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BREXIT Surprise: What Investors Hate More Than Uncertainty

By | 2016, Money Moxie, Newsletter | No Comments

“If you want to see the sunshine you have to weather the storm.” This advice from Frank Lane describes well the fortitude needed to invest successfully, especially in 2016.

This year began with two extremes: one of the worst starts ever for the stock market followed by a sharp reversal into positive territory. The second quarter gave us something completely different: calm—that is, until Britain’s exit vote from the European Union (BREXIT).

United Kingdom

Surprise!
Most experts did not expect the “exit side” to get 51 percent of the vote on June 23rd. This shocking outcome sent global stocks into a tailspin. After all, there is one thing investors hate more than uncertainty—surprise!

Then a reversal: Six days before the vote and six days after, the S&P 500 index was roughly equal.

We can’t dismiss this historical event completely. The BREXIT vote is profound, not just for its economic impact, but because it clearly demonstrates the extent of anger in Britain and the world with slow growth. The change is contrary to the way the world has been moving since WWII—a time of globalization that has been relatively peaceful and prosperous for the world.

Now, Pandora’s box has been opened and the discontented individuals around the globe may feel emboldened by the BREXIT outcome. The British will now try to stop Scotland and Northern Ireland from leaving the country, as well as businesses in the UK.

Global Trade
If the movement against global trade continues, there may be adverse effects. These could include lower growth and higher inflation.

U.S. Dollar
Uncertainty sends investors to “safer” areas like the U.S. dollar. As the dollar strengthens, imported goods become more affordable and “Made in the U.S.A.” goods become more expensive. A strong U.S. dollar can also hurt U.S. companies because their exports are more expensive to consumers outside this country. Of course, as investors, we are owners in many of these companies.

The strong dollar was a problem in 2014 and 2015 for corporate earnings and the stock market. How big of a problem it is in the future depends on how high it goes.

Interest Rates
Low interest rates may be around for a while longer. The Federal Reserve wants to raise rates back to “normal.” However, it can’t risk destabilizing the markets and it wants to stay away from influencing the election.

Consumers
Short-term benefits to consumers will come in the form of lower interest rates and a strong dollar. Rates could be even more attractive on mortgages, auto loans, and other forms of debt.

A strong dollar should also help make international travel and international goods a little less expensive. Even the rise in oil prices should slow down, which will help keep gasoline prices down for consumers.

Volatility in stocks may increase as investors adjust to the new realities. I would consider any significant drop as an opportunity.

BREXIT is unlikely to have a major impact on U.S. consumers’ jobs, wages, debt, or spending. U.S. consumers are strong and their spending drives 70 percent of U.S. economic growth!

This surprising storm has passed and the sunshine has appeared again. While uncertainty may drive the market over short periods of time, economic growth will drive it in the coming years.

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When Will Stocks Go Higher?

By | 2016, Money Moxie, Newsletter | No Comments

Stocks got off to a rough start in January and February as investors began to fear another recession. At the same time, consumers continued to keep the U.S. economy moving in the right direction. This divergence caused us to ask, which one is right? Are things getting better or worse? If the market is going to improve how strong will it be? Below is a list of what I think we need for stocks to move to new highs. Feel free to check the boxes if they become a reality.

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(1) Oil prices stabilize.
Investors need a dose of reality: low oil prices are good for the economy. Falling oil prices often follow, but do not lead to, recessions. What we need is for prices to stop declining so rapidly.

Oil is falling because the global supply is much
greater than demand. Even at these low prices, producers need to pump oil for cash. Fortunately, the decline is slowing. This is because demand and supply are getting close to a balanced level.

Global oil demand is at 96.5 million barrels/day and growing at 1.5%. Global supply is at 96.9 million barrels/day and is currently falling at a rate of -0.5%. This does not mean prices will move significantly higher, but they may stop falling.

With sanctions lifted, Iran could boost supply by 4 million barrels/day. Demand won’t grow fast enough to balance that much oil for a few years.

So, get used to low oil prices. They may be with us for a while–probably until several indebted producers cease oil production. At that point, oil prices could rise a little, fear over corporate debt should ease, and stocks will be more likely to climb.

(2) Political frontrunners emerge.
Who will be the next President of the United States? Investors are uncomfortable with this uncertainty, but they don’t have to wait until Election Day to feel better. With each election primary, the uncertainty diminishes.

(3) The Fed acknowledges global volatility.
What happened to “data dependence”? With its December rate hike the Federal Reserve announced that it intends to slowly raise rates in 2016 and 2017. It defined slowly as four rate hikes of 25 basis points each.

Rather than applaud transparency, investors have questioned the Fed’s determination.

Globally, central banks are doing the opposite: dropping rates to levels below zero in order to encourage risk taking, economic growth, and job creation.

(4) Evidence of consumer spending increases.
Will consumers continue to hold up this economy? The U.S. consumer represents 70% of the U.S. economy. China, on the other hand, represents approximately 2% of direct trade with the United States. That means that the consumer is 35 times more important.

Consumers are stronger than any time in the last 25 years. They are pocketing roughly $1,000 a year in energy savings. In 2015, spending increased 3% while purchases rose for autos (+5.8%) and homes (+7.5%).

With all of the good news about the consumer, the main concern is if these numbers are peaking. I think not. Unemployment is low (4.9%). Job postings are high (5.4 million). Wages and salaries increased by a reasonable and healthy level (+2.9%).

The final bit of good news on the consumer is that their debt-to-income levels are near their lowest point since the government started tracking them in 1981. That means there is still room for this 70% of the economy
to grow.

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The Irony and The Ecstasy

By | 2016, Executive Message, Money Moxie | No Comments

Dear Valued Financial Partners and Friends,

The evening news often features the familiar image of the New York Stock Exchange (NYSE). It typically shows a group gathered on the balcony overlooking the trading floor ringing the opening or closing bell.

The irony. I’ve always shared a chuckle with Sharla’s husband, Rich, for his astute observation: “When the stock market drops significantly, why do the people on the balcony clap so enthusiastically during the closing bell?” Great question. (Actually, it’s because their company is being featured or recognized.) But the celebrating of a down day is truly ironic!

More irony. The stock market dislikes uncertainty. However, it is that very uncertainty that creates the opportunity for profits over the long run. The irony: The stock market, or more correctly, the market of stocks, thrives on uncertainty.

The ecstasy. Here’s what Jeremy Siegel, PhD, said in the foreword of the 5th edition of his book, Stocks for the Long Run: “…there is overwhelming reason to believe stocks will remain the best investment for all seeking steady long-term gains.”

Most of us are worried about our money lasting as long as we do. If we are too conservative or if we are too aggressive in our investing, we could easily end up with the same outcome—not having adequate funds. If we are too conservative and are averse to taking any risk, then our investments cannot keep up with inflation. If we are too aggressive and take too many chances, then we may forfeit what we have because we have risked too much.

For most of us seeking stock market gains, the stock market could be considered boring. It’s like watching paint dry or grass growing. However, time and patience work wonders. Keep Jeremy Siegel’s professional research and expert opinion in mind.

The ecstasy can come from sound investing and prudent financial planning. Remember, as a nationally recognized wealth manager, Smedley Financial’s motto is, “Your financial success is our passion!”

Bullish Best Wishes,

Roger M. Smedley, CFP®
President

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Stocks Finish Their Worst Year Since 2008

By | 2016, Money Moxie | No Comments

“It’s tough to make predictions, especially about the future.” One cannot argue with these words from Yogi Berra, who passed away September 22, 2015. After all, conditions in the world change much more frequently than people would like. With that said, let’s review my predictions for 2015 and discuss what changed last year.

January MarketPoint_Page_2_A

(1) Oil prices will remain near their lows until a major supplier cuts production.
No major supplier cut production and oil prices did end the year lower–lower than any reasonable forecast would have stated. We began the year at $53.45 and finished at $37.53 per barrel. That’s a 74% drop from $145 in 2008.

This is great news for U.S. consumers! It’s hard to remember the last time a stop at the gas station was so cheap!

January MarketPoint_Page_2_B

(2) Job growth and wage growth will continue. Our economy averaged 220,000 new jobs per month, which is over 2.6 million added in 2015. Unemployment continued its steady decline as it fell from 5.7 to 5 percent.*

This tighter labor market should increase wages, but the increase last year in income was just 2 percent–positive, but not as strong as I thought it would be.

(3) The Federal Reserve will be more patient with rates than most investors expect. The consensus view 12 months ago was that the Fed would raise rates in June. It turned out to be December and it was just a quarter of one percent.

January MarketPoint_Page_2_C

(4) Increased volatility will continue in 2015. The S&P 500 rose 3.5 percent, fell over 12 percent, rose almost 13 percent, and then finished down for the year. The S&P 500 rose or fell at least 1 percent twice as many days compared with 2014. December, one of the best months historically, was negative by more than 3 percent.

(5) The world will not pull the United States into recession. Our economic growth rate is 2.2 percent and it appears that the U.S. economy has helped lift those of other nations around the globe.

 

*Research by SFS. Data from Federal Reserve Bank of St. Louis. Investing involves risk, including potential loss of principal. The S&P 500, S&P 600, and Dow Jones Global are indexes considered to represent major areas of stock markets. One cannot invest directly in an index. Diversification does not guarantee positive results. Past performance does not guarantee future results. The opinions and forecasts expressed are those of the author and may not actually come to pass. This information is subject to change at any time, based upon changing conditions. This is not a recommendation to purchase any type of investment.

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The Virtuous Cycle of Rising Prices

By | 2014, Newsletter, Viewpoint | No Comments

Imagine waking up tomorrow to discover gasoline prices have dropped in half. What if milk, eggs, and all your groceries cost less as well? Suddenly, your money would be worth more. Sounds great, right? It wouldn’t take long for the heavy weight of reality to hit you.

Consider how knowledge of tomorrow’s pricing might affect today’s behavior. Assuming no shortages, we would be crazy to buy today what would cost less in 24 hours. While falling prices (deflation) sound nice on the surface, they can have disastrous consequences.

Deflation's Destruction

Deflation has been present in most economic depressions in history, including the Great Depression. The initial causes may include productivity increases, oversupply of goods, or scarcity of money.
A rise in productivity has been occurring for centuries with greater education and technology. In fact, a U.S. worker today, on average, can produce twice as much as a worker in 1975 and 50 percent more than a worker in 1995! Outsourcing to cheaper foreign labor has a similar effect on productivity as technology.

Supply of goods fluctuates, especially with food and energy. For example, a drought in 2012 led to a rise in grain prices like corn, which made feed cattle more expensive in 2013, which led to higher dairy and beef prices in 2014 (see Price Changes table).

Price Changes

Scarcity of money is where the U.S. Federal Reserve (Fed) comes in. The Fed encourages low unemployment and low inflation by managing the money supply.

The Fed cannot control the weather in the Midwest, extract more oil from Saudi Arabia, or raise the minimum wage in China. But the Fed will do everything it can to avoid deflation. Since 2008, it has spent over three trillion dollars to stabilize falling prices.

Rising prices are normal in a healthy economy. The 50 year average for inflation is 4.1 percent. This reasonable rate encourages spending and creates a virtuous cycle of economic growth (see Inflation’s Value graphic).

Inflation's Value

All the current numbers in this cycle are good, but below average. Over the last twelve months inflation has been 1.7 percent, wage increases averaged 2.8 percent, and consumer spending grew 3.6 percent.
The most recent U.S. growth rate showed an increase of 4.2 percent. That is a great number. If it is followed by another increase in another category like wages the growth cycle could pick up speed. The result could help the current bull market continue.

Definitions

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3 Myths of the Market

By | 2014, Viewpoint | No Comments

Every year we find reasons to question the future prosperity of America. We wonder whether investors’ prospects are dimming. Last year, our minds were occupied with government slowdowns and shutdowns. This year, we are more focused on the question, “Has the stock market come too far too fast?” While the problems are real, they should not derail us from our plans. Most difficulties are overcome and the myths of the market are not true. Keeping proper perspective will help us make better financial decisions.

Myth #1: Investing is rigged
The U.S. stock markets are the most efficient in the world. All investors have the potential to build their wealth as they participate in it. The longer we invest in a diversified portfolio, the more likely we are to have success.

There is a related question, “Is investing like gambling?” The clear answer is no. When we invest we purchase part of a company (stock) or a promissory note (bond). We become owners of these and we have rights to future cash flows that may come from them. The risks and outcomes are determined by the free market. If a company is successful then all investors that own it have the potential to benefit.

This does not mean that markets are perfect. There have always been some who try to take advantage of others. However, investors become their own worst enemies when they make poor financial decisions. Saving too little and trading too often are two of the most common mistakes. Save sufficiently and invest wisely to attain your goals.

American Manufacturing

Myth #2: America is broke
The United States is in better shape now than it has been for many years. The unemployment rate is down to 6.3 percent and consumer confidence is up. Workers are expecting raises, and according to surveys of executives it looks like it may actually happen this year. Household debt is at record-low levels and corporations have more cash than ever.

Some people may argue that we don’t make anything in this country. This is false. U.S. manufacturing is up 22 percent since 2009 and near record levels. We have an abundance of natural resources, educated workers, and innovation. We have laws to protect and promote business.

Worries over ballooning government debt (over $17 trillion) are diminishing for now. The expanding U.S. economy has led to greater tax revenue (up 8 percent) and a lower deficit ($306 billion). These numbers may not sound great. We still have a long way to go to reach a surplus so we can pay off some debt, but these are the best numbers since 2007. The future appears brighter.

Myth #3: A market crash is imminent
Herbert Stein famously said, “If something cannot go on forever it will stop.” We all know that when the market stops climbing, it can be painful. Two stock-market crashes in the last 15 years are still vivid in our memories. However, just because stock prices have increased doesn’t mean a crash is coming this year.

What can we expect?
The Dow Jones index had double-digit increases in 2012 and 2013. This has happened more frequently than one might think. In the last 99 years, returns of this magnitude have occurred back to back 22 times. What happens in the year that follows two positive, double-digit years? The average return is a positive 5 percent. That would be a reasonable expectation for 2014.

When we examine critical factors for a healthy market, we see more positives than negatives right now. Of course, there are no guarantees.

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Living in The Great Rotation

By | 2014, Money Moxie, Newsletter | No Comments

Picture a giant wheel moving ever so slowly up a hill. When you look at it from the side, you can see two dots on the edge that are directly opposite each other. As the wheel moves, those dots rotate. As one dot is on top the other is on the bottom. As the wheel continues to rotate, the dot that was on the bottom will eventually get back to the top and vice versa. This mental illustration that you have drawn demonstrates the relationship between stocks and bonds over time.

When the stock market1 dropped over 55 percent, from October 2007 to March of 2009, the giant wheel ended up with stocks on the bottom and bonds on top. This happened as people and institutions pulled some of their money out of stocks and put it into the relative safety of bonds.

Leadership in performance between stocks and bonds rotates like a rolling wheel.

Leadership in performance between
stocks and bonds rotates like a rolling wheel.

Fast forward almost five years and now that trend is reversing. 2013 saw some of the largest outflows from bonds with the money going into stocks.2 As CNBC writer Dhara Ranasinghe puts it, “A ‘Great Rotation’ out of bonds into stocks is only just underway and is setting up to be one of the major investment themes of 2014.”3

Great Rotation quote It is important to note that this great rotation takes time. It doesn’t just happen overnight. It has been almost five years since the stock market bottom of 2009 and it may take more time before stocks hit the top.

One of the drivers of the great rotation is inflation. Inflation is bad for bonds as it makes them worth less. Inflation could ensure that bonds stay on the bottom of the giant wheel for a while.
There are long-term signs that are positive for the economy and stocks. The housing market is coming back, U.S. oil and gas production is booming, and a manufacturing renaissance is taking place.4 This could lead to good long-term growth for stocks.

Along the way there will always be bumps in the road which result in short-lived reversals of the great rotation. However, the giant wheel keeps moving slowly. For now, that means that stocks are king of the mountain. Of course there are no guarantees.

1. The stock market defined as the S&P 500
2. Roben Farzad, “In Search of the Great Rotation,” Bloomberg Business Week, Aug 23,2013: http://www.businessweek.com/articles/2013-08-23/ in-search-of-the-great-rotation
3. Dhara Ranasinghe, “And We’re Off: the Great Rotation Gets Into Gear,” CNBC, Nov 20, 2013: http://www.cnbc.com/id/101212837
4. Fidelity, Investment Themes Quarterly Update, July 2013

Research by SFS. Data from public sources. This is not a recommendation to purchase any type of investment. Investing involves risk, including potential loss of principal. The Barclays U.S. Aggregate Bond Index, Dow, and S&P 500 are indexes considered to represent the U.S. market. One cannot invest directly in an index Past performance does not guarantee future results. The opinions and forecasts expressed are those of the author and may not actually come to pass. This information is subject to change at any time, based on market and other conditions, and should not be construed as a recommendation of any specific security or investment plan.

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