InnOvation Capital & Management, LLC
IntelDigest
LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR
MAY 2, 2018
Contact Richard Power with comments or questions. IntelDigest is intended for the use of our clients and colleagues. Material may not be reproduced, forwarded or shared without express permission.
IntelDigest returns, with discussion of The Economy and Markets. As in our most recent issue, we continue today to discuss the near-term … what to expect over the next few months. In later issues, we will go into prospects for 2019 and 2020.
We fully expect that the Economy will fall into recession by some time next year, and perhaps result in an extended period of stagnation in the equities markets. Such stagnation could last from 2019 through 2022.
It is important to distinguish between the near-term period, which should last through most of 2018, and the recessionary period beginning in 2019. The next few months will likely be the last opportunity for growth in equities for the next several years. So, we face a balancing act in the near-term … how to find and secure growth prospects while the “Melt Up” in equities plays out its last few months … and when to get out with our gains before the market begins its slide into recession.
Noise in the Markets
As we have stated on several occasions, our premise for the remainder of 2018 is that the equities markets will continue to rise, even if increased volatility makes the ride somewhat like a roller coaster. Speaking of volatility, market opinions are roiling as much as stock prices … ranging from expositions on the continued “Melt Up” of the markets, which we support, to the bearish viewpoint that the markets are in danger of imminent collapse because of Debt and overstretched valuations.
To which we say … the recession is inevitable, not imminent.
We will have much to write in the next few months about Government Debt and Deficits, and Corporate Debt, and Credit Card Debt, and Student Loan Debt, and Auto Loan Debt … and the “unsustainability” of it all.
But, not today.
Earnings Growth
In our last issue, we wrote about the prospects for First Quarter earnings of the largest corporations; we quoted estimates from FactSet of 17.1% earnings growth for the S&P 500, which would mark the highest growth rate in seven years.
We are approximately half-way through the 1Q earnings announcements, and results have been better than expected. If the remaining companies reporting in the next week or two beat expectations, this will be a historic quarter.
Under ordinary circumstances, such reports of blockbuster profits and healthy cash flows would result in stock prices exploding upward. However, the prospect of the Recession Monster over the horizon constrains investors. So, results have been uneven.
Consider the case of McDonald’s (MCD), which had a blowout First Quarter. The company reported better-than-expected earnings, better-than-expected revenue, and strong same-store sales growth … 2.9% in the U.S. and 5.5% globally.
As a result, the stock jumped up 6% for the day. That is a normal market reaction.
However, compare the case of Caterpillar (CAT), which manufactures construction equipment. CAT beat earnings expectations by 33%! But, management commented that earnings growth may be “as good as it gets.”
The market took this as a warning and the stock price fell 6%.
The Best Game in Town
Investment analyst Louis Navallier still calls the current uneven equities markets the “best game in town.” He offers several reasons to support continued growth in the markets and the economy at-large:
1. Although some big-name, big-cap stocks are under pressure right now, and lots of money is being reshuffled on Wall Street, it is a healthy sign that money is NOT leaving the stock market, but is merely being redistributed to other equities, especially dividend growth stocks.
2. Housing is still in an uptrend. The National Association of Realtors announced that existing home sales rose 1.1% in March to an annual rate of 5.6 million … there is only an ultra-tight 3.6-month supply of existing homes for sale.
Existing home sales will likely continue to be held down by a lack of inventory. Median home prices have risen 5.8% in the past 12 months to $250,400. Higher home prices tend to boost consumer confidence.
3. The Conference Board announced that its consumer confidence index rose to 128.7 in April, up from a revised 127 in March and down slightly from a 17-year high of 130 back in February … improving consumer confidence bodes well for strong retail sales, which naturally tend to pick up as the weather improves. So, the second-quarter GDP growth is off to a good start.
4. The Commerce Department reported that the trade deficit in March declined by 10.3% to $68 Billion – the first decline in seven months and substantially below economists’ consensus estimate of $73.4 Billion.
5. Gross Domestic Product (GDP) improved in the First Quarter, with the Commerce Department estimate coming in at annual growth of 2.3%, above economists’ consensus estimate of 2%. Consumer spending expanded by only 1.1% in the first quarter, but business spending expanded at a robust pace as spending on equipment rose 6.1% and structures soared 12.3%.
6. The Commerce Department also reported that the Fed’s favorite inflation indicator, the Personal Consumption Expenditure (PCE) index, rose 1.8% in the past 12 months. Therefore, the Federal Reserve is now more likely to raise short-term interest rates at the June FOMC meeting, and perhaps twice later in the year, if inflation persists.
7. Finally, the U.S. Dollar has regained strength after a rocky few months. A stronger U.S. Dollar should help to keep commodity prices down for a few more months, as most commodities are priced in Dollars. Additionally, foreign investors are now more likely to buy Treasury securities in a stronger U.S. Dollar environment.
Strategy for Careful Investing in 2018
This could become the Year of Investing Dangerously. So, we should all be preparing exit strategies for our portfolios, and treading very carefully with respect to new investment over the remainder of this year.
The best approach to investing in these last months of the “Melt Up” starts with a few simple questions. Before going into any new stock investment this year, be sure that the company has qualities which will help it to thrive in Up markets, and withstand the pressures of a coming recessionary environment:
1. Is this company strong enough to survive a recession?
2. Are its products/services popular across segments of society?
3. Does it have obvious advantages over competitors?
4. Do people queue up for its products/services, either online or at brick-and-mortar locations?