“Life is a long lesson in humility”– J.M. Barrie
Whiplash. This is exactly what investors who panicked during the fourth quarter and sold stocks experienced when the market rebounded in the first quarter. The S&P 500 peaked in September at 2,940.91 and fell 20.2% to a low of 2,346.58 on December 26. Since then the market has recovered and is back near its high. As stocks declined the media presented a continuous stream of strategists explaining why the next bear market was upon us. Not one of them has a consistent record of predicting market declines or rallies. Over our years of investing we’ve learned making market calls is a sure path to looking foolish. Instead, we focus on identifying solid businesses that can weather the ever-changing market conditions. In this quarterly update we’ll highlight some key factors that contributed to the challenging environment in the last two quarters and provide some insight on our thinking for the remainder of the year.
“Never be afraid to sit awhile and think”
The end of 2018 was one of the more tumultuous periods for the markets in the last decade as
equities swooned and the New Year has opened with a stiff dose of volatility. The easiest
response for a long term investor is “buy the dip” but before venturing down that path we think it
is important to review the factors driving the treacherous markets and we’ll highlight the issues
we’re watching most closely in this quarterly update.
“True strength is delicate”
Most major equity indices were flat in the first six months of 2018 yet volatility in the markets has returned signaling greater investor anxiety. The S&P 500 has experienced a daily change greater than one percent 36 times year-to-date compared to 3 one percent moves by this time last year. Market participants are conflicted. Will the economy remain strong, or are the nine years of business expansion about to end? Will President Trump’s “America First” policies create a trade war that could push us into a recession? Uncertainty prevails and in this note we’ll comment on why we are constructive on the investment environment.
“Never let the truth get in the way of a good story”
The first quarter has been punctuated by a volatile market that appears even more jarring following the unusually orderly market conditions of last year. In Washington, President Trump’s administration is delivering on its “America First” platform using an unconventional approach. Tariff threats are drawing China into discussions with an uncertain outcome and market participants are concerned that a potential trade war could offset the favorable effect of the recently passed tax reforms. Since markets abhor uncertainty, particularly regarding economic policies, investors should be prepared to endure further volatility until tariff and trade issues are resolved and the outcomes from the President’s unique governing style are more visible.
“Climbing a Wall of Worry”
-Wall Street proverb
Many times during 2017 we were asked how the stock market could be performing so well while the tone of political discourse was so poor. Our answer was, and remains, that business is driven by the economy and the global economy is in a sweet spot of synchronized expansion. Admittedly, actions taken by government do influence the environment in which companies conduct business and the loosening of regulations and the lowering of corporate taxes are favorable changes that will impact future results. Hence, while some may be ambivalent about a rancorous Washington environment the market marches onward.
“The surest test of discipline is its absence”
The stock market has delivered another impressive quarter rising 4.5% from July through September and up 14% year-to-date. Investors are continuing to block out political noise and remain focused on earnings and the impressive strength of the global economy. The valuation of the stock market remains near the high end of the historic range, trading at 18x projected 2018 earnings versus the ten year average of 14.1x. Our investment discipline draws us to focus on fundamental results and we’ll highlight some of the key factors that are influencing our outlook.
“Beware lest you lose the substance by grasping at the shadow”
The first half of 2017 has been a bifurcated environment. On the economic side, the synchronized global expansion that took hold in 2016 continues to provide a favorable business climate while, on the political side, the Trump administration is struggling to stay on message. The muddled political communication risks swamping a much needed comprehensive tax reform along with the rest of the administration’s agenda. For now the market remains focused on the continued strength of the economy while the window for tax reform is narrowing.
“A goal without a plan is just a wish”
-Antoine de Saint-Exupery
The stock market continued to advance in the first quarter driven by strengthening economic conditions while President Trump’s young administration encountered an early stumble when it failed to win Congressional support to replace and repeal the Affordable Care Act. In this note we’ll share some observations regarding the new administration, but our investment focus remains on the economic backdrop in which our investment companies are operating.
“Nothing is more responsible for the good old days than a bad memory”
-Franklin P. Adams
The beginning of 2017 marks the 45th peaceful transfer of executive power in the United States. While we’re a week away from the inauguration of President-elect Trump it seems like the transfer of power occurred on November 8th given all the attention garnered by Mr. Trump’s tweets. Mr. Trump’s unconventional style will evolve after he’s assumed the Office of the President, but we do expect there will continue to be surprises.
“The Struggle for Growth in a Sea of Liquidity”
The chorus of economists calling for the Federal Reserve to raise interest rates is growing louder. Following its first rate increase last December the Fed has held its interest rate steady in a range of 0.25%-0.5% yet it is becoming increasingly likely that the Fed will raise rates again by December. In this quarterly update, we’ll explain the impact of rising rates on the economy the implications for the investment environment.