Prediction is very difficult, especially if it’s about the future

“Prediction is very difficult, especially if it’s about the future”

–Niels Henrick David Boher

The stock market continued to rally during the third quarter. There are many factors contributing to the market advance, yet there are also data points that signal caution.  Hence, our focus has been on mitigating near-term risks while also focusing on longer-term investment opportunities. In this note we’ll highlight the issues we’re assessing most intently. 

From a macroeconomic standpoint, the shift in the stance of the Federal Reserve toward lowering interest rates is among the most important forces propelling markets higher. The Fed has a dual mandate of minimizing inflation and maintaining full employment. During the quarter employment data signaled a weakening jobs market, likely caused by the uncertainty created by new trade policies. Simply put, it is hard for businesses to plan and make hiring decisions when policy uncertainty is elevated. Corporate earnings reported in the second quarter were generally good, which also helped the stock market. Investor enthusiasm, primarily driven by businesses focused on the artificial intelligence (AI) sector, moved many technology stocks to new highs. Our exposure to companies such as Meta, Alphabet, Amazon, Nvidia, Eaton Corporation, and Amphenol has contributed to our performance as the sector rallied. 

Tempering our enthusiasm, we note that stock valuations of 23.6x earnings are at the high end of historic range. Even when one excludes the highly valued technology sector, the earnings multiple is still 20.6x. In our experience, markets can remain richly valued for extended periods of time, but further gains will be more difficult to achieve unless earnings revisions move higher. Regarding tariffs, we are concerned that businesses will experience margin contraction to the extent they are unable to pass along the additional expense.  

As in the last quarter, we have been active trimming positions when they’ve become overweight. We have trimmed Republic Services Group, Costco, Mastercard, Microsoft, AIG, Arthur J Gallagher, Eaton, Amazon, and Insulet during the quarter. Should the market suffer a correction we would be comfortable adding back to these positions. New positions added during the quarter include Blackstone and Palo Alto Networks. We continue to research new investments with the conviction that long-term success is achieved by owning quality businesses that generate excess cash flow and use the money in shareholder friendly activities.  

As always, thank you for entrusting Ayrshire Capital Management LLC with your money.  We are always happy to discuss your investments with you in greater detail whenever you wish. 

Sincerely,

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