The best part of being at Focus is meeting so many advisors for the first time, putting faces with names, and listening to all the great ideas. As an example, advisors asked us to launch a podcast, we listened, and LPL was the first broker-dealer to provide advisors a podcast dedicated to the markets and economy. One year later, we’re still going strong. Can we say the same for our markets?
Challenging market environment
It’s been a challenging market recently. Retail sales have been good, the U.S. consumer continues to be the engine of growth, and jobless claims are at 60-year lows. The S&P 500 Index had its best start to a year since 1997—and yet the S&P has been down three weeks in a row!
Let’s talk about policy
Trade is the uncertainty in the equation. China’s data continues to be weak, and our stance remains that both the United States and China have so much to lose in a prolonged trade dispute. Although talks are scheduled for September, we think it may be 2020 before we see a trade agreement.
It’s also time to distinguish between fiscal policy and monetary policy. Fiscal policy includes taxes, regulation, and government spending, all of which are tailwinds; trade is the headwind. We had been counting on fiscal policy to help extend the expansion, but now we’re counting on monetary policy to lead us through.
Which brings us to the yield curve. We think the yield curve is inverting because of “relative valuation,” where the United States is less absurdly priced than the rest of the world, and not because it is signaling imminent recession. Looking back at historical trends, recessions have occurred 21 months on average after the yield curve inverted. Trends also show that one year later, stocks were up 14%.
Moving on to the Economy
At some point, however, the economy has to tire out. Maybe the 2020 presidential election will be the reason for that. Right now, though, we have a lot going for us, including a fully employed consumer, low inflation, and no signs of stress in the credit markets. However, investors expect the U.S. Treasury 10-year yield to go lower—and sentiment can change price—so we adjusted our 10-year yield forecast down for this year.
Last week we also reduced our estimates for gross domestic product (GDP) to around 2%. Corporate profits blew it out last year, but we’ve taken corporate profits down to $165 this year due to trade uncertainty. We believe as the Federal Reserve cuts rates, the price to earnings ratio (P/E) could escalate, so we’re looking at $18 to $18.25 P/E on $165, which takes us to the stock market fairly valued in the 3,150 to 3,200 range next year.
We need clarity on trade and clarity with the Fed before we can begin moving higher. The one thing that is clear to us, however, is it will not be a straight line.
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