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The Fed

Can We Stop the Tide?

By | 2020, Money Moxie | No Comments

I love Warren Buffett’s metaphor about the tide going out. It’s hilarious and true. Jerome Powell’s response demonstrates the magnitude of the task at hand in 2020. Now, a confession: Jerome Powell never said he could stop the tide—at least not in words. However, he is trying to stop the economic tide from allowing struggling businesses to borrow more and more money until the current global healthcare crisis is over.

A little background: When the federal government exceeds its budget, it must borrow. There is only one government agency where this does not apply, the Fed. My favorite metaphor for the Fed is the hammer. To a hammer, everything looks like a nail. Whether we are in a real estate crisis or a global pandemic, the Fed has one response: create money. And because it does not have to borrow, there is no limit to the amount it can make. The Fed wields a hammer of infinite size.

Just as you may have projects at home that require other tools, it makes sense that a hammer cannot solve all of America’s problems. A pandemic seems like it may be one of these. It has not stopped the Fed from trying. In less than 3 months in 2020, the Fed created more money than it did during the previous 12 years combined. (That includes the 2008 Great Recession and the trillions of dollars to get out of it.)

A consequence of the unprecedented government intervention is a massive amount of wealth creation. The Fed’s money goes mostly into debt markets, which pushes prices higher and makes the owners of assets wealthier. The wealthiest 10 percent of Americans own approximately 80 percent of market assets, so there is an unintended consequence of increasing the wealth gap. This is not the Fed’s fault exactly. Remember, it may have unlimited amounts of money, but it is really limited in how it can spend it.

You may be wondering, doesn’t printing money create inflation? Why haven’t we seen it in the last decade? Inflation is rising prices. It has averaged only 2 percent despite the $7 trillion created by the Fed during the previous 12 years and the $27 trillion borrowed by the federal government, most of this over the last 20 years. Instead, let’s describe it as follows: “Inflation is when prices go up for the stuff you want.” By that definition, I think inflation has been higher than 2 percent.

So, will we see inflation get even worse? All it takes is for demand to grow faster than supply, but this hasn’t happened yet. Consider investors like Jeff Bezos, Bill Gates, and Warren Buffett. When the Fed pushes up the value of their investments, do they buy another home or a big-screen TV? The wealth creation that the Fed engages in is unlikely to turn into major inflation unless it creates a significant increase in demand. Once consumers get accustomed to rising prices, then further increases may follow.

If the Fed had written checks out to every American for $21,000, there would have been a massive increase in spending. Demand would have been way beyond supply, and the prices of homes, cars, and other items would have skyrocketed. The Fed cannot do this, and it wouldn’t want to. Stable prices and full employment are its two mandates.

However, I believe that a more mild increase in inflation may come in the next decade. While the Fed’s money went into financial assets, there was an effort by the federal government to help Americans more directly.

The CARES Act provided $1,200 in cash to most Americans, including approximately 70 million children and over a million deceased. In addition to this, around 20 million unemployed Americans received a $600 per week boost to unemployment benefits.

All this adds up to a lot of extra stimuli, and it has had a more direct impact on spending, saving, and even investing. Approximately 30 percent of all income is now coming from the government.

The federal government is $27 trillion in debt, which is well beyond the size of our entire economy. And there may be even more stimulus coming.

As this stimulus works its way into the economy over the coming years, we may see inflation begin to rise for the first time in a long time.

Another potential impact of the Fed’s actions is also unintended. We call it moral hazard. If we avoid the pain and devastation of recession, then when will we learn the hard lessons?

Finally, will all this help productivity and innovation or hinder it? Will we have to pay off any of this debt, or will we use inflation to make it less meaningful? Only time will tell.

Even with all the uncertainty, the Fed firmly believes it does not have much choice. Jerome Powell likes to describe the Fed stimulus as a bridge to keep Americans out of financial harm until this crisis has passed. This is what I would call the Great Financial Experiment of 2020. This is not only happening in the United States but all over the developed world.

The success so far has been stunning and without major unintended consequences, but it’s also still early–very early. So, as investors, we look for opportunities to participate, but we never forget the risks. Only time will show if the United States of America and the rest of the developed world successfully stopped the tide from going out.

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Year of the Coronavirus

By | 2020, Money Moxie, Newsletter, Travel | No Comments

Coronavirus was difficult to recognize and impossible to track when first contracted around November 17, 2019. It was misunderstood in China. Dismissed in America. Many said, “it’s just the flu.” But Covid-19 is no ordinary flu. Those infected are contagious days before symptoms show. Some may never have symptoms as they spread the disease. It is a novel strand of the Cornovirus, and that means it’s new, and there is no immunity to it. Most of us are likely to catch it sometime in the next 12 months.

The healthcare system is ill-prepared for an outbreak. We have the expertise, equipment, and medicine. We do not have the capacity. This is where flattening the curve comes in. The goal of the government is to slow the spread of the virus to buy time to help those infected and those researching prevention and treatments.

In 2020, the stock market lost 20% in roughly 20 days. Historically, it has taken 400 days from the market top for it to fall by 20%. The 12-year-old bull market is over.

Over the last few years, we have had a smooth run interrupted by violent drops. The S&P 500 dropped roughly 19% in 2016 and twice in 2018. This week, it finally reached 20% and then kept going.

There is so much we don’t know, so we will focus on what we do know. American consumers will continue to spend. We are resilient. However, there is a shift in where we spend. This has led to a lack of global demand for oil. OPEC producers prefer stable prices and would like to cut oil supplies to push prices higher. Russia refused to cooperate, which has driven prices sharply lower. The United States is now a major world producer, so we find our country caught in the middle of this unexpected consequence of the current pandemic.

Falling energy prices are both bad and good. The immediate impact is bad. Energy suppliers feel the financial pinch. Some may default on debt payments, which could domino through the economy. Eventually, these lower prices reach consumers. I have never heard a friend complain about low prices at the gas pump. This leads to more flexible spending and more growth. It takes about 18 months for the low price of oil to show up in higher economic growth. Of course, the financial markets anticipate.

Don’t fight the Fed. The Federal Reserve lowered its overnight interest rate to zero and announced it will inject $1.5 trillion into the financial system to keep the markets functioning properly. This is more money than the Fed has put into the markets in the last 5 years combined. The entire Federal Government budget is $3.8 trillion. So, while the Fed can’t fight the virus, it is doing what it can to prevent a breakdown as we experienced in 2008.

When will financial markets come back up? (1) Investors need to wrap their minds around all the sudden changes to everyday life, and (2) The growth of Coronavirus cases must slow. Problems don’t have to disappear. Investors just need less uncertainty.

When all the news turns negative, any sign of hope could be the turning point. That’s what makes predicting the future so difficult. And this is why we work so hard to manage risk and be invested to participate in long-term growth.

*Research by SFS. Data from the Federal Reserve Bank of St. Louis. Investing involves risk, including the potential loss of principal. The S&P 500 index is widely considered to represent the overall U.S. stock market. 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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Climbing a Wall of Worry

By | 2020, Money Moxie, Newsletter | No Comments

Climbing a wall of worry is a common phrase in the investment world. The implication is that the market will move higher as it overcomes uncertainty. In 2018, the U.S. stock market had its worst December since 1931. It followed with the best returns since 2013. The American consumer kept things going in the economy at just above 2 percent while interest rate cuts and asset purchases by the Federal Reserve made all the difference for the markets.

Don’t Fight The Fed

In 2018, the Federal Reserve (Fed) was on auto-pilot: raising interest rates unless something went wrong. By December 2018, the Fed’s actions spooked investors.

By July 2019, the 2-year government bond paid a higher interest rate than the 10-year. That is what we call an inverted yield curve. The short-term rates are somewhat controlled by the Fed. The long-term rates are more driven by investors. So, the inverted curve is the result of investors believing that the Federal Reserve is making a mistake by keeping short-term rates too high. Over the last 50 years, the Fed has never been so quick to react as it was in 2019. This very well could have helped us avoid a recession in 2019-2020.

The Fed seems willing to do whatever it takes to keep this steady economy going, but the Fed is also going to try to stay out of the way in an election year. I expect it will take a large change in the economy to entice the Fed to make any changes to interest rates.

After three interest rate cuts last year, the Fed really may not have to engage in more stimulus in 2020. The impact of those cuts is likely to trickle down into the U.S. economy this year.

More Slow Growth: No Recession

The U.S. economy has averaged 2-3% economic growth for the last 10 years. This trend is likely to continue. Corporate earnings in the United States ended 2019 near zero. Expect a bounce. However, uncertainty over global demand, trade, and politics will probably continue. Once again, economic growth will rely heavily on American consumers.

Coronavirus: Watch For a Peak

Coronavirus has spread incredibly quickly through China, and around 2.3 percent of those who become infected, die of the disease. The World Health Organization (WHO) declared it a global health emergency on January 30, 2020.

Of recent outbreaks (Ebola, Zika, & SARS), SARS seems the best comparison. SARS spread more slowly. The World Health Organization did not declare it a global crisis until the number of people infected peaked (March 12, 2003).

In 2020, the Chinese government and the WHO have acted more quickly to contain Coronavirus. If successful, infections should peak in February. If efforts fail immediately, it seems likely that, just as with SARS, Coronavirus will be on the decline by March.

*Research by SFS. Investing involves risk, including the potential loss of principal. Dow and S&P 500 indexes are widely considered to represent the overall stock market. 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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2017: Record Breaking Year

By | 2018, Money Moxie, Newsletter | No Comments

Entering 2017, I was more optimistic about the potential growth in stocks. In fact, my expectations were higher than 13 of 15 major investment companies. This optimism became a basis for staying invested throughout the year whether the market went up or down. The results were very positive.

I also assumed that at some point in 2017 we would wake up to some major down days. This never happened. The market just continued to climb all year long.

The S&P 500 (with dividends) rose every month last year for the first time ever! A positive return in January 2018 would bring the streak to 15 months in a row. Second place goes to a streak of 10 months stretching from December 1994 to September 1995.

These are powerful trends, considering the probability of any month being positive is around 60 percent. Strong momentum like this typically continues even after the streak is broken.

A second record was set that began in the final days of December. The Dow Jones Industrial Average had its quickest 1,000 point gain ever!

For three consecutive years I have accurately predicted the major actions of the Federal Reserve. I wrote: “This year, I am going to try something new: accepting the Federal Reserve’s forecast that it will raise rates 3 times in 2017.” That is exactly what happened.

I believe that keeping an eye on the Fed this year will be even more important than it was in 2017. You can see my analysis for 2018 here.

 

*Research by SFS. Investing involves risk, including potential loss of principal. Dow and S&P 500 indexes are widely considered to represent the overall stock market. 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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2017 Predictions

By | 2017, Money Moxie, Newsletter | No Comments

Market movement since Election Day has been massive and investors see this as confirmation of just how good Republicans are going to be for the economy. How could so many investors be wrong? Actually, fairly easily.

Right or wrong, investors should be careful not to get carried away. There is a high amount of uncertainty and no way to know what the future will bring.

(1) Trump Rally
The big move in stocks in November and December has been an acceleration of the positive momentum already taking place in the economy. It has been characteristic of many presidential election years with a good economy.

It is completely normal to get excited, but don’t let it lead to overconfidence. Few things last forever and most years have their ups and downs.

It is not unusual to see inauguration day (Friday, January 20, 2017) mark a change for investors as they realize the new president does not have a magic wand.

(2) Dow 20K
The Dow stock index has been flirting with 20,000. It just could not quite get there in 2016. In 2017, I believe it will! And it will likely cross that mark many times.

The first time the Dow reached 10,000 came in March of 1999. Over the next 11 years, it crossed that level on 34 days until it surpassed it a final time in the summer of 2010.

It’s hard to fight gravity and it’s hard to turn a large ship. There is so much positive momentum right now that I expect it to continue. Unemployment is falling. Wages are rising. Confidence is climbing.

One unknown is the impact of policy changes on global trade, which may decline this year as the United States turns its focus inward.

(3) Fed Does Its Job
The Federal Reserve is likely to “take away the punch bowl just as the party is getting started.”

For two consecutive years I have accurately predicted that the Fed would be more cautious than its own forecast. This year, I am accepting the Fed’s forecast that it will raise rates 3 times in 2017.

Of course, no one knows with certainty because with each rate hike, I expect investors will become more concerned.

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2016 Review

By | 2017, Money Moxie, Newsletter | No Comments

“If you want to see the sunshine you have to weather the storm.” In its first 3 weeks, 2016 delivered investors more than a 10 percent loss–the worst start in 80 years. Our natural human instinct at such moments is to feel that it will continue, but predicting the markets is extremely difficult.

In a dramatic turnaround, the U.S. stock market rose in February and March–recording the best recovery in 83 years.

(1) Fed will move slowly. The Federal Reserve planned to raise rates 4 times in 2016. This aggressive forecast in combination with falling oil prices spooked investors. Then came the uncertainty of Brexit and the U.S. elections. By year end, the Fed raised rates just once (in December).

(2) Election years are not recession years. I expected the economy to grow and for the market to continue to rise as our bull market entered its 8th year.

This positive outlook proved beneficial in the early days of 2016 when the resolve of many investors was tested. The market turned positive and remained there for most of the year.

(3) United States grows and the dollar slows. A strong U.S. dollar is not as good as it sounds. Sure, it’s great for Americans traveling overseas, but it presents challenges for large U.S. companies and investors.

The year began with too much strength: From July 2014 to January 2016, our dollar rose against every major currency around the globe! It gained 20 percent versus the euro and 54 percent versus the Russian ruble!

Fortunately, the U.S. dollar spent 9 of the last 12 months below January 2016 levels. That gave investors more opportunity as we invested globally.

This international diversification helped a great deal until a great divide formed in November.

These investments have taken a break as U.S. stocks rose in November, but I believe the worldwide economy still looks positive and may offer benefits to investors again in 2017.

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Election Year Update on Markets

By | 2016, Money Moxie, Newsletter | No Comments

The bull market is seven years old. Global growth is anemic and corporate profits are no longer rising. These suggest that bad times are ahead, but I don’t believe it. I believe the U.S. consumer and the U.S. economy will continue to rise.

In January I made three predictions for the New Year. This month I would like to review these predictions with a special emphasis on the election—not only because I have been right (so far), but because each is helping the economy press forward.

Election Year

(1) The Fed will move slowly.
The Federal Reserve entered the year expecting to raise rates four times. In recognition of slow global economies, it now plans to encourage growth by keeping rates low. Moving rates up only twice this year could be better for stocks and bonds.

(2) Election years are not recession years.
Investors fear uncertainty, and election years have experienced greater fluctuations than other years. The stock market typically begins the year a little slower and then recovers before spring. Summer slowdowns occur most years, but in election years they come earlier.

Regardless of which party has a candidate in the lead, stocks typically improve as the election gets nearer. In fact, many investors are tempted to stay away until after Election Day. This simple strategy would have only delivered lost opportunity in most election years. The greatest gains actually occur in the months leading up to the election. By the way, keep an eye on the market in September and October, because a strong stock market preceding the election also appears to favor the incumbents and their parties.
I do not expect the current rally that began in February to continue without disruption. From February 11, 2016, through the end of March 2016, the S&P 500 rallied 12.6 percent. If it continued at that rate for the rest of the year, we would have a whopping 150 percent return. The market will slow down and election year history suggests this will take place in April.

Since 1927, the U.S. stock market has been positive in election years 80 percent of the time. Remember, there are no guarantees. An election year had not had a bear market loss of -20 percent anytime in the last 50 years, then came the worst presidential-election year. In 2008 the Dow lost over 38 percent. The best election year was in 1996 when the Dow gained 26 percent. Since 1900, the average has been a positive 7.3 percent.

I don’t recommend sticking our heads in the sand or placing our investment dollars on the sideline. Staying invested for the long-run is a critical part of a solid strategy.

(3) The United States will grow and the dollar will slow.
The 500 companies in the S&P 500 index receive roughly half of all their sales from overseas. So, when the dollar rises by 30 percent like it did in 2014 and 2015, it really depresses profits and makes stocks look less attractive.

The good news is that this trend has slowed down and maybe even reversed. The U.S. dollar declined in value by 4 percent in the first quarter of 2016. I view this as a positive, since we are coming off such lofty highs. The changing value of the dollar should improve U.S. growth in 2016.

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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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Investing in 2016 The Fed and Election Years

By | 2016, Money Moxie, Viewpoint | No Comments

January MarketPoint_Page_1

(1) Historically, when rates rise they rise sharply, but “this time will be different.” This phrase raises a red flag. However, I see no need for the Federal Reserve to increase rates quickly. Our economy is growing slowly and inflation is near zero.

Oil and food are unlikely to keep dropping in 2016 like they did in 2015. So, inflation may rise. (Without food and energy inflation is currently 2 percent.)

The Fed stated it may raise rates 4 times this year, but I am not convinced it will do that many.

Normally, rate hikes would be negative for bonds, but U.S. bonds are still paying attractive dividends compared to others overseas.

(2) Election years are not recession years. The economy will expand as the recovery in the United States enters its 8th year. The next slowdown is coming and no one knows when. However, I don’t see convincing data for its arrival in 2016.

Election years usually start positive, slow down in the summer, and then rally in autumn–similar to most years. However, the rally in the fall does not typically begin after election day like many investors believe. It usually begins before the uncertainty is over–catching many off guard that are waiting. The average for a presidential election year is 9 percent.

(3) United States grows and the dollar slows. Global diversification should help investors in 2016, but the United States will continue to be a financial leader. Global returns will hinge on the U.S. dollar.

Since July 2014, our dollar has risen in value against every major currency around the globe! It gained 20 percent versus the euro and 54 percent versus the Russian ruble!

Why the big move? In all the world, our economy is one of the best and we are the only ones raising rates. Both of these make our dollar more attractive to global investors.

With so many countries lowering rates to stimulate growth, it is possible their economies will strengthen and the dollar’s rise will slow. Overall, this would be good news. It would likely help those that have diversified globally.

market graph

Does 2015 offer any clues as to what 2016 will bring? In 2015, the S&P 500 finished within 1 percent of where it started. This has only happened in 4 previous years (1947, 1948, 1978, 2011). What happened following those respective years? In 3 out of 4, the market was up more than 10 percent. The outlier was 1947. It was followed by another low return year and then came the double digit. Of course, there are no guarantees.

History does firmly support the value of diversification and investing over the long run.

 

*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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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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