Invest in Facts, Not Fears
- Consumers Adapt to Higher Pump Prices
- Companies Invest for Growth
- Count on Diversification
- Looking Ahead
As politically potent and optimistic as the geopolitical front looked last week, progress took a step back this week. The question of whether or not North Korea remains in a diplomatic rather than a despotic mood cast a thin pall over the markets.
Elsewhere, negotiations over a revised North American Free Trade Agreement (NAFTA) appear to have hit an impasse. Uncertainty over trade and broader geopolitical policies, whether in the Pacific Rim, the Middle East or closer to home, remains high.
World leaders will continue to negotiate these issues—like always, the daily news cycle will drive trader behavior. But the facts don’t lie; despite this being the second-longest economic expansion in our nation’s history, the fundamentals—earnings, interest rates, employment and other economic data—continue to suggest that growth has more room to run.
For the year through Thursday, the Dow Jones Industrial Average has returned 0.9%, while the broader S&P 500 index has gained 2.5%. The MSCI EAFE index, a measure of developed international stock markets, is up 1.4%. As of Thursday, the yield on the Bloomberg Barclays U.S. Aggregate Bond index has climbed to 3.43% from 2.71% at 2017’s end. On a total return basis, the U.S. bond market has declined 2.9% for the year.
Consumers Adapt to Higher Pump Prices
Rising oil prices are flowing through to higher prices at the pump—the average price of a gallon of gas rose 17 cents in April to the highest level since the summer of 2015. But, so far, that hasn’t stood in the way of consumers spending more elsewhere. And despite the fact that there are more gas-guzzling SUVs and trucks on the road than ever, higher wages and confidence appear to be overcoming the price of a fill-up at the neighborhood pump for now.
Investors and economists alike are now asking whether tax cuts will begin to flow into consumers’ wallets and spur more spending as we get into the summer travel season. It seems possible that higher gas prices will affect spending on bigger-ticket retail items, especially after household purchases of these so-called “durable goods” rose 0.8% in March. The question of when or if the consumer can ramp up purchasing isn’t something anyone can answer with certainty, and is something we’ll continue to monitor closely.
Companies Invest for Growth
With the new tax code putting more cash in corporate coffers and some regulatory red tape being cut away, companies are making the kind of investments that can lead to long-term profits, improved employment opportunities and growth in the broader economy.
While corporate spending on stock buybacks and dividend hikes has been getting a lot of media attention, it turns out that companies have also been investing meaningfully in their businesses. The initial estimate is that S&P 500 companies spent some $166 billion on factories, equipment and other capital goods in the first quarter—a 24% increase from a year ago.
Count on Diversification
Amid geopolitical concerns, small-cap stocks have been on a tear. As a refresher, “cap” refers to a company’s capitalization—the market value of its shares. So “small-cap” is shorthand for a company whose publically traded shares have a value of between $300 million and $2 billion or so.
The Russell 2000 and S&P SmallCap 600—indexes of small-cap stocks—both hit record highs this week. One theory is that with a recent economic slowdown overseas and lingering concerns over trade tariffs, traders and investors are seeing companies that generate most (if not all) of their profits in the U.S. as the best bet. In particular, the winners of late have been small-cap tech companies and the funds that own them.
But memories can be short on Wall Street—the small-cap hot streak is less than three months old. At the end of February 2018, relative fortunes were reversed, with large-cap stocks well ahead of smaller ones. As the chart shows, the turn to small-caps is, so far, a short-term phenomenon.
Wall Street’s shifting fortunes and alliances are why we firmly believe in the benefits of owning a diversified portfolio of stocks. It is a truism that no one rings a bell when momentum shifts from large-cap to small-cap or from domestic to international stocks. Diversifying your portfolio to have exposure to each of those broad market segments—particularly when you can find seasoned managers to actively allocate to these stocks or strategies that put market trends to work for you—is an approach we’re proud to hang our hats on and the surest way to participate when the market winds shift.
Next week we’ll get reads on regional manufacturing, new and existing home sales, durable goods, consumer sentiment and the minutes from the Federal Reserve’s meeting earlier this month.
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Please note: This update was prepared on Friday, May 18, 2018, prior to the market’s close.
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