Confusion reigns in the US markets. Bonds had their worst year in over a decade, and stocks closed out the year in bear market territory after being positive most of the year, down approximately 6% for the full year and 11% in December alone. 2019 has started more positively, with a small bounce from last year. Investors really don’t know where to turn, with increased volatility and violent price swings.
Sometimes in periods of uncertainty, it’s best to maintain the status quo and do as little as possible. Sure, from a short term perspective selling at market peaks last year looks good with 20/20 hindsight, but the reality is no one times the market well consistently, and over time stocks forge to new heights. Add in tax consequences, and having a portfolio allocation well-suited for long term goals and maintaining discipline, with small adjustments and rebalancings along the way, makes the most sense.
We are undoubtedly late in this bull market that began in 2009. It may already be over. But there remains a litany of good news out there.
- The economy is growing at a healthy clip.
- Corporate earnings are at an all-time high.
- Unemployment and inflation remain at or near multi-decade lows.
- Government is very business friendly.
- Corporate tax rates are at multi-decade lows.
- P/E multiples are back down close to historical norms, thanks to Trump tax cuts.
And yet. The markets face headwinds.
Interest rates and inflation seem to have little room to go down, and lots of room to go up.
Investors forget that the S&P 500 operating earnings were at $88 in 2007, and plummeted to $44 in 2008. When margins and earning are at all-time highs, a recession can take a big bite out of earnings, making P/E multiples vis a vis current earnings look much less attractive or even unattractive. And modern-day investors focus on operating earnings, not GAAP earnings. If GAAP earnings or a normalized stream of earnings such as the Shiller Model were used instead, P/E multiples would look much higher.
The trade war with China is hurting not just the US and China, but every country in the world. I must admit mixed emotions at the trade war. The near term effect is negative, but it’s refreshing to see the US finally call Communist China on the carpet for their cheating, lies, still partially closed markets, laws and regulations that are frequently changed on a whim, and intellectual property theft. China neither participates in free or fair trade, and it has to be brought to account and change. And the only thing China’s politburo understands is force and power – without playing hardball, nothing will change.
The government shutdown undermines confidence and is a friction cost working against economic growth.
A long term, prudent, unemotional investor is what we all aspire to be, if we’re thinking clearly. The prudent investor currently should be sitting on his/her hands and watching developments closely. If stocks resume their 2018 descent in a meaningful way, investors should gingerly add to stocks. And if stocks explore their 2018 heights, it would probably be advisable to trim positions, while maintaining a generally consistent investment allocation and posture.
Hopefully, we’ll see a positive 2019 in stocks and bonds. But the intelligent investor should be balanced and positioned well regardless of which way the world turns, to where losses are mitigated if the market heads south for the winter again, and meaningful gains are claimed if the market moves back up.