Happy New Year! Welcome to an entire year of eyesight and Barbara Walters jokes. And just in case you weren’t feeling old enough, I just wanted to let you know that January 1st, 1990 is further away than January 1st, 2050. The math checks out.
On that depressing realization, let’s look at some numbers. Over the past 70 years (since 1950), the S&P 500’s yearly performance has been above 20% 18 times. In the year following those 20%+ gains, the market has been higher 15 times (83.3%) with an average return the following year of 11.2%. It’s important to remember that the S&P 500 is positive 70% of years anyway, but 83% provides a small edge to the upside from an historical perspective. Conventional wisdom points to a positive year for stocks, but not as great as last year.
Unless you’ve been living under a rock, you already know that 2020 is a presidential election year. At this time, all signs point toward a Trump reelection. Moody’s analytics runs three different scenarios in which people vote based on their finances (Pocketbook Model), based on the value of the stock market (Stock Market Model), and based on the unemployment rate (Unemployment Model). All three are predicting an electoral college victory. At this point in time, I see no reason to deviate from the conventional wisdom, but IT’S STILL EARLY.
Per some of our previous posts, the third year of a presidential term, on average, is the strongest. Generally, the first two years are spent making good on campaign promises, while the last two years are spent propping up the stock market and the economy to get re-elected. This makes it not surprising that the final year of a presidential term happens to be the second strongest. From 1928 through 2012 the average return in an election year is around 7%.
Since it’s our job to always be on the lookout (and I’m not a natural optimist), even in the face of the clearest stock market trend in the past 10 years, here are some headwinds that could derail our current stock market run.
- Valuation & Positioning – The S&P currently trades at 18x forward earnings. This is toward the upper end of the historical range, and if we get up to 20x earnings, that’s been a very reliable indicator that new money will likely underperform the long-term S&P average if you invest now. The CNN Fear and Greed Index topped out yesterday at 97 (out of 100!). This means that people are overly optimistic and prices have gotten a little ahead of themselves. We can expect some of the froth to burn off and a healthy pullback is welcomed.
- Interest Rates – The Federal Reserve could not have been clearer during 2019. They will not raise interest rates until inflation starts to move. This is the playbook from the 1950s, and it’s much better for the Fed to be one step behind, then one step ahead (their tools work better fighting inflation than deflation). The problem is that the Fed doesn’t know why inflation isn’t rampant at these interest rate, unemployment, and GDP levels. If the market starts believing that the Federal Reserve is losing control over the monetary system (watch the price of Gold), this could be a major shift.
- Election – Super Tuesday in March will be the first real indication of who’s for real on the Democratic side. If a far left candidate (Sanders or Warren) were to come through Iowa and perform well on Super Tuesday, I do think the market would take a pause. Until then, the markets will be focused on Q4 2019 earnings coming up in the next 2-3 weeks.
- Brexit – I think this is more of a non-event, but with the clear majority in Boris Johnson’s corner, it looks like Brexit is going to happen at the end of January. Whether or not a deal is struck with the EU or a “no-deal” Brexit occurs remains to be seen.
- China – While a “Phase 1” trade deal is getting ready to be signed on January 15th, and Phase 2 trade talks will begin shortly thereafter, the implementation and governance of these new trade rules may tell a different story. The devil is certainly in the details with this one.
- Inflation – If there is a sustainable increase in the price of energy and the average consumer starts feeling a little pressure at the pump again, it will cause the consumer to pull the purse strings back a bit. The strength of the American spender has been the solid footing that this rally has used to jettison to all-time highs, so any change here will be noteworthy.
Now the fun stuff.
Things We Like Going Into 2020
- We love not getting too smart about this market. This market has been more resilient than anyone expected, and until that changes, the trend remains our friend.
- “It’s expensive.”
- “It can’t keep going up forever.”
- “Eventually we WILL have a recession.”
- All these things and many more are true. But the economy and the year-to-year stock market changes have very little to do with each other. Corporate earnings were up 33% in 2018 and the S&P 500 was down 4%. Corporate earnings were up 5% in 2019 and the S&P 500 was up 30%. Don’t overthink it here. Stick to the rebalancing regiment to systematically sell the oversized winners (US Stocks, REITs, Utilities) and purchase the laggards (Europe, Emerging Markets, Energy). If the trend continues and US stocks have another stellar year, you will still participate. If not, we will have sold a little at a nice profit. All or nothing, just like “in or out”, is not an investment strategy, it’s a gambling one.
- Names to watch in 2020
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- It’s not lost on us that the allure of taking a shot on a few concentrated bets is enjoyable. In our minds, if this is what it takes to allow the majority of your assets to work their magic over time in low-cost index funds, that’s a small price to pay for “staying the course” with some added garlic. But my compliance department tells me that I can’t make a recommendation to purchase individual names without assessing the suitability of each person’s individual situation. Sounds logical to me and I would rather be safe than sorry.
- So here are some themes that might be of interest, if you want to know the individual names, don’t hesitate to give us a call.
- eSignatures – It’s a common verb (to eSign) in the business world, and with cyber security only becoming more of an issue, electronically verified signatures will continue to be something our increasingly digital world will crave.
- Biotechnology – I continue to believe that there will be a large amount of mergers and acquisitions in the biotech space in 2020 and specifically attractive are “one drug” companies that could be ripe for takeover given their simplicity to “bolt on” for big pharma.
- MLPs – This space has been beaten down over the last 3 years (really the last 10 years), but with oil up 35% last year, we believe that best of breed energy companies in this space offer substantial dividend yields with potential for capital appreciation. It is likely this space is extremely volatile with energy prices and geopolitical events abound.
- 5G Technology – 5G isn’t sneaking up on anyone as a theme, but there is one company in particular that looks promising.
- Cannabis – This was one of the big disappointments of 2019 after being all the rage in 2018. We believe it’s worth dipping your toe in this space at current valuations (which are still too hard for some companies).
- Digital Payments – We believe the digital payment space will continue to grow at a relatively rapid pace, both here and abroad. Several companies are being acquired by large, very well known money managers, and with the larger digital payment companies up big in 2019, the potential for growth through M&A appears to exist.
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With all individual stocks, they are much more of a gamble, but I’m still very curious about how each sector performs.
Looking forward to a great 2020!
– Adam