Quarterly Investment Commentary July, 2017Submitted by Harvest Asset Group, LLC. on August 17th, 2017
The second quarter of 2017 was characterized by strong, but shifting, market performance in a backdrop of continued moderate but steady economic growth.
The economic recovery, which began following the great recession eight years ago, has continued to follow its long term projected growth rate of about 2%. This is not as rapid as past recoveries, but is considered sound by many economists given fundamental drivers such as demographics and labor force participation in the economy. This growth, coupled with accommodative Fed policies (to keep access to capital inexpensive), has been supportive of corporate earnings growth.
U.S. corporate earnings, which ultimately drive the value of stocks, have been strong and stock appreciation has been the result. Whether or not stock prices continue to rise will be largely driven by earnings growth going forward.
The current bull market is aging, and the run up has lasted longer than many investors ever expected. However, bull markets don’t simply die of old age. Market corrections (meaning a drop of 10% or more from a recent high) can be driven by a number of factors such as: 1) changing economic conditions, 2) geopolitical events or government policy changes, and 3) irrational investor behavior that drives prices beyond their reasonable intrinsic value.
Trying to predict these factors and continually responding to them does not necessarily lend itself to the best outcomes from an investment success or psychological standpoint. Regardless of the conditions which may emerge, we advocate a long term strategic approach to investing.
Today’s Economic Perspective
The slow, steady, economic recovery which got underway in 2009 has continued without much change. The U.S. index of leading economic indicators report dated June 22, 2017 suggests the economy is likely to remain on, or perhaps moderately above, its long-term trend of about 2% growth for the remainder of the year.
There are some big picture shifts underway in the economy in terms of the labor force and consumer spending which are fueling some myths that should be clarified. Many believe the United States isn’t producing good jobs. By “good jobs,” it is likely that the media reports of late are referring to manufacturing jobs. In 1950, 37% of jobs were in manufacturing. Today that figure is 10%. Some manufacturing jobs have been replaced by lower paying jobs in leisure and hospitality; but many more have been replaced by higher paying jobs in education, health services, and professional business services.
The biggest driver of the U.S. gross domestic product (GDP) is consumer spending, which accounts for about 70%. Today U.S. families have more means to spend as they are earning more, have grown their net worth with better savings rates, and have improved credit scores by reducing household financial obligations.
In the consumer spending arena a common myth today is that retail is dying. This assertion is based on traditional brick and mortar retailing. Again, we are witnessing a shift which has led many to this conclusion. Many traditional retailers (department stores, book and music stores, electronics, etc.) have lost sales to non-store retailers (think Amazon). Although the innovation and competition from non-store retailers is hurting brick and mortar retailers, it is helping consumers through increased selection, convenience, and low prices. This has, in turn, fueled overall healthy retail sales in the economy.
Although the last few months have shown some soft spots in the economy (auto sales, bank credit), on the whole there is not much economic evidence pointing toward an economic downturn.
Today’s Market Perspective
Equities, particularly for large U.S. companies, have experienced a long run up in values. Some key drivers have been favorable to market conditions (i.e. moderate but steady economic growth and low interest rate environment), and strong corporate earnings growth.
Most of the gains to portfolios during recent history have been concentrated in a single asset class: large U.S. companies. This may have led some investors with globally diversified portfolios to complain over the past few years of underperformance relative to a simple benchmark like the S&P 500. However, diversification, both among asset classes and regions, is a foundational principle of investing that can help reduce volatility and produce more steady returns over the long run.
During the first two quarters of 2017, international investments are finally rewarding globally diversified investors, and outpacing the returns of domestic equities. It is worth noting that while the rally in large U.S. companies has been going on for several years, robust growth in international equities is a comparatively new dynamic.
While U.S. stocks are at record highs, the economic environment of low inflation and Federal Reserve policies that are accommodative to business suggest that current profit margins may be sustainable. A number of analysts suggest the market is fully priced, but not over- priced, relative to earnings and earnings projections.
Economic conditions are virtually unchanged since our last update, and are supportive of continued corporate earnings growth.
Like many points in history (and today maybe more so), uncertainty regarding potential geopolitical and government policy changes is concerning to investors. There are many uncertainties to watch in the days ahead. The U.S. Congress may still undertake significant health care legislation, corporations have been promised tax reform and lower levels of regulation, an infrastructure package is on the horizon, and perhaps some additional tariffs on imported goods.
So far, there is little evidence of irrational investor behavior driving prices beyond what can be reasonably substantiated by underlying corporate earnings. Sustained corporate earnings growth (or lack thereof) can shift this quickly.
Navigating a financially successful life involves making informed and proactive choices year over year which support your economic growth and security. As we partner with clients to help achieve important goals, we strive to add value in a number of ways. Key among them are the following:
- Financial planning and coaching. We continually review your circumstances and look for opportunities which can benefit you financially. We then encourage you to act on them. For example, if an opportunity exists to change savings patterns, investment strategies, or your risk management plan, we will frame the opportunity and recommend you act on it. This can help achieve faster accumulation or better preservation of your assets for the long run.
- Coordinating investment planning with your financial plan. We help manage the risk and tax consequences associated with distributions from your assets (for income purposes or the funding of special goals).
- Implementation of a disciplined long term investment strategy. We strive to help you achieve the best return for the risk you assume in market participation. It includes asset allocation, re-balancing, tax reducing strategies, and cost controls in your invested assets.
We are committed to providing you objectivity and steady guidance through both volatile markets and euphoric markets – to give you the peace of mind to enjoy your life and focus on what really matters most to you.
Harvest Asset Group, LLC