As 2019 segues into 2020, investors have a lot on their minds.
They’re concerned about:
- Trade issues
- The political climate
- Earnings growth
- Market volatility
- Sluggish growth in developed foreign countries
Many wonder if the U.S. will go into a recession, the stock market will go through a correction and interest rates will go up again. The answer to all three is yes, but nobody knows when they will happen.
When we look at the economy, we usually look to the consumer, because consumer purchases are 70% of the U.S. economy.
The good news is unemployment is the lowest it’s been in 50 years, the number of people who have jobs has never been higher, average hourly earnings are at a record high, people are saving more, and consumer confidence is strong. Household net worth (which includes foundations and endowments) is at a record high of $113.5 trillion – $40 trillion higher than the last peak between 2006 and 2007.
But when consumers read or watch the news, they’re learning about slowing manufacturing, recession fears in Europe and Japan, low bond yields, declining commodity prices and limited business investment. Consumers then curtail consumption, delay business expansion plans and lose confidence in job security. It's not uncommon to see recessions and stock market corrections after we as U.S. consumers have convinced ourselves that the economy is in bad shape.
Consumer credit or excess debt (excluding mortgage debt) was a problem during the last recession, and it’s certainly a problem now. Consumer credit is hovering around record levels as a percentage of income. But the consumer debt service level – the percentage of disposable income it takes for consumers to make their minimum payments – is also the lowest it’s been in 30 years.
Inflation, Bonds & Trade Issues
The year-over-year inflation rate has stayed below 2%, despite tariffs anticipated to create inflation and monetary policy aimed at increasing inflation. Technology, price competition and globalization are all contributing to low inflation. This might be the year we see inflation rise above 2%, but the effectiveness of government monetary policy is waning, and other strategies will need to be considered.
If inflation rises, bond yields may also start to rise. If you have money in bonds already, and interest rates go up, you lose money on those bonds. They are a better buy after interest rates go up. Since longer-term bonds lose more market value if interest rates go up, as investment managers looking out for our customers, we try to keep bond durations shorter than popular benchmarks to preserve market value.
It’s also important to note that corporate bonds are becoming a riskier portion of the bond market, because of the change in their capital structure. Corporations are relying more on debt and less on equity as a funding vehicle in their corporate structure. They have also been issuing debt to buy back stock, and some have bought back so much stock that equity is negative on their balance sheets, leaving bond holders with more risk. As investment managers, we are aware of this and looking at opportunities to guard against it as much as possible.
On January 15, President Trump signed a “phase one” trade deal with China, which included more intellectual property protection and an agreement from China to purchase an additional $200 billion in American exports over the next two years, The Washington Post reports.
When it comes to trade negotiations, one of the core issues has been intellectual property. The U.S. wants our trading partners to pay for intellectual property. If, for example, China copies the technology that goes into a golf club, those who built the golf club should be paid for it, but they’re not. Trade needs to be visible and accountable, but from my perspective, China doesn’t want that, because they have their own ways of running their economy. It’s a more difficult topic to solve than the media makes it out to be, and trade negotiations often last longer than many think they will.
Recession Probability & Investment Advice
Forecasting a recession long term is nothing but a guess. Corporate earnings probably won’t be as strong as they were in 2018 and 2019. The growth forecast is around 7% to 8%. We’re expecting more volatility in bond and stock markets as a reaction to trade negotiations, elections and growth in developed foreign economies. Consumers' continued confidence in the economy will be a major driver, but the general state of the economy leads me to believe the probability for a recession this year is low. It’s hard to have a recession with full employment.
Instead of worrying about the news of the day, investors should be focused on their long-term investment goals.
You can drive yourself crazy with the “short-term noise,” but a goal is very distinct. We know the math and have a good idea of how much to set aside every paycheck, month and year to help you reach your goals.
Use caution in listening to capital market assumptions. Large investment companies serve two masters: their customers and their own bottom lines. They make money when their customers buy and sell securities. The reality is, no one knows what next year is going to bring.
Be aware of things like trade concerns and the political climate, but keep in mind that everything gravitates back to the mean. The best portfolio approach focuses on long-term strategies that don’t rely on a lot of reallocations or portfolio transactions. The investment strategy with the least amount of unknown variables has the highest probability of success.
To make sure your portfolio aligns with your long-term goals, give us a call at 701-451-3000 or 800-709-5781.
As chief investment officer and chair of Bell Bank Investment Management’s investment committee, Greg Sweeney’s responsibilities include developing investment strategies and overseeing portfolio managers; conducting research, evaluation, selection and implementation of investment options; aligning investment strategy to investment policy guidelines; and providing oversight in the execution of strategies. Published in Institutional Investor’s Bond Week, Insurance and Finance Journal and Wall Street Transcript, Greg has been named several times to Nelson’s/Thompson’s list of the World’s Best Money Managers. He has also been a featured speaker at various industry conferences.
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This article has been written for the general information of clients and friends of Bell Bank. It is not intended, nor may it be relied upon, as tax or legal advice with respect to any matter. This article also cannot be used by a taxpayer for the purpose of avoiding penalties that may be imposed by the Internal Revenue Service or other taxing authority.