Entering the back half of November, it is clear that investor bullishness has returned to financial markets as U.S. equities logged their sixth straight weekly gain. While it’s painful to not be “all-in” on stocks while the market racks up gains so quickly (U.S. stocks are up +8% from their October lows), recall just a few short months ago, investors fretted that the U.S. might see negative interest rates and that the global slowdown was beginning to impact the U.S. consumer, our primary growth driver.
Markets Climb a “Wall of Worry”
It was only when everyone – including global central banks – accepted that we were clearly in a global slowdown that the market was able to mount a strong rebound. After all, the market climbs a wall of worry, referring to the financial markets’ periodic tendency to surmount a host of negative factors and keep ascending. The wall is composed of many bricks; however, those have been slowly removed over the past few months as global central banks have become more accommodative, a Phase One China Trade Deal seems possible, and a hard Brexit in the EU is unlikely.
Most importantly, global central banks have made insurance rate cuts and provided fresh stimulus in an effort to prolong the economic expansion given the absence of significant inflation. Easier credit conditions have improved business activity and sentiment in the beleaguered manufacturing sector as well as U.S. housing, where mortgage rates have fallen towards 3.75%. Third-quarter profits weren’t a disaster as many expected, and even though fundamental concerns have eased, bond yields are still very low. Easier monetary policy undergirds the stock market’s run because investors have few places to turn for income (rates are negative in Japan and in Europe), and corporate treasurers can borrow easily and cheaply to conduct buybacks which support further stock price advances.
The JNBA View
The JNBA Investment Committee remains cautiously optimistic that the record U.S. economic expansion can continue. Central banks are vigilant and easing, while inflation is benign and “real” rates are close to zero or negative in many places. The services side of our economy is rock-steady and manufacturing appears to be bottoming. And the yield curve is no longer inverted.
Macroeconomic fundamentals remain healthy with the unemployment rate at a five-decade low and employment of prime-age workers at the highest levels since 2007. While there are still risks that exist – including a surplus of low-rated corporate debt, above average equity valuations, and large government deficits that will need to be financed in the next recession – there are signs of hope. Investors have become more discerning in recent months: the lowest tranche of corporate debt (C-rated bonds) has not been well received, unprofitable IPOs are out of favor, and we’ve seen a clear shift in market behavior in favor of value and international stocks (after a prolonged bear market in cheap stocks). Our Investment Committee is especially encouraged that the market has hit fresh highs after the Fed cut rates for a third time in October. In our view, this indicates confidence that our central bank is taking steps to restore growth and is not behind the curve.
Based on historical data, U.S. markets do well during election years, and that is exactly what has transpired. We are now entering the six-month period when stocks do best: November to May. If trade tensions ease further, we would expect the ongoing rally in risk assets to continue. As such, we have become more optimistic about stocks relative to bonds in the near term. However, we will keep a close eye on upcoming changes to policy in the next year as a presidential election looms; with the exception of trade policy, the regulatory, monetary, and fiscal policy of the U.S. is currently geared towards a market-friendly approach. Assuming this policy remains in place, we would likely become more bullish longer term upon a significant weakening in investor sentiment or if we were to see stronger fundamentals in the form of more positive earnings revisions by individual companies.
Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from JNBA Financial Advisors, Inc.
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