The financial markets: where do they go from here?

The stock markets in the US and throughout the world have been performing very well.

Major US and global stock indices have risen nearly uninterrupted for months. There have not been any pullbacks, or even a minor correction, since the Brexit vote in late June, 2016.

As our clients know, we do not make predictions or believe that anyone can consistently and accurately predict the near term direction of stocks or stock markets. Our role is to work with you to develop a financial and investment plan which are appropriate for your goals and time frame. To implement this plan, we recommend a globally diversified portfolio of both US and International stock funds, with an appropriate allocation of fixed income investments.

Given that stock markets have increased without any correction in almost 9 months, you should be prepared for a pullback or correction in stocks, at some point. When that occurs, it should be viewed as normal. We are not basing this on an event which we expect or can predict. We are just being realistic and want you to be emotionally ready.

Remember, in almost every year, there is a time when stocks decline 10% or more from a peak to a bottom point, even in a year which is positive for stocks.

One “known” risk that could shake the market would be a delay or trouble in passing health care reform or tax reform legislation. However, it is often unexpected events which cause sudden market moves.

While we view a correction of some type in the near term as normal, we are still positive about US and global stock markets, for the long term. We expect very short term interest rates to rise again at next week’s Federal Reserve meeting. It is possible there will be at least two-three additional .25% short term interest rate increases, after next week’s meeting, during 2017. We view these as positive, as the economy continues to be strong and not headed into a recession.

We do not feel that US stocks are in “bubble” territory, which would warrant a major downturn, such as occurred in 2007-09. Stocks have increased because of expectations of corporate and individual tax reform, as well as continued positive corporate earnings reports and future earnings expectations.

Many have asked us whether the rise in stocks is just due to the November election. Trump’s election certainly caused stocks in general to increase late in 2016, but we feel that much of the further increases in 2017 are still stock specific. Individual stocks react or move based on a company’s future earnings expectations and reported results.

For example, if most of the earnings reports of companies in 2017 had been below expectations or most companies issued lower future earnings guidance, the major stock indices would be lower today, irrespective of Trump, future legislation and de-regulation. This has not been the case. Companies have reported good earnings and better future guidance.

Stocks which have not delivered good news have been punished, in spite of the election. For example, Target and Under Armour have decreased by 22% and 27% in 2017, respectively, after announcing poor earnings and guidance earlier this year. So not all stocks have risen along with the general market.

For further reading about how markets perform after reaching new highs, see our blog posts, Actionable Information and Dow 20,000: The Implications.

We continue to be confident in our strategy and recommendations.

  • We firmly believe that a globally diversified portfolio is very important, given the unknowns about so many issues, such as:
    • corporate tax reform legislation
    • the direction of oil prices
    • the direction of interest rates
      • How can you know who the winners or losers may be?
  • We actively monitor your accounts for rebalancing to keep your risk in stocks at the level which is appropriate for you. This discipline will provide you with the best chance for a successful investment experience.
  • We provide you with a rational approach for your financial future, rather than allowing emotions to dictate financial decisions.

We recommend investing in passively managed globally diversified funds, not in individual stocks or just in large US companies, such as are included in the S&P 500. The funds we recommend provide you with diversification and the best chance to perform well versus actively managed funds and their respective benchmarks, at low costs.

As further evidence of how difficult it is to beat a benchmark, I noted the following in preparing this essay.

  • Seventeen of the 30 large US stocks in the DJIA outperformed the S&P 500 (the respective benchmark) during 2016.
  • Of those 17 companies which outperformed the S&P 500 (the respective benchmark) during 2016, only 7 of these companies have outperformed the S&P 500 during 2017, through March 6, 2017.
  • Six of the 30 stocks have underperformed the S&P 500 during both 2016 and YTD 2017, through March 6, 2017.

While this is very short term evidence and a very small sample, it is further confirmation of why our investment approach makes sense in both the short and long term.

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