January 2020 Thoughts and Insights
The year 2019 was exciting and unusual for the markets as all asset classes finished positive for the year. Stocks surged, despite slowing growth and lower profits, ending the year up 29%. Interest rates fell causing the bond market to rally (when interest rates go down, prices go up) and finish higher by 9%. Gold also rallied +18%. The major contributor to all these rallies was the Fed’s surprise reversal last January from raising rates to lowering them.
Looking forward, the outlook for the global economy in 2020 has slightly improved thanks to the US consumer sector and strong labor markets, but we do not expect equities to produce significant gains this year. In fact, one of the biggest risks today may be that stocks have already priced in much of the good news.
The phase one US-China trade deal has provided optimism to the markets and has helped to ease geopolitical and economic worries. Brexit risks have also faded, but England still has not signed a deal with the European Union.
The stock market data point that gives us the most cause for concern is equity valuations. Multiples are at all-time highs. Investors are increasingly paying much more for company earnings than they have paid on average in the past. So, while uncertainties have been reduced, the prices investors pay for stocks have risen, which begs the question of how much upside has already been priced into the stock market.
Heading into 2020, we also anticipate increased market volatility, mostly due to the US Presidential Election. The markets will be weighing potential changes in taxes, health care, and industry regulations.
Looking at the bond markets, the Fed looks to be on pause and analysts estimate the 10-year treasury to range between 1.8% and 2.1%. The biggest concern today is the significant amount of outstanding lower investment grade debt in the market. Should these companies face substantial downgrades, large sections of the bond market could lose value.
Since last year, we have taken a conservative approach to both our equity and fixed income portfolios in anticipation of a potential market pullback. We rebalanced our equity portfolios to add utilities and real estate, which are more defensive positions. We maintained our riskier holdings in emerging markets, biotech, and technology. All these holdings did very well. The assets that earned less, but still positive, were in healthcare and energy. The only underperformer was our market neutral fund that is designed to do well in declining markets, which was obviously not the case this year. In our fixed income portfolios, we sold bonds that are at risk of a downgrade and increased our exposure to US government securities. We added real assets to the portfolio with the goal to provide additional diversification and income.
Summary of Key Investment Themes for DTIM 2020
- We anticipate the market to be choppy with increased volatility. Even though recession risks have decreased, we do expect that economic growth will remain uneven over sectors and countries. Given the current high valuations with positive economic data already priced-in, we are neutral on stocks.
- In an environment where overall gains may be tough, we will focus on individual stocks and bottom up considerations like quality, strong balance sheets, reliable cash flows, and earning sustainability.
- Given this low yield environment, fixed income investing has become more challenging. We will continue to focus on high-quality issues and may buy longer dated bonds. The US continues to have higher rates compared to Europe and Japan, and there is the possibility that we head lower following their lead.
- Alternative assets, including real estate and other investments may provide diversified risk, return and income. We will continue to hold our market neutral fund to protect from potential downside risk and may add other hard assets and commodities to the portfolio for further diversification.
As always, we remain dedicated to serving your investment needs according to your goals. Please call or write with any questions you may have or join us in the lounge with the beverage of your choice for enlightening discussions.