Spring 2019 investment outlook
Bob Landaas: Kyle, the market came roaring back in the first quarter of this year. Pretty encouraging after last fall’s sell-off.
Kyle Tetting: Absolutely. You know, anytime you can see the juxtaposition of the fourth quarter of 2018 with those strong returns of 2019, I think an encouraging thing for investors.
Bob: The Federal Reserve did a pretty good about-face on interest rates, telling us as recently as December that they had a ways to go in raising rates and then by early January, they said, “No, we’re pretty happy where they are now.”
Kyle: And such an important piece for investors to see that they’re getting some tail winds now from interest rates, that stocks are so dependent upon the direction of rates, that bonds obviously are very dependent upon the direction of rates. And so it’s helpful to get that contribution from the Fed.
Bob: Kyle, I was taught early on never to fight the Fed. So, it’s a relief for me to not have to fight the Fed at this point in time, that they’re pretty happy with the current level of interest rates.
Let’s shift over to earnings. You know, last year was a head-scratcher for a lot of investors: earnings up over 20%, yet stocks lost 5.6% and, as you’re well aware, brought the forward multiples down from over 19 to just a little over 15 now. So, stocks are more fairly valued going into this year.
Kyle: Absolutely. You know, you start the year with some pretty tasty forward valuations. And even with such a run that we had in the first quarter, you still can’t say that we’re expensive—maybe fairly priced now. And so, I think investors looking ahead, there’s some opportunity in valuation as well.
Bob: Kyle, you and I talk all the time about how impressive it is that the stock market is a forward-looking indicator. So, I look at the sell-off from last fall and marvel that they’re calling the earnings recession. So, we’ve got negative growth in earnings this quarter, perhaps even into the second quarter of the year. And yet, now the market is rallying, which tells me that earnings will come out of their slump perhaps in the second half of this year, going into 2020.
Kyle: And as we look into 2020 earnings, the potential exists for double-digit earnings growth again. So that earnings recession is likely to be pretty short-lived, if we get what we’re expecting.
Bob: It is all about earnings.
You know, we had that sugar high from the tax cuts. The president signed the bill in December of 2017. GDP, as you know, was well over 4% for the first quarter of 2018. Then it fell every quarter. Latest estimate: 2.2% growth for the fourth quarter of 2018, just half of what we saw in the first quarter of last year.
Kyle: That’s certainly better than where we could be, certainly better than where many had predicted we’d be at this point in the cycle, and so, happy to see, two, and not a negative number. And at the same time, I think it points back to what you talked about earlier with the Fed and the idea that inflation’s not an issue. The idea that the Fed really sees an opportunity here to pause for a while, if not even cut interest rates.
Bob: Kyle, we’ve never had a recession in the United States that started overseas, something to talk about these days, with global growth slowing. You know, the trade conflict with China is not helping anything. And there’s hope on that front that the United States and China will reach some kind of agreement, hopefully this spring, unleashing potentially some capital spending.
Kyle: Certainly some more positive talks out of those trade negotiations. And if we should see some of that capital spending from corporations that have built record amounts of cash on their balance sheets, that could really be the next leg for earnings growth. It could be the thing that drives future earnings.
Bob: We had such a significant increase in share buybacks last year, up 63% to an all-time record $230 billion. That’s a lot of money. And yet, stocks sold off last year. So, potentially the companies will be able to redeploy that capital, hopefully to grow organically, which is really what’s best for shareholders.
Kyle: Absolutely. What you want to see is that money being spent on things other than simply handing it back to shareholders. Things like capital expenditures, things like research and development, because that few fuels the potential for future growth. And the challenge, of course, with corporate buybacks and dividends is that that’s a one-time thing, and so you’d really like to see some of that money get put to work in areas that are more useful for those corporations.
Bob: Kyle, this year there’s not much of a dispersion between the performance of growth stocks and value stocks. You know, the last five years we’ve seen really wide dispersion between the two groups, and now performance is all within a fairly narrow band.
Kyle: Absolutely. And I think it’s encouraging to see more broad participation and that it’s a sign that maybe this market has some legs still, a sign that we haven’t shifted entirely towards those growthier names because the prospects for growth has slowed that drastically. And so, I really think seeing that broad participation is an encouraging sign.
Bob: And finally, bonds are on a tear right now. The average bond fund’s up almost 3% for the year. You have to be encouraged by that.
Kyle: Certainly Bob, you know, we have tailwinds from the direction of interest rates for much of this year, and that’s been a huge boon for bond investors. Maybe not expecting much with the expectation as we entered the year that economic growth might continue. And as the Fed has said, they see economic growth potentially slowing down a little and have slowed down their expectation for rates. That’s, that’s been a good thing for bonds.
Bob: Thank you, Kyle.
Bob Landaas is chairman and chief executive officer of Landaas & Company.
Kyle Tetting is director of research and an investment advisor at Landaas & Company.
Money Talk Video by Peter May and Jason Scuglik
Leaning into the curve, a Money Talk article about inverted yield curves
Recession suggests balance, a Money Talk Video with Kyle Tetting
Growth, value and the business cycle, a Money Talk Video with Dave Sandstrom
The importance of balance for investors, a Money Talk Video
Ignore bonds at your own risk, a Money Talk Video with Kyle Tetting
(initially posted April 4, 2019)