July 6, 2018 Letter to Clients

I hope this letter finds you doing well and having enjoyed the Fourth of July. I recognize this letter is coming on the heels of our recent estate planning letter; however, we always strive to keep our clients afloat on the market sentiment, which will be the focus of this letter.

Market Overview

Political theater has dominated the headlines in the last few months causing the markets to react in ways unlike the sedate markets of 2017.  The first half of this year couldn’t be any more different than the entirety of 2017. Last year the S&P 500 moved 1% just eight times in a single trading day, while so far this year it’s moved the same percentage nearly 40 times. There has been a plethora of market distractions this year ranging from trade negotiations and geopolitical concerns to higher oil prices and U.S. midterm elections. But despite the headlines and noise, economic fundamentals remain sound and the U.S. is well positioned to maintain its impressive performance over the remainder of the year.

I maintain my outlook that volatility will continue throughout the second half of 2018. Volatility may sound ominous, but it is a natural part of the investing cycle and often presents opportunities for investors. Volatility was essentially absent in 2017 as it was the calmest year for the markets in more than 5 decades.  Despite last year’s performance, the markets have returned to more normal conditions.  As you may recall from our previous two market commentary letters for the year, I expect the markets to continue to experience bumps.  But stocks should still deliver solid returns in the second half of this year, although more realistic and modest returns than we saw in 2017.

Halftime Report: Can the bull market keep going?

We are in the late stages of the second longest bull market as shown by the S&P 500 Index, and the U.S. economic expansion is one year away from being the longest in history. The U.S. economy is the healthiest it has been in almost 10 years, a contributing factor to potentially help keep the bull market going. We are also beginning to see the effects of the U.S. tax reform with improved corporate profits and lowered taxes on individuals. With more money in consumers’ pockets, consumer spending is likely to rise. U.S. companies also managed to grow revenues by nearly 10% in the first two quarters, and further business growth and productivity because of increasing capital expenditures should help keep a lid on inflation. Stronger corporate earnings and a healthy economy should take stock prices higher to end the year.

What’s the biggest risk to the bull market?

The biggest risk to the current bull market would be a jump in inflation, causing the Federal Reserve (Fed) to become aggressive with interest rate hikes. U.S. midterm elections could bring a change to party leadership in Congress adding to policy uncertainty, as well.

How many more rate hikes from the Fed?

Last month, the Fed announced its second rate hike of 2018 increasing interest rates by a quarter-point. The Fed has also signaled that there may be two more rate hikes to come by December as it wants the federal funds rate, a key short-term interest rate, to eventually reach 3% (a “neutral” level) that would neither stimulate economic growth nor choke it. The rate is 2% right now and is expected to hit 2.5% in 2019.

Trade Fears and Investor Emotions

Recent fears of a trade war triggered by U.S. protectionism and the retaliation it invites have created more market activity in the last several months. But what is a trade war? A trade war is defined as a situation in which countries retaliate against a country that imposes trade barriers such as tariffs. Given the relatively small amount of imports being taxed so far, the direct impact is not massive. However, we are carefully monitoring the trade issues and I expect that the topic of trade will continue to dominate the news. It is my opinion that tensions will lessen as tough trade rhetoric is often followed by softer solutions, which in turn will help stimulate the overall global markets pushing equities and certain sectors higher.

The market has remained resilient as it has been able to recover from intraday pullbacks during the first half of this year, but it’s important to have realistic expectations going forward. The markets will move up and down, but our office employs tactics to reduce risks through diversification not only in stocks, bonds and cash, but within each asset class in the event of market swings. In my experience and based on my research on the current condition of the market and the economy, I still anticipate that the markets should deliver high single-digit to low double-digit returns to end the year.

Remember that success in the market does not depend on predicting the future, but in managing our emotions during times of volatility. Clients of our firm are in well-thought-out portfolios with the goal of meeting short and long-term needs, and while there is always risk in the markets it is manageable with balance, agility and focus. Should you have any questions regarding your portfolio or your risk tolerance, I invite you to contact our office.  

I hope you enjoy your summer and find time to kick back and relax.

 

Best wishes,

Steven LePage