The U.S. economy appears to be the sole light on the hill as many economies around the world, including China, are slowing while our economy is still grinding it out. It is important though to realize that a slowing economy is not a recessionary one and you can have times of slow growth, much like what we are experiencing now on a global scale. Economic indicators are not signaling a recession here in the U.S. but there certainly is pressure on earnings for large multinational American companies that could be hurt by slowing global demand and fluctuating currencies. However, the dramatic decline in oil prices has been a major tailwind for consumers and corporations since lower oil typically equates to lower expenses and more expendable income. I do think the consumer, which accounts for about 70% of economic activity, is now spending that expendable money elsewhere which I view as a big positive for the economy. For this reason, I think that the U.S. economy will remain out of recession. Around the world, I think China will slow from 7-9% GDP to 5-7% GDP, which is still strong economic growth, and I think Europe will see a mixed bag of GDP numbers, with economies near the Mediterranean Sea looking recessionary and the northern economies like Germany seeing slow growth, but avoiding recession.
The Fedâ€™s unwinding of the QE program on interest rates has begun and the Fed stated in December that it expects four rate hikes this year, which I donâ€™t believe for one second. We have seen the worst start for stocks in a long time and it appears that the global economy, with the exception of the U.S., is slowing and these two issues should limit the Fed to no more than two rate hikes this year. If I were to bet, I would put money on the idea that the Fed will raise rates only once this year and that any Fed hike will not occur after March of this year.
This year is going to be all about oil, elections, the Fed, and volatility. When you combine the first three together, you get uncertainty and when you get uncertainty, you typically experience a stock market that declines. The Presidential election is shaping up like no other in memory, and the Fed has started to raise interest rates to add to the volatility. In addition, the stock market and oil prices have been moving in tandem over the last few months. So why would I still be optimistic on the stock market when many investors worry this is the beginning of 2008 all over again? First, I think oil prices are nearing a bottom since they really canâ€™t go much lower and as I mentioned above, lower oil and gas prices puts more money into the consumerâ€™s pocket. Second, as I have stated before, I expect the Fed to raise rates very slowly which should not cause a major slowdown in the economy and if the Fed is going to raise rates, thatâ€™s a clear sign that the Fed believes that the economic recovery in the U.S. remains on track. Third, this is not 2008 all over again for many reasons with the most important being the recovery of the housing market. When I look at all of this, it appears to me that stock values and the yield on the 10-year bond may be nearing a bottom. However, I do not expect a major rebound in stock values until there is some clarity on these issues which would include oil prices leveling out.
The good news is that stock values are bouncing around current levels, which indicates the forming of a bottom in stocks but there is usually a sign of capitulation before markets bottom, so we may see more downside before stocks settle. I mentioned before that the markets would have to retest the lows from August and September of last year to truly find a bottom, so from a technical standpoint I am encouraged that we may be nearing such an event. In the short-term, I think stock values will have a hard time moving much higher while downside risks remain. However, looking into the second half of this year, I think stocks could rebound if we do avoid recession and many of the fears associated with the Fed raising rates slowly subside. In addition, investors will also focus on the elections and whether or not the next President will bring pro-growth policies or if we will see more of the same.
As I stated above, I think the Fed will be slow to raise rates this year and that should bode well for bonds. In addition, the yield on the 10-year Bond has been declining which is also good for bondholders. So as stocks are declining, bond values appear to be stabilizing and in some cases rising to help offset some of the stock declines within diversified portfolios. So as I have been warning for quite a while, volatility will be the name of the game for the foreseeable future which is why I believe in the diversified portfolios that I have designed for each of you.
If you become concerned about the volatility this year, please contact my office since we have investments that can reduce or even eliminate volatility in your portfolio without having to put your money in a low-yielding money market or CD. I would be happy to discuss ways we can reduce or even eliminate stock market risk in your portfolio if that is a strategy you are considering.
Just a Thought
â€śWhatever you can do, or dream you can, begin it. Boldness has genius, power, and magic in it.â€ť
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