Our Investment Outlook

The world’s stock markets have been volatile this week. Prices have risen one day, then declined the next. What do we think?

Perspective is key. Stock market activity should be viewed in a broader perspective of actual data, not in the emotion of daily (or even hourly) stock market moves.

One of the purposes of writing this weekly blog is to provide our thoughts and guidance to you, our clients and prospects. It is also helpful to us, to step back and think. The process of writing entails thinking through things in a more deliberative and thoughtful manner.

Has the world changed dramatically in the past week or two?

To us, clearly the answer is no. Are greater concerns being expressed about the European economy? Yes. But we do not see that economic fundamentals have changed in a significant manner in recent weeks.

What causes the stock market to increase or decrease?

There are various answers to this question. In the short run, the stock market often moves on emotion, and sometimes overreacts, both up and down.

In the longer term, which is our main focus, corporate earnings drive stock prices. When corporate earnings and economics improve, stock prices go up.   When companies or economies decline, the stock trends are usually down.

We take an optimistic, but realistic view that companies and economies adapt to changing conditions. Thus, in the long term, a globally diversified portfolio will be the proper place to benefit from long term growth in corporate earnings and societal advancements.

What is the real economic data that should be considered today?

Rather than focus on media headlines and stock market forecasters, let’s review some specific information. It will help to give you perspective and reassurance to properly handle the short term volatility of the stock market.

 Interest rates are still very low, and have declined further in the past few weeks. Most forecasters, including the US Federal Reserve, are predicting rising interest rates over the next few years. However, just the opposite has occurred since the last Fed meeting two weeks ago.

    • The 10 year US Treasury bill has declined from around 2.5% to around 2.3% in past weeks (and from 3% in early 2014).
    • Lower interest rates will cause corporate earnings to increase, as they can continue to borrow and finance their businesses with lower cost debt.
    • Lower interest rates will benefit consumers. Home mortgages and home equity loans interest rates will be less, which will help the housing market. Buying a car will be more affordable.

The price per barrel of oil has declined dramatically in recent months and in the past two weeks, from around $100 per barrel earlier this year to around $85 per barrel now.

    • Cheaper gas means more money in consumers’ pockets, which means people have more to spend on other things. This is good for the economy.
    • Cheaper gas helps all kinds of industries and will help corporate earnings.
      • Shipping products and raw materials will cost less. Manufacturing costs will be reduced. Companies as diverse as delivery companies, airlines, automakers and food producers all benefit.

Job growth continues to be positive.

    • The US economy added 248,000 jobs in September 2014. The average monthly gain in employment was 213,000 over the previous 12 months. (per the US Bureau of Labor and Statistics

US Housing starts have greatly improved over the past few years. Residential home construction has a major impact on the economy, in terms of employment and consumer spending. Improvement in housing is a reflection of confidence in the future of the economy.

  • In the 6 months ending August 31, 2014, the US averaged 996,500 new homes starts per month.
  • In 2011, the monthly average was 613,000 housing starts.
  • In 2013, the monthly average was 930,000 housing starts.

Summary:

We are not providing short term guidance on the direction of the US or worldwide stock markets. If Warren Buffett can’t do this, we can’t either. However, Warren Buffett is buying businesses and based on recent interviews, it is reasonable to assume that he and his company are buying stocks with each market downturn. He views these as buying opportunities.

With a long term view and the right perspective, we encourage you to have confidence in a long term investment plan. If you have the proper allocation to stocks and the appropriate time frame, you should not allow short term stock market moves to cause you to change your long term focus.

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