 45 in July; anything below 50 represents pessimism.

With these numbers, it is no wonder that so-called “establishment” candidates are rejected and candidates of “change” surged during the presidential primaries. With pessimism so strong, Donald Trump mines discontent with his dark campaign. Hillary Clinton counters with an optimistic message. It is not clear at this time which message the voters will like better. Despite all this […]

Published July 11, 2016
Voters in the United Kingdom awoke with a bad hangover recently. They were dazed and angry, but mostly confused. The nation had just voted to leave the European Union. Millions of people signed a petition in protest. The opinion polls had said that after 43 years, Britain would vote to remain in the European Union. The markets were positioned for a vote to remain. But by a razor-thin margin, the voters said to leave. Some votes in favor of leaving may have been in protest, not expecting them to contribute to such a result. But there it was, for better or worse: Leave!

In rapid order, the prime minister offered his resignation to take effect in October, with an election to find a new leader. The person thought most likely to succeed was Boris Johnson, former Lord Mayor of London and a proponent of Britain leaving. But Johnson dropped out of the race when one of his best friends and supporters, Michael Grove, filed for the office. That prompted one member of Parliament to say that there had to be a special place in hell for Grove.

Johnson consulted other members of Parliament and decided he was not the one to lead the exit negotiations that were necessary because of the vote. So now, in one of the most difficult times in British economic history, Britain was leaderless. Johnson, it appeared, made no plans for a leave win, because he did not really believe Brexit would succeed.

European ministers made immediate demands for Britain to leave the EU, posthaste. Like a scorned lover, they want Britain out of the house. France especially wants Britain out, because […]