It’s Not As Easy As It Looks

“Good investors gather information, put that information into current and historical context, then make sound decisions.”

Year-to-date, domestic equity markets are up double digits and pointed even higher. Some would look at the markets’ performance results thus far and wonder how this was even possible! Look who is in the White House! Look at the border control problems! Look at the China trade talks! Look at the Social Security Trust Fund! Look at Medicare! But wait, unemployment numbers are at record lows. Inflation is low and steady. Interest rates are still low, favoring home and car purchases in addition to corporate financing and expansion.  

Fact is, the United States economy is the strongest, most stable in the world. The United States financial markets are the most rewarding markets in the world. The U.S. Dollar is the strongest currency in the world. Remember that you were warned months ago to believe your eyes and not your ears. The amount of misinformation and misrepresentation we will be assailed with over the next sixteen months will be epic. With so many distractions it can be extremely difficult finding your way, let alone making good investment decisions.

Some of the confusion stems from the markets themselves.  Stocks and bonds are rising in harmony. Utilities and real estate stocks are hitting new highs along with growth stocks. These events are contrary to traditional market behavior. Historically, bonds should be weak when stocks are strong. Utilities and real estate securities should be weak when growth stocks are strong. Why are consumer staples stocks and consumer discretionary stocks racing neck and neck? Interest rates were rising, then they stopped, and now the Federal Reserve appears ready to cut interest rates. What changed?

A closer look at domestic equity markets reveals that everything is not full speed ahead. We are not playing Chicken Little, it is just that institutional investors are not totally engaged, and several important pieces of the puzzle are not in place. The transportation sector is mysteriously lagging, and small cap equities are trailing instead of leading. Bond markets continue to attract significant assets even as large cap stocks are hitting new highs. This tells us that the ‘big dogs,’ the institutions, are still seriously considering every possible outcome. They are building defensive positions alongside of offensive positions, just in case. And so are we.

As strong as domestic equities have been this year, a significant portion of their move has been a bounce from the 4th quarter of 2018. Trailing 12-month performance numbers are primarily in the single digits. The ‘new highs’ seen by large cap sectors have not been that convincing. We have not witnessed any euphoria in the institutional camps. We have seen careful, determined progress that could easily and quickly become defensive. This cautionary approach is quite satisfactory. Nobody wants to revisit the 4th quarter of 2018 any time soon.    

Accordingly, bond markets continue to make very slow and steady progress. Should the path become more clear, and institutional investors become more confident, the strong bond market could become a huge catalyst towards additional gains in the stock market as money rotates into equities. Bond market investors are typically very patient, but they hate to be left off the guest list when the party is getting loud. Trailing 12-month numbers for bond investors rival equity numbers, so everyone is still sitting still and waiting.

International equities are quietly creeping along behind U.S. equities. With all the drama focused on the U.S. and China, little attention is being paid to European markets. They are in the process of making up significant lost ground from the Brexit affair. International markets always seem more tame during U.S. election years. This silent expansion in global breadth is another potential positive catalyst for U.S. markets. And there’s no better Bull Market Party than a Global Bull Market Party.

Edward D. Foy, Manager, SELECTOR® Money Management

© 2019 Edward D. Foy