Stock, bond and oil market values have turned up in the last couple of weeks.

The Federal Reserve announced last Wednesday that it will keep interest rates flat for a while longer, in line with our expectations. The last time the Fed raised rates was at its December 2015 meeting and then just to the 0.25-0.50% range. Headline inflation is up just 1.1% year over year as of August, but appears to be moving toward the Fed’s 2% goal. Unemployment remains at 4.9%, half the rate we endured in the last recession. However, economic growth in the second quarter was disappointing, rising just 1.1% year over year.

Bond prices rose on the Fed’s decision to hold rates steady, with the benchmark 10-year Treasury yield falling to 1.56% from 1.70% prior to the report. The stock market also liked the Fed’s decision to hold rates, and the S&P immediately rose by 1%.

Now, however, real GDP growth is expected to accelerate in the current quarter to the 2.5 – 3.5% range. Some of this is attributable to increased farm exports, but other exports and domestic retail sales are also showing signs of improvement. With that comes a more positive outlook for business spending. Inflation remains low, so the inevitable Fed rate hike (in November or December) is likely to be modest, perhaps another 25-50 basis points, in our opinion.

Oil prices have been at the mercy of OPEC production for some time now. With the income of oil producing countries slashed over the last two years on sharply lower oil prices, there has been much speculation that those countries would cut production in an effort to raise oil prices. All indications are that the OPEC members agreed this week (prior to their official meeting in November) to cut production by as much as 20% of current estimated output. This drove oil prices 7% higher in the first 24 hours, and energy stocks rallied.

Source: Thomson Reuters

Apart from the oil sector, we believe third quarter earnings are likely to beat recently lowered expectations. Based on rising U.S. consumer confidence to the highest level in nine years, we expect to see higher consumer spending on domestic goods and services which are the key drivers of the US economy. Exports are rising as the headwinds of a strong U.S. dollar last year have become tailwinds this year, allowing a more level playing field for U.S. manufacturers to sell products overseas with rising sales and profitability.

We believe the stock market could pull back given the rhetoric surrounding the final weeks of what appears to be a close presidential race. We would view such a pullback as as opportunity to add to positions for 2017. Looking out over the next year, we see consensus expectations of low double-digit earnings per share growth. With similar valuations as today’s forward P/E of 17x, that EPS growth is likely to lead to low double-digit gains for the S&P 500.

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

It’s been nearly a year since the Federal Reserve raised interest rates, by a modest 25 basis points to the 0.25-0.50% range. Since the day of the raise, there have been many stories in the financial press, with some investors running around crying, “Rates are rising! Rates are rising!” Meanwhile we have been correctly sticking with our “lower for longer” mantra all year. From 2.27% yields on 10-year US government bonds at the beginning of this year, yields actually fell to 1.37% in early July. See chart below.

Source: Federal Reserve Bank of St. Louis

As we analyze the data, we have seen our economy pick up very gradually this year. Why? Energy pricing tailwinds have dissipated, the dollar has flattened out and exports have improved. Real GDP rose just 1.1% in the second quarter of 2016, and the deficit dropped by 12% in July. Economic growth over the balance of the year is likely to remain modest, below the 2% mark.

We have seen unemployment drop to the 4.9% level, but have not seen consistent employment and wage growth rates. On the inflation front, the core rate remains below the Fed’s 2% target. None of this points to the usual reasons for a rate hike: curbing growth that is de-stabilizing our economy or curbing runaway inflation.

The last time the Fed met in June was just days after the markets were unsettled by the British voters’ decision to leave the European Economic Union, or Brexit. In prior statements the Fed noted their discomfort with overseas economies as a reason to put off rate hikes, and Brexit was mentioned as one of the reasons for their restraint in June.

With nearly 100 days left to the year, a lot could still happen. But with the Federal Reserve meeting in just a few days (September 20-21), we would be very surprised if they were to raise rates based on the US data.

However, bond yields have been rising in recent days on improving global growth metrics. We believe the Fed will eventually follow, although not this month. We’ll know for sure very soon.

Are higher interest rates necessarily negative for stock prices? Actually, we believe this improvement in global economies should be positive for stocks since rising economies lead to rising corporate earnings and would make current valuations appear attractive. The threat of higher interest rates has been pressuring S&P 500 in recent weeks, and in doing so we believe it has created an opportunity to add to stock portfolios in select sectors.

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

At Nevada Retirement Planners we monitor the fundamentals of the market continually. To review, we believe that long-term stock prices are driven by 3 broad fundamental metrics, they are:

• The health of the economy
• The profitability of the companies operating within the economy
• Market and individual stock price valuations

Today let’s do a quick review of the economy. One of the broadest measures of the economy is Gross Domestic Product (GDP). GDP has been growing at a moderate (and fairly stable) pace the last five years. The chart below illustrates how the US economy has been growing between 1% and 3% on an annual basis.

Recently the GDP growth rate has slowed down closer to the 1% range. This is concerning if the growth rate doesn’t accelerate. A reading over 2% is much more indicative of a healthier economy. Let’s break down our economy into two broad sectors.

First, the manufacturing sector of the economy has been dwindling over time, but is still important and comprises roughly 12% of the US economy. Every month the “Institute for Supply Management”, or ISM, reports a PMI index which highlights economic activity in the manufacturing sector. A reading above 50% indicates that the manufacturing economy is generally expanding, below 50% indicates that it is generally contracting. In August the PMI came in at 49.4% down from 52.6% in July. The chart below highlights that the manufacturing PMI has not been below 50% (the border between expansion and contraction) since February of 2016.

Secondly, we need to look at ISM’s PMI index for the all-important services sector of our economy. The US service sector slowed to a six-year low in August, according to ISM. The PMI index on the service sector came in at 51.4% for August, down from 55.5% in July. That’s still growth, but it’s the lowest reading since February 2010, when the index pulled out of contractionary territory for good following the 2008 financial crisis. See the chart below highlighting service sector PMI readings.

The August slowdowns in both the manufacturing and services sector of the economy point to a potential anemic GDP growth rate again in the 3rd quarter of 2016. In fact, Chris Williamson (Chief economist of Markit) says “taken together, the manufacturing and services PMIs are pointing to an annualized GDP growth rate of a mere 1%, suggesting that those looking for a strengthening in the rate of economic growth will be disappointed once again”.

Monthly data can be volatile, especially during the summer. But we’ll certainly be keeping an eye on upcoming economic reports to determine if the August slowdown was an outlier or a trend.

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