What A Difference
A year ago, most investment markets were experiencing freefall. The Federal Reserve, intent on normalizing interest rates, had raised the Fed Funds rate eight times since 2016. By late 2018, markets in general were beginning to exhibit their collective displeasure. The Fed then announced it would ease up on its tightening program, and stock prices have been rising ever since. Stocks, measured by the S&P 500, rose 2.17% in October 2019 and are making new highs. They are now up 23.16% year to date after a dismal -4.75% in 2018.
The stock market has been deftly climbing a wall of worry. This somewhat dated reference alludes to the ability of stock prices to continue to rise in the face of factors or issues that one generally would consider a deterrent to that growth. This backdrop makes it extremely difficult to put fresh money to work – there never seems to be a clear green light. Many investors have experienced this hesitation since November 2016. The worry is in fact the market’s risk premium: the risk of loss investors must embrace in order to receive equity-like returns.
One month ago, many investors and market pundits were expecting corporate earnings to continue on their recessionary track. The trade war was wreaking havoc in multiple ways on US business overseas, supply chains and access to markets; and global economic growth was stalling in China, Europe and the US. There was also the inverted yield curve, a tell-all indicator that the US economy was on the brink of a recession. There was not much to look forward to.
Today, it seems all that has changed. Whether true or not, the administration via popular media outlets is feeding the public optimistic soundbites regarding the eventual resolution of the trade war. The “seasonal effect” which tends to see stock prices perform well during this period of the year may be influencing investor thinking. The global economic backdrop suddenly appears brighter too, based on more recent economic data points.
In my opinion, more central than the above is the fact that 3Q earnings were more or less on target. This was immensely reassuring to investors. Over 70% of companies reporting earnings have done better than expected, a stark reversal from 2Q where the earnings beat rate was the lowest in over a decade. Investors were poised for disappointing earnings, and surprised with the outcome.
Two factors have produced a nice bump in stock prices: the PE ratio has increased about 20%, largely due to falling interest rates and earnings for 2020 are anticipated to increase in the high single digits above their expected 2019 level. The key now is whether forward earnings forecasts can hold up as we move into 2020.
In my opinion, US stocks remain the best game in town. We can more accurately assess the intrinsic value of US companies based on reliable and transparent data. So even at somewhat elevated levels, the expected return from US stocks still remains more attractive than other asset classes, bonds in particular. While we consider the valuation of the market as a whole, we do not buy the market – we focus on specific investment opportunities inherent in individual names, their unique merits in relation to their peer companies, growth rates, strength of their management, and other factors.
Lastly, I have some news to report on changes here at Hotaling. First, we have added another advisor, Gretchen Regan. I’ve known Gretchen for some time. She is a talented analyst and immediately adds value to our work for you on a number of fronts. You can read about her at www.hotalingllc.com. Second, after years of working together, Valerie has decided to move on to the next big thing and retire. She intends to spend important time with her family. We will all miss her here, as I’m sure you will too. In our attempt to fill that void, we have brought Jennie Wilber on board. Jennie is young and energetic and will do everything Valerie had done for you, and then some. I’m sure you will have the opportunity to meet her, at least over the phone, before year end. We have been doing a lot of outreach to make sure you are informed, but please do not hesitate to call if we have not been in touch recently.
Bruce Hotaling, CFA
The views and opinions stated herein are those of Bruce Hotaling, are as of this date, and are subject to change without notice. Information contained in this report was received from sources believed to be reliable, but accuracy is not guaranteed. Investments are subject to market risk, including the possibility of loss of principal. Past performance does not guarantee future results. The S&P 500 is an unmanaged index of 500 widely held stocks. Investors cannot invest directly in an index. The PE ratio (price/earnings) is a common measure of relative stock valuation. This note contains forward-looking statements, predictions and forecasts (“forward-looking statements”) concerning our beliefs and opinions in respect of the future. Forward-looking statements necessarily involve risks and uncertainties, and undue reliance should not be placed on them. There can be no assurance that forward-looking statements will prove to be accurate, and actual results and future events could differ materially from those anticipated in such statements.