Global Markets: Optimistic
Overall, global markets have performed below historical averages for the 1st half. This is not surprising given the return levels of 2017. Conditions in the major world markets still remain favorable for the near term.
P/Es for international stocks continue to be below historical averages, while market conditions continue to improve. While a rally in International has not evolved, conditions seem favorable to support a neutral to overweight position in international, including emerging markets.
U.S. Economy – Very Good, for now
The 2nd quarter continued to roll out strong economic results in the U.S. Some of this good data buoyed the market slightly in Q2. Unemployment was expected to drop solidly below 4%, but hovered right at 4% as it was revealed that workers who had been on the sidelines, not participating in the employable pool, were reentering. This encouraged many companies who face a major workforce shortage. This could be both a boon to earnings as wage inflation is suppressed, but also to areas of the economy affected by consumer spending. Housing demand continues to run ahead of supply. Inflation has stayed safely in the 2% range.
The tax cuts that we expected to stimulate the economy appear to be doing just that. Corporations have more to spend on capital expenses, labor, share buybacks and M&A. The consumer has more to spend or save, and is spending.
Fear that the tax cut stimulus will wear off continues to run in front of the economy however. As earnings are projected into 2019 and 2020, it is expected that earnings growth will decline.
Inflation – Good, projected to stay low
Inflation is historically low and staying there for now. There is no talk of deflation however, because there are pressures on the inflation number that are keeping it up, namely energy, wages, and tariffs.
While excessive inflation is a problem, healthy inflation allows prices to naturally float up with demand. Inflation that hovers around 2% should be viewed as a favorable indicator of an economy that is behaving as it should.
Interest Rates – Negative
Fed Chair Powell has adhered to his plan to march steadily toward normalizing interest rates. To that end rates will likely be adjusted through 2020, targeting a Fed rate of 3.5%. If he is able to execute this necessary reset, the bond market will be pressured for at least a year. The bull market in bonds appears to be at an end. Extreme caution should be taken in bond investments through the next few years. Durations should be kept short, and quality high. Short term assets should be held in cash or money market.
U.S. Stock Market – Good with Caution
The deck is being reshuffled in the U.S. equity markets. A rotation from aggressive growth to a broader array of more “Growth at a Reasonable Price” and value companies should be unfolding as investors look for reasonable valuations. While the NASDAQ and Small Cap markets led the way for 1st half performance there are signs that investors are slowly shifting to a more balanced approach moving forward. This will prove especially true as the tax cuts wear off, and the companies who are able to produce steady and predictable earnings despite the stimulus will shine.
Allocations were changed slightly in May in both the AdviseMe and High Dividend ETF portfolios, to reflect the commitment to international, value, and shorter fixed income durations. It is important to revisit the balance between growth and value in portfolios that may have drifted out of target ranges in 2017 with the extremely high performance in growth stocks. The discipline to rebalance is most effective during periods when the market pivots. Keep reverting to good risk appropriate asset allocations, and be patient for the markets to behave more normally.
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