Dear Friends, Clients and Associates,
One of the many changes that technology has created in our modern lives, is that we can find news and headlines that support any political view we want to believe in. The same can be said about the economy, the markets, their health and direction. As we look forward into 2019, there are many reasons to be doubtful and uncertain as to the health and direction of our economy, but in all reality, there are also reasons to be hopeful and optimistic.
First a look back into 2018. The economy had a banner year, yet the markets had their worst quarter and year since 2008. It was the first time, since 1972, that all major asset classes were down. Another first, that had never been seen, was the central bank raising interest rates and implementing quantitative tightening at the same time. All of this was against a backdrop of a U.S economy that continues to show and project strong corporate earnings and low unemployment, albeit is expected to show some slowing from the numbers posted in 2018.
As the fed was raising rates, the ten-year treasuries hit a high of 3.24% but have since backed off to about 2.70%. This backing off by the Treasury bond market is seen by many analysts as a signal that the bond market seems comfortable with the notion that inflation is not set to soar, and the market can absorb $1.5 trillion of supply over the next 12 months. Projections are for the ten-year Treasury to end 2019 in the 3.0% range.
And though the bond market is telling us that the economy may be set to slow from its recent 2.9% growth over last year, projections for 2019 GDP growth of 2.5% are still fundamentally sound. Talk of a recession in 2019 seems premature. Impossible to say what 2020 or 2021 might bring, but for now, the risk of an actual contraction is low.
Globally, the synchronized growth that many analysts thought would stir a global economic recovery in 2018 never really happened. The sharp pullback at the end of 2018 was a surprise to most and underscores the difficulty in predicting short term market moves. It also reinforces the importance of maintaining a balanced and contrarian perspective: when an outlook becomes the overwhelming consensus view, you should assume it is already reflected to a strong degree in current financial market prices.
No one knows what the next year will bring. We may see some continuation of recent market trends or a stabilization or reversal in some of them. The market consensus will undoubtedly be surprised again. The only certainty is the lack of certainty.
As students of financial market history, we know the headwinds our portfolios have faced over the past five to 10 years will eventually turn to tailwinds. So we stick to our process and maintain our allocations to the areas we have currently allocated. This may feel uncomfortable. But as long as we remain confident in our analysis and process, that’s exactly what’s necessary to achieve long-term success and avoid the pitfalls of performance chasing and emotionally driven investing.
Related to this, our confidence in the active fund managers with whom we invest remains high, and we are optimistic about their potential for strong performance in the years ahead as the headwinds and trends shift. That said, we continually update our due diligence on our managers and will make changes when appropriate should our conviction wane.
Our portfolios are positioned to perform well over the medium to long term and to be resilient across a range of potential scenarios. Over the short term, if the current recession fears are overdone, we expect to generate strong overall returns, with outperformance from our foreign equity positions, active managers, and flexible bond funds. On the other hand, if U.S. stocks slide into a full-fledged bear market, our portfolios have dry powder in the form of lower-risk fixed-income and alternative strategies that should hold up much better than stocks. We’d then expect to put this capital to work more aggressively; for example, by increasing our exposure to U.S. stocks at lower prices and valuations implying much higher expected returns over our medium-term horizon.
Successful investing is a process of consistently making sound, well-reasoned decisions over time, and across market and economic cycles. We believe our diversified, fundamental, valuation-based investment approach meets this definition. As long as we continue to execute our approach with discipline and remain patient during the inevitable periods when it is out of favor, we have no doubt we will continue to achieve successful and rewarding long-term results for our clients.
As always, we think we have the best clients and we thank you for you continued confidence and trust.
Kent G. Forsey, CFP®