The year of 2019 began with a strong rally in the stock market and ended in the same impressive manner.  Gains were realized across the board as all major asset classes fully participated in this rally making it one of the best years in a great decade for the financial markets.  Annual stock returns around 30% erased the memory of a difficult fourth quarter in 2018.  

The 2019 fourth quarter delivered a series of never ending new record highs for all major U.S. stock market indices.  The NASDAQ Composite, S&P 500 and the Dow Jones Industrial Average all reached levels once considered unreachable in the near term.  The Dow crossed 27,000, 28,000 and approached 29,000 in just the last quarter.  The technology heavy NASDAQ rode the rally wave surpassing the 8,000 and 9,000 markers in three short months. 

The catalysts for this market success can be found in the economy, policy developments and individual company results.   

The economy continues to expand at a 2.0% rate with inflation remaining low.  The fully employed consumer is confident, buying homes and spending freely.  The consumer represents two-thirds of our economy, so a strong consumer is vital for future growth.  With unemployment running at 3.5% and wages rising, the consumer is in great shape.  The manufacturing sector has been a drag on economic growth this year, but its decline is showing signs of bottoming.  The service sector remains strong.

On the policy front, the Federal Reserve and trade disputes have been the leading stories.  The Federal Reserve had their hand in supporting the markets with a fourth quarter 25 basis point rate cut.  This marked their third and final fed funds rate cut this year.  Expect the Fed to spend 2020 on the sidelines.  After their December meeting, Fed chair Jerome Powell announced, “as long as incoming information about the economy remains broadly consistent with our outlook, the current stance of monetary policy will likely remain appropriate.”  Stated another way it could read:  it’s an election year, we like where we are and will stay out of the way. 

Trade policy has been a hot topic all year and the fourth quarter finally brought some clarity.  The USMCA trade agreement made its way through the U.S. House of Representatives and soon should be a done deal.  U.S. and China verbally agreed on an initial step toward a broader trade deal and should be signed on January 15th.  As a result of this phase-one deal, new U.S. tariffs that were slated to go into effect on December 15 were canceled. The 15% tariffs imposed on $110 billion of Chinese goods back in September now fall to 7.5%.  In return, China commits to buying greater quantities of American crops, factory goods, and energy products.  This phase one trade deal should mark the end of the trade war escalation and put the economy on sturdier footing in 2020.  With the Fed on the sidelines and trade less of an uncertainty, expect 2020 economic growth to tick up toward 2.5%.

Stock market analysts were pessimistic about corporate earnings as we entered 2019 and the end result supported this view as earnings were basically flat for the year.  Earnings growth for 2020 is projected to grow at single digits, as margins may come under some pressure from rising wages and other higher costs.  As always, earnings will be an important component to the stock performance in 2020.  A potential turnaround in worldwide economic growth and resolution on trade uncertainties may prove to be positive catalysts for the start of the new decade. 

Our outlook for 2020 is for the U.S. stock market to gain roughly 10%.  The economy will remain stable led by a strong consumer, full employment and low interest rates.  We see interest rates hovering between 1.75% and 2.25% on the 10-year U.S. Treasury note.  U.S. Stocks aren’t cheap, but the 17-18x price-earnings multiple should hold, especially with rates so low.  We still prefer the U.S. stock market over international stocks, but emerging markets appear poised for better relative performance in 2020.

After big years in the markets like last year or the 2008 market meltdown, investors are often faced with the question, “what should I do now?”  Let’s tackle that question with some prudent things to do:

• Revisit and reassess your risk tolerance and current financial situation
• Rebalance your portfolio back to your targeted asset stock/bond mix
• Seriously consider your investment time horizon and act accordingly
• If your time horizon is over 5 years, think and invest for the long-term, not the next trading day
• Stay invested and be true to your plan, as “going to cash” is usually a fool’s game

One final thought.  Markets tend to run in bullish and bearish cycles, some secular (long-term) and some cyclical (shorter-term).  History teaches us that secular markets tend to last for about 20 years.  Time will tell, but maybe we just finished the first half of a 20-year secular bull market in stocks.  Keep your portfolio diversified and invested at an appropriate risk level.  Don’t forget to stay invested and compete in the second half.

MARKETS BY THE NUMBERS:

To expand on these Market Commentaries or to discuss any of our investment portfolios, please do not hesitate to reach out to us at 775-674-2222

2019 has been a strong year for U.S. equities, with the S&P 500 up over 28% through the middle of December.  As we approach year end, investors will look to position their portfolios and allocations for 2020. After a strong year of performance, it is natural for investors to have some concerns about what the following year will have in store.  A few recurring concerns on the minds of investors entering the New Year are:

• Slowing U.S. economic growth
• A historically long equity bull market with extended valuations
• China/U.S. trade tensions

The U.S. Economy is a hot topic entering 2020 as investor expectations are for a lower GDP growth rate compared to last year.  It is important to note that although the GDP growth is decelerating, it is still growing.  Roughly 68% of GDP comes from consumer spending and with unemployment at 50-year lows, our expectation is for consumers to spend which will continue to drive the U.S. economy.  U.S. GDP growth is forecasted by Morgan Stanley to close out 2019 at 2.3% and decelerate to 1.8% in 2020 and reaccelerate slightly to 1.9% in 2021.  The chart below, from JPMorgan¹, displays the continued strength of the U.S. economy going on its 125^th month of economic expansion compared to the average expansion of 48 months. 

The strong returns of 2019 and continued length of economic expansion have some investors concerned that the bull market may be coming to an end.  We continually express that time doesn’t kill bull markets but fundamental shifts in the economy and extreme equity valuations will.  The graph below displays the current valuation of the S&P 500 at 17.74x, which is above the 25yr average of 16.24x.  However, continued GDP growth, restrained inflation, low interest rates and moderate earnings growth should provide support for U.S. stocks to trend higher in 2020.²

Additionally, below is a table of the top Wall Street experts and their S&P 500 target estimates for 2020, showing an average implied return of 3.7% as of 12/19/19.³

Lastly, trade discussion between the U.S. and China have seen many head fakes and although it is nearly impossible to know what goes on behind closed doors, the sentiment around the discussions are trending in a positive direction.  On December 13^th a Phase 1 agreement was signed requiring structural reforms in China’s trade and economic regime such as technology transfer, agriculture, financial services and intellectual property.

All in all, 2019 was a strong year for the markets and we feel conditions are in place for that trend to continue in 2020. As always, things can change in the investment markets, and we’ll be on alert for potential shifts that may occur throughout the New Year and make adjustments accordingly.

To expand on these Market Reflections or to discuss any of our investment portfolios, please do not hesitate to reach out to us at 775-674-2222.

Graphic Sources:

1. https://am.jpmorgan.com/us/en/asset-management/gim/adv/insights/investment-outlook-for-2020/us-economy
2. https://am.jpmorgan.com/us/en/asset-management/gim/adv/insights/investment-outlook-for-2020/us-equities
3. https://www.businessinsider.com/stock-market-2020-forecasts-advice-sp-500-year-end-targets-2019-12

The positive stock market momentum continued throughout the month as economic and earnings news advanced equity prices to multiple all-time record high levels.  As always, some individual companies exceeded earnings expectations and others fell short.  In aggregate, the good news regarding company earnings and economic data outweighed the bad moving stock indices ever higher.  The bond market experienced a sideways month as interest rates initially moved higher and then came back to levels slightly above where the month started.       

The U.S economy is deriving its strength from the consumer and the service sectors while manufacturing sector has been a drag on growth.  The good news here is that most U.S. companies provide services rather than manufacture products.  The Institute for Supply Management’s Purchasing Managers Index for non-manufacturing firms rose nearly two points last month to 54.7 demonstrating service sector strength.  

Retail sales advanced 0.3% in October, according to the Department of Commerce. That surpassed the 0.2% gain forecasted by economists. The consumer is employed and continues to spend.  The economy added 128,000 jobs in October, far surpassing the 85,000 expected.  Unemployment ticked up to 3.6% reflecting more people entering the job market. Existing home sales improved 1.9% last month and year-over-year sales were up 4.6% through October.  Building permits for new homes are at the highest level since 2007 showing further proof of a strong consumer sector.

What a difference a year makes.  One year ago the stock market was in the middle of a painful fourth quarter correction.  After the 13.5% price correction, the Federal Reserve came out in early 2019 verbally changing their plan on monetary policy.  The combination of lower stock prices and a new Fed outlook set the stage for a gangbuster 2019.  The 2019 rally continued in November as the major stock market averages closed the month about 4% higher.  The Dow Jones Industrial Average reached and closed the month above 28,000 for the first time.  International stocks did not keep pace with the rally in U.S. stock markets this month.

The S&P 500 closed at new record highs twelve times over the course of November, 2019.  Stock valuations are typically measured by price-to-earnings (P/E) ratios.  These ratios now show U.S. stocks trading at 18 times forward earnings which are at the upper end of recent ranges.  This means stocks are somewhat expensive on a relative basis.  This may set the stage for a future 5-10% price correction, which if it happens should not surprise investors.  Remember, stocks appreciate over time but they do not go up all the time.  We still believe the U.S. stock market is in the middle of a secular bull market, so maintain a long-term focus.

The bond market settled into a period of interest rate equilibrium.  The Federal Reserve implemented its third and likely final 25 basis point rate cut for this year in late October.  The new targeted fed fund rate of 1.50-1.75% is likely to hold well into 2020 as the Fed closely monitors economic activity.  Any future rate moves by the Federal Reserve will be “data dependent”.  The Fed’s three rate cuts this year have removed the near-term threat of an inverted yield curve.  The slope of the yield curve now has a positive slope and a trading range for rates has been established.  The 10-year U.S. Treasury finished the month yielding 1.78%, up 9 basis points on the month and 16 basis points below the highest monthly close of 1.94% on November 8th. The 2-year and 30-year closed the month yielding 1.62% and 2.21% respectively.        

It has been a great year for investors with all asset classes showing significant year-to-date gains entering the final month of 2019.  At these new record levels, it’s time for investors to seriously think about a strategy for managing portfolio success.  A time tested tool which guides you to buy low and sell high over time is systematic portfolio rebalancing.

Take this opportunity of market strength to rebalance your portfolio back to your targeted risk tolerance.  For example, if three years ago your long-term risk profile targeted your asset allocation to be 60% stocks and 40% bonds. Today, due to market fluctuations let’s assume your portfolio has changed to 72% stocks and 28% bonds.  It’s likely an opportune time to rebalance.  Use this strong market as an opportunity to reduce stocks by 12% and add 12% to bonds, thus returning your portfolio to the original 60/40 allocation target.  Moving forward, set predetermined periods of time or percentages to active your portfolio rebalancing.  This will remove any emotion from the buy/sell decision. 

Rebalancing annually or when your allocation exceeds the target allocation by +/- 10% are both prudent strategies.

The main advantages to regularly rebalancing your portfolio are:

• Rebalancing stabilizes the risk level of your portfolio over time
• Creating a non-emotional process for selling the stronger performing asset class and buying the weaker performing one
• Making the decision to “go to cash” is eliminated, thus keeping your diversified portfolio fully invested over time
• Rebalancing provides a psychological satisfaction of taking action in a measured way

Systematically rebalancing your investment portfolio is a powerful tool that puts you in the driver seat and keeps the market noise in the back seat.  If you have not implemented a rebalancing program, now is a perfect time to do so.  

To expand on these Market Commentaries or to discuss any of our investment portfolios, please do not hesitate to reach out to us at 775-674-2222