Issues and Answers

 

Download-PDF-Button.jpg

Download the PDF to view the Hoisington and Caney Creek inserts.

 

The stock market and the bond market are almost flat year to date.  Gross Domestic Product (GDP) was up 0.20% in the first quarter.  The concern that the Federal Reserve (Fed) will raise interest rates in June or September has dissipated.  Janet Yellen, Chairman of the Fed, said recently that the stock market is fully priced and investors should be cautious.  We have been in a strong bull market in stocks for the last six (6) years.  We may be coming to the end of this cycle.  The issues that investors are concerned about are the Fed raising rates, corporate earnings and price/earnings ratio of the stock market, the European economy, the strong dollar and the price of oil.

Tim Vos and I recently attended the PIMCO Client Conference in Newport Beach, California.  It was an excellent conference where the most senior people at PIMCO participated in panel discussions about issues in the economy, including what is expected to happen to interest rates and how PIMCO can make money for its clients in a rising interest rate environment.  One of the guest panelists, who has now joined PIMCO as an advisor, was Ben Bernanke, the former Chairman of the Federal Reserve.  The consensus opinion about a rise in interest rates was that the Fed will be very slow in raising rates.  It is expected that the first increase will be in September, 2015 and it will be 0.25%.  Then the Fed will wait before raising rates again.  PIMCO expects the Fed to raise the Fed Fund rate to 2.5% over the next five (5) years.

Earnings for those companies in the S&P 500 Index are expected to be flat to down 3.0% in 2015.  With GDP only up 0.20% in the first quarter, the concern is that top line revenue and earnings will slow down and therefore the stock market will remain flat.  As always, there are differing opinions and rationale about the stock market.  Some think we are in the middle of a long term bull market that will last for another decade.  Others think we are at a peak and expect a significant correction.

As we know the European Union has initiated Quantitative Easing (QE) this spring like the U.S. and Japan have done for years.  Europe is in deflation as we have pointed out in the past.  Greece may be on the verge of leaving the European Union.  They refer to this as the “Grexit”. If the International Monetary Fund does not extend loan maturities to Greece this could trigger the Grexit.  Most observers think that if this happens it will not cause as much of a problem as it would have a few years ago because the markets are anticipating the possibility.  We do think that QE in Europe will push stock prices higher like it has done in the U.S. and Japan.

The dollar has continued to get stronger versus other currencies around the world.  This is good for the U.S. consumer and for purely domestic companies because the dollar will buy more goods and services from foreign producers.  It is not good for multinational companies based in the U.S. that receive a significant amount of revenue and profits from overseas because of the exchange rate on foreign currency.  This is another cause of the revenue and earnings of these companies falling and affecting their share price in the market.

We have watched the price of oil fall from over $100/barrel to below $50/barrel and now back up to above $50/barrel in the last year.  This has negatively affected the share price of oil and oil service companies who have been laying off personnel in order to cut cost.  The major oil companies have cut capital expenditures by as much as 30% this year and the drilling rig count has dropped almost 50% from its high.  This has caused energy stocks to drop dramatically and affect the indexes and regional economies like Texas and North Dakota.  The drop in oil has created an oversupply caused by fracking technology.  The technology has become more sophisticated and efficient allowing fields to produce more oil in the U.S.  The fracking industry should slow down because of the lower price of oil, but it has not done so as quickly as some have thought.

Hoisington

As you will see, our friends at Hoisington Investment Management Company in Austin, Texas continue to shed a bright light on the real core problem causing the recovery to be so slow, not only in the U.S. but in all major developed countries.  Over-indebtedness is pervasive and the real problem as it has been in other instances going back two thousand years.  As they point out, advanced economies have only cured over-indebtedness by a significant multi-year rise in the savings rate, or austerity.  Historically, austerity arose from one of the following: self-imposition, external demands or fortuitous circumstances.  Please enjoy reading their “Quarterly Review and Outlook – First Quarter 2015”.

Caney Creek Report

Our friend Robert C. Davis, CFA, the founder along with his partner Jack Hamilton of Davis Hamilton Investment Management Company, is retired but writes a quarterly letter from his ranch near Brenham, Texas.  Bob is extremely experienced and an astute investor who understands the economy, markets and banking as well as anyone I know.  I have attached his latest letter for your enjoyment.  You will see that he has a slightly different view than Hoisington.  That’s what makes a market and what we do at Monroe Vos so interesting.

Conclusion

After all is said and done we see no reason to change our asset allocation recommendation at this time.  We have a few managers on watch and will let you know if and when we recommend a change.

 

Jamison Monroe
Chairman & CEO
Director of Consulting