Antaeus opinion regarding stocks is neutral to bullishSubmitted by Antaeus Wealth Advisors on July 9th, 2014
- Disbursement of the $700 billion Troubled Asset Relief Program (TARP) signed into law in October 2008: $438 billion. Actual net cost of the program for taxpayers as of 04/27/14: $27 billion. (Congressional Budget Office)
- Average monthly premium for an employer-sponsor health plan covering a family of 4 in 2013: $1,363. Average portion paid by employees: 28%. (Kaiser Family Foundation)
- Compound annual return for single-family homes from 1983 to 2013: 3.9%. S&P 500 index’s compound annual return during the same period: 11.1%. (Freddie Mac, Morningstar, May 2014).
- Amount a renter spends for every dollar a buyer spends on housing per month in Orange County, CA: $0.56. In Cleveland, OH: $1.55.
- Percentage of the world’s adults who were 65 or older in 2010: 14%. Percentage in 2035 projected by the United Nations: 26%. UN’s projection in 2035 for Japan: 41%. (The Economist, 04/26/14)
- Percentage of Earth’s water that is fresh water: 2.5%. Decline of global fresh water since 1970: (35%). (Barron’s, 05/05/14)
- 06/30/14 Price Earnings (P/E) Ratio as a percentage of 20 year average P/E for U.S. small-cap growth stocks: 116%. For U.S. Large-cap growth stocks: 87%. (JP Morgan Asset Management)
- Federal Reserve’s monthly purchase of Treasuries and mortgage securities in December 2013: $85 Billion. In June 2014: $35 Billion.
- Average years spent in the workforce by American men: 40. By American women: 27. (Women’s Institute for a Secure Retirement, 2011)
- Estimated year when expenditures for Social Security, Medicare, Medicaid and interest expense on federal debt will consume all projected federal tax receipts: 2028. (Government Accountability Office)
- Fannie Mae’s leverage: 345-to-1. Freddie Mac’s leverage: 153-to-1. (Barron’s, 05/15/14)
- For the period 05/01/90 to 04/30/14, aggregate total return of the S&P 500 for the 6-month period November-April: +520.9%. Aggregate total return for the 6-month period May-October: +52.6%. (BTN Research)
- Personal savings rate in the USA in 1973: 13.1%. In March 2014: 3.8%. (Department of Commerce)
- One year increase in Americans’ student loan debt as of 03/31/14: $124 billion. Increase in Americans’ credit card debt during same period: $7 billion. (Federal Reserve)
- France’s 10 year government bond yield as of 06/10/14: 1.65%. Year when the yield last was that low: 1740. (Barron’s, 06/16/14)
- Average length of a bull market in months, as measured by the S&P 500, since 1925: 108. Average length of a bear market: 16. (Morningstar, June 2014)
- Percentage of Generation Y who consider the social and environmental impact of companies they invest in important to investing decisions: 75%. (Barron’s, 06/23/14)
Year to Date
The economy continues to gather strength: the labor market has improved, consumers feel better, small businesses are more willing to spend, residential investors are increasingly eager to buy or build, and the U.S. energy boom is thriving. Nevertheless, demand is still rather tepid, so companies awash in cash are hesitant to hire until their customers start spending.
As of 07/03/14, year to date the total return (price appreciation + dividends) of various stock indices include: S&P 500 Index +8.4%; MSCI Emerging Markets Index +7.7%; and MSCI Europe Australasia and Far East Index +7.6%. Gold, silver and oil (Brent crude) also have moved higher, at +9.7%, +8.3% and +0.9% respectively; and bonds, as represented by the Barclays Aggregate Bond Index (price appreciation + interest), have returned +4.3%.
Antaeus opinion regarding stocks is neutral to bullish, based on various risk metrics which seem to indicate strong momentum in equities, low/healthy inflation, confidence in credit markets, and improvements in the overall economy (e.g. manufacturing). That said, security valuations look pretty full – especially among small-capitalization stocks and high dividend stocks (e.g. utilities) – and earnings growth has been weak. Banks are particularly uninspiring from an equity ownership viewpoint in this environment. Thus while equities do not appear to be overpriced, the higher they ratchet the less excited we become: the stocks that hit our screens are dwindling.
For fixed-income investors, a key implication is that long-term interest rates are likely to rise, but the downside for holders of longer-dated bonds may be smaller than history might suggest. With piles of debt, an aging population, and workers displaced by technology, equilibrium at lower interest rates than modern history seems quite likely. Today investment grade bonds’ role in a portfolio is to serve as a shock absorber while producing certainty of (some) income.
For commercial real estate, cap rates are relatively low, indicating rich valuations; however, amid low interest rates, spreads are reasonable. While not all real estate is created equal, we expect most return going forward over the next few years to come from yield, as opposed to from yield and appreciation. In short, valuations in real estate now provide less margin for error.
Here in the United States, first, we see two significant political themes going forward: fiscal restraint firmly in place in Congress, and the most dovish Fed ever – both of which are good for financial markets. Second, under favorable policies, shale technology has the potential to boost North American economic activity, create jobs, and reduce emissions (assuming methane leaks are addressed). Third, while Congress is doing little to address America’s crumbling infrastructure, the private sector seems to be stepping in, albeit slowly. Fourth, raising the minimum wage probably will happen, which ultimately could lead to some inflation. Finally, our biggest concern is that the elephant in the room has not been addressed by Congress: unsustainable entitlements. Changing the Social Security COLA, or shoring up Medicare would be a good place to start.
In Japan, Prime Minister Shinzo Abe’s plan to lower structural barriers to labor flexibility and corporate rationalization is meant to clear the way for healthy, steady, long-term growth. Japan’s business community, labor and government finally seem to be on the same page, and many companies are led by a new generation of CEOs with a global mindset. As for Europe, while the prospect of a chaotic default and the break-up of the Euro have receded, Europe faces three interconnected risks: stagnation, reform paralysis and political backlash. Some 26 million Europeans are out of work, European banks are fragile, and parts of the continent are on the verge of deflation.
Going Forward: Risks
As always, risks are present regarding the global economy and the prices of assets. For example, while less dependent on oil from the Middle East than in years past, if escalating tensions there lead to a spike in oil prices; the U.S. economy would face significant headwinds. Further, it has been close to three years since a U.S. stock market correction of 10%+, so we probably are due; but this does not necessarily mean that a bear market is around the corner. It also is possible that investors have underestimated the degree to which stocks have moved higher as a result of Quantitative Easing (QE), and QE is scheduled to end in October. As Stephanie Pomboy of MacrovAvens said in a Barron’s interview in May, “I liken the economy to a car on flat road that has no momentum.”
Below is a laundry list of additional risks to ponder:
- Chicago becoming the next Detroit.
- Tax reform changing municipal bonds’ tax-exempt status.
- Russia/China/Brazil using currencies other than the U.S. Dollar to trade.
- The inability of Congress to pass real corporate tax reform, and more corporations thus moving their domiciles outside the United States.
- The negative impact of student loan debt on Generation Y.
In China, a “shadow banking” system – or lending by institutions other than banks – has lured deposits to unregulated trust companies by offering high returns, and may be a crisis in the making. Further, China’s economic growth has slowed significantly, and because Emerging Markets (EM) countries’ tend to depend on China as a buyer of their exports, risk exists for EM equities in the short-term as China works through its excess credit. Similarly, in Japan, with a shrinking and aging population, a central bank holding 2.5 times the assets on its balance sheet compared to the Federal Reserve as a percentage of GDP, and a government that has not balanced a budget since 1992 – if “Abenomics” does not work, it is difficult to envision a thriving Yen long-term.
Some long-term threats are more difficult to quantify. For instance, what is the long-term potential impact of growing isolationism in this country? What about an apparent fundamental re-assessment of college costs with more moving online? Antaeus also believes that within the next ten years there will be a serious crisis. Governments are going deeper and deeper into debt, and it seems likely that some currencies ultimately will disintegrate. To address this risk, we thus recommend maintaining currency diversification, and holding some silver and cash in a portfolio.
Going Forward: Opportunities
In terms of opportunities, over the next 5 years, EM equities may lead because today they are relatively cheap. Commodities also are attractive in the basis of valuations, emerging inflation, and improved fundamentals. In addition, international small-cap stocks, a chronic U.S. investor underweight, are attractive at today’s prices, assuming one has the discipline to sell if the ultra-low interest rates in Europe and Japan come to an end.
Investing is about taking calculated risks with the expectation that over time the risks will pay off. It is natural for an investor to want to join other investors, because this herd mentality (think teenagers and clothes) feels safe to the primitive parts of our brains. Unfortunately, a herd mentality is a terrible investment strategy.
If the herd pushes the S&P 500’s price/earnings ratio above 19 – or if momentum starts to break down in the markets – Antaeus probably will begin to reduce our clients’ allocations to stocks.
Evan P. Welch, CFP®, AIF®
Chief Investment Officer
Antaeus Wealth Advisors, LLC
July 9, 2014
Disclosure: Indices mentioned are unmanaged and it is not possible to invest directly in an index. No single strategy can assure profit or guarantee against loss. Past performance does not indicate future returns. The opinions expressed in this commentary are solely those of Antaeus Wealth Advisors, LLC and are based on information believed to be reliable; however, these views may change as information changes or becomes out of date.