Portfolio Updates

Historic Hotels Achieve a Premium in Income Yield

For investors seeking higher income from the Hospitality sector, CBRE issued their  U.S. Lodging And 2018-2019 Historic Hotels Forecast February 7, 2018.    The outlook for the U.S. lodging industry, particularly historic hotels,  which can include Bed & Breakfast properties above 8 rooms, continues to be extremely strong.  The Historic Hotels Of America Annual Conference was held Sept 28, 2017.

U.S. Hotel Sector Hosts Promising Results

According to STR, the U.S. hotel industry saw occupancy increase 1.4% to 56.4% during the week of 28 January to 3 February, while ADR rose 2.2% to $122.35 and RevPAR increased 3.6% to $69.05.  STR is a source for industry data benchmarking, analytics and marketplace insights. www.str.com 

The U.S. hotel industry reported positive year-over-year results in the three key performance metrics during the week of 28 January through 3 February 2018, according to data from STR.  In comparison with the week of 29 January through 4 February 2017, the industry recorded the following:

  • Occupancy: +1.4% to 56.4%
  • Average daily rate (ADR): +2.2% to US$122.35
  • Revenue per available room (RevPAR): +3.6% to US$69.05
  • Super Bowl LII host, Minneapolis/St. Paul, Minnesota-Wisconsin, reported the largest increase among Top 25 Markets in each of the three key performance metrics: occupancy (+38.3% to 72.5%), ADR (+129.1% to US$241.98) and RevPAR (+216.9% to US$175.51).

Seattle, Washington, posted the only other double-digit lift in ADR (+15.7% to US$152.30), which resulted in the second-highest jump in RevPAR (+20.1% to US$104.17).

Two markets matched for the second-highest rise in occupancy: Philadelphia, Pennsylvania-New Jersey (+8.8% to 57.4%), and Chicago, Illinois (+8.8% to 49.9%).

Affected by comparisons with its Super Bowl host week last year, Houston, Texas, reported the steepest decline in RevPAR (-45.1% to US$73.24), primarily because of the largest decrease in ADR (-42.7% to US$109.76). Occupancy in the market fell 4.1% to 66.7%.

Nashville, Tennessee, experienced the largest drop in occupancy (-4.9% to 61.9%).

San Diego, California, reported the second-largest decreases in all three key performance metrics: occupancy (-4.7% to 70.6%), ADR (-4.8% to US$145.75) and RevPAR (-9.3% to US$102.85).

 

“Good” Inflation: Rising rates and falling stocks

Over the past week, the Dow fell by 4%, more than halving its ytd gains through Friday 1/19 (all time high).   Bonds continued the decline started in mid-December, bringing losses during the current ‘bond rout’ to -5.7% year to date.  That is a one week decline in the Dow of 4% and a four-week decline in long-bond prices of 5.7%.  Balanced investors have seen stocks gain and bonds lose, putting most investors (moderately conservative to moderately aggressive) at a mild gain or loss so far this year.  Generally, diversification across asset classes reduces volatility when bonds go up, stocks generally are weaker and vice versa.    When the classes move together differentiation across risk profiles diminishes.  Stocks remain in a strong uptrend and given the substantial gains over the past few months, equity centric investors should be able to take this in stride (or they shouldn’t be equity-centric) as 4% is a small blip in a strong multi-quarter uptrend awash in investor optimism, all-time low cash levels, all-time high exposure to stocks and financial assets and expectations of higher wages, earnings and GDP growth.   In this light, a rebound, or ‘buy the dip’ would not be surprising.  The new feature though is that volatility has returned.

The ‘bond rout spilling into equities’ explaination has to do with relative attractiveness.  If rates keep rising, bond prices are hurt, while becoming more attractive (due to higher yields) to equity investors, putting pressure on equity prices.  At some point, earning safe interest attracts enough investors from stocks to weaken stock prices.  The S&P 500 dividend yield is now 1.8%, similar to what can be found offered on 18 month CD.

Rate have climbed due to rising inflation expectations.  Inflation is expected to, finally, exceed the 2% goal set by the Federal Reserve ‘in the coming months’.  Current thinking is that a tight labor market is pushing AHE (average hourly earnings, +2.9% Jan ’18 vs Jan ’17), combined with more take home pay (via tax reform), will result in more spending from consumers and investment from business.  This will take time but markets have already priced it all in.  Just like the stock market has priced in exceptional earnings growth to match its exceptional valuations.  The chart below shows us that we’ve been in a tightening labor market for years without being able to hold above 2.0% inflation but briefly.

infl vs unemplmnt

Given the new feedback loop between stocks and bonds, perhaps we shouldn’t be so excited about inflation, even if its ‘good’.  On the bright side, the past few years has seen 3.25% as a top in 30yr bond yields and perhaps a decline in rates near term may help both bond holders and stock investors alike.

Up, Up and Away – Why Not to Fear New Market Highs

2018 started off with NYE fireworks that have continued. It took only 3 trading days in the New Year for the Dow to surpass 25,000. It took another 8 trading days to close above 26,000.

Do you take your money off the table or do you say, laissez le bon temps rouler?

I’m not a soothsayer (more of a historian), so let’s step back and remember that a day or a month does not make a year.

Performance-wise, 2018 marks a phenomenal start for the Dow index. As of January 16th, the Dow was up ~ 5% YTD, on the heels of being up ~ 25% in 2017. The Dow jumping from 25k to 26k was the quickest 1,000 point move ever. Wow! The Dow is like the Golden State Warriors (as of recent) – we’re seeing some outstanding moves and records achieved.

It’s best to keep everything in check though. We only have to look back 2 years to the beginning of 2016 – the Dow had its worst 10 day start since 1897. The Dow lost 5.5% in January 2016 and 93% of investors lost money, if not more than the Dow that month, according to CNN_Money.

Back then, global economic worries pushed investors away from risky assets. Now an apparent synchronized global pick-up has investors jumping in and seeking risky assets, such as stocks, fearing they’re missing out on the next leg up. It’s a melt-up, the opposite of a market melt-down.

When people know that I’m a wealth manager, they often ask me what I think about the stock market. Often it’s along the lines of “I have cash that I could/should put to work but have been waiting for a pull back as the market is at an all-time high, so I just sit tight.”

I often proffer that “the best time to invest was yesterday and the second best time is today,” in addition to, “it’s about time in the market, not timing the market.”

We’ve been constantly hitting new highs since taking out the old high on the Dow back in October 2007 (Dow 14,093) in early 2013, a span of ~ 5 ½ years to be back in black. Now we’re close to another 5 years since then, and close to 9 years in on a really impressive bull market run.

For those old enough to remember the Nifty 50’s, the Dow climbed 240% during the decade of the 1950s. For me, I remember the Roaring 90’s and the spectacular run we had during that decade. In 1999 alone, the Nasdaq composite rose 86%, the biggest annual gain for a major market index in U.S. history, while the Dow gained 25%, a record 5th year in a row that the index posted a double-digit percentage gain. That’s what a market topping process looks like.

Historically, the stock market has had its share of peaks and troughs, from bull to bear back to bull again, taking out previous highs and setting new ones. How long does that take? It depends on many circumstances but I would say that while the past is no fortune teller, it does offer clues.

Wharton School Professor Jeremy Siegel studied the ‘Nifty 50’ stocks of the early 1970’s. These were much sought-after stocks that got to ‘nose bleed’ valuation levels and then had a melt-down. However, they ultimately turned around and by 1996, they had offered up annualized double digit returns. (you can read the full study here: https://www.aaii.com/journal/article/valuing-growth-stocks-revisiting-the-nifty-fifty)

So even if you believe you are purchasing stocks at high valuation metrics, over a long period of time those securities will reward investors (caveats of diversification, etc. are always warranted).

There will be bubbles – Dutch tulip bulbs, dot-com stocks, and now we’re in the throws of a cryptocurrency craze. And yes, many U.S. stocks are currently stretched, valuation-wise, and probably will be for a while longer as there’s momentum from investors adding to stocks and away from bonds.

As economist John Maynard Keynes stated back in the 1930s, “The market can stay irrational longer than you can stay solvent.” At this juncture, that means a tricky part of putting money into a bearish bet is the timing. You can be right that a market or sector is overvalued but wrong on the timing.

My best answer to investing near or at market highs is to stay steadfast – continue to invest or get started in doing so. Dollar-cost averaging helps as well. Investors with a long runway before they need to draw on their assets should hold a good amount in stocks in their overall asset allocation.

One should take a diversified investment approach and forgo timing entry points. One’s time and energy is better served on focusing on a factor that has been shown to have a greater impact on returns – one’s asset allocation. That should be based on one’s long-range financial goals and needs as well as knowing one’s limitations. A wealth manager who has an informed view of a client’s total financial picture can then position the client to best hew to his or her overall financial plan.

In financial literature we often speak of a “rational investor” but we all know that humans are emotional beings (we’re not Vulcans!). It’s really difficult for human beings to envision what might happen in the future. That’s why we have a very tough time taking money we earn today and saving or investing it for some far-off point. But doing exactly that is what’s required if you want to reach big financial goals.

If you want to get or stay on track to reach your long term goals, feel free to reach out to me (or a fellow Naples Asset Management advisor in your local area) about any adjustments your plan may need.

A creative man is motivated by the desire to achieve, not by the desire to beat others.” ~ Ayn Rand

Observations and Outlook January 2018

Investors have not been as fully invested in the stock market since 2000.  Does this mean anything?

Maybe.  It is a reflection of investor expectations though.  One can infer this by assuming investors own what they think will go up in price and therefore is investors are very long, then they expect prices to rise.  The American Association of Individual Investors (AAII) recorded the highest level of optimism in 7 years, since December 2010.  The historical average is 38.5%.   In an article from AAII, dated January 4, 2018 they review how markets performed after unusually high bullish and usually low bearish sentiment readings.

From AAII:    “There have only been 46 weeks with a similar or higher bullish sentiment reading recorded during the more than 30-year history of our survey. The S&P 500 index has a median six-month return of 0.5% following those previous readings, up slightly more times than it has been down.   Historically, the S&P 500 has realized below-average and below-median returns over the six- and 12-month periods following unusually high bullish sentiment readings and unusually low bearish sentiment readings. The magnitude of underperformance has been greater when optimism is unusually high than when pessimism has been unusually low.”

This does not necessarily mean that our current market will decline rapidly.  Actually, AAII finds that while returns are below-median, they are positive.  Positive as in ‘above zero’.   Sentiment drives markets and when sentiment gets too extreme, either in bullish for stocks or bearishness for bonds or any other financial asset, returns going forward are likely to disappoint.  If everyone has bought (or sold) who is left to drive prices up (or down)?   What we need to recognize is that investors become optimistic after  large advances in the stock market, and pessimistic after declines.  UM-Probability-of-Stock-Mkt-Rise-Oct-2017-1024x705_thumb1

Again, this chart above does not mean we are about to enter a bear market.  It only shows the markets progress at points of extreme optimism.  We can see in 2013 into 2015 rising expectations and a rising market as well as from 2003 to 2007.   Now that we can visualize the mood of the market, lets review some other metrics from 2017 and what is in store for 2018.

2017 was interesting in several areas.  It was the first time in history the S&P500 had a ‘perfect year’ where every month showed gains in stock prices.  We are also in record territory for the longest length of time without a 5% pullback, almost 2 years.   Historically, 5% drawdowns have occurred on average 3-4 times each year.  In addition to price records, there are several valuation metrics at or near all-time records.    The ‘Buffet Indicator’ (market capitalization to GDP) just hit 1.4, a level not seen since Q4 1999.  “Highest ever” records are exceeded well into mature bull markets, not the early stages.  Stock markets generally spend most of the time trying to recover to previous highs and far less of the time exceeding them.    Momentum and priced-to-perfection expectations regarding tax policy are driving investors to be all-in this market, as reflected by Investors Intelligence Advisors’ (IIA) and American Assoc. of Individual Investors (AAII) stock allocation and sentiment surveys each at 18 and 40-year extremes.  Combined with the Rydex Assets Bull/Bear Ratio, at its all-time extreme bullish reading, it’s difficult to argue who else there is to come into the market and buy at these levels.

However, bullish extremes and extreme valuations can persist.  Their current levels do likely indicate that we are well into a mature bull market.   The bull was mature in 1998 too and went on to get even more extreme.  This is the case many perma-bulls trot out, that since were not as extreme as 1999, there is plenty of room to run, and ‘dont worry’.

The US Dollar and Quantitative Tightening

The current ‘conundrum’ is why is the US dollar so weak?  We have a Fed that is raising interest rates growth likely to exceed 3% in the fourth quarter.  Usually a rising currency would accompany these conditions.    The dollar declined throughout 2017.  This was a tailwind for assets outside the U.S. whose value in dollar terms increases as the dollar declines vs foreign currencies.   If the dollar begins to move back up this will be a headwind for ex-US assets and for sales/profits to large companies in the S&P 500 who do almost half their business outside the U.S.

In addition, central banks have given notice that, while the Fed ended QE in late 2015, other central banks are beginning to end their programs with the European Central Bank reducing its bond purchases from 60 billion euros per month to the current 30 billion, and down to 0 in September 2018.   The Bank of Japan (and the Japanese Pension Fund) have declared they are reducing their purchase of stocks, bonds, and ETFs.  Only China hasn’t formally announced and end to market interventions.   Most pundits are pointing to the bond market as the area that will be most affected.  Possibly, but to claim that bonds will get hurt and stocks will be fine is ignoring how global equities have performed hand-in-glove with banks’ liquidity injections over the past 10 years.  Both stocks and bonds will likely be affected.

Yield Curve Inversion (or not)

I102YTYS_IEFFRND_I30YTR_chart

The chart above shows in red the persistent decline in 30-year treasury rates.  This week Bill Gross called the bottom (in rates, the top in prices).  This may be premature as one can see dips and climbs over the past few years, all of which have been accompanied by calls of the end of the 35 year bond bull market.

What is more interesting is that in the past 3 recessions, the yield curve as seen through the 10-2 Year Treasury Yield Spread declines, through the zero level (aka inversion, 10yr bonds paying less than 2 year notes) before a recession.   Our current level of .5% is not far from zero.   Most people are waiting to see it invert before saying a recession in on the way, often adding it will be a year beyond that point.    If one looks very closely at the chart we can see said spread actually increase after bottoming out, just prior to a recession starting (which wont be officially recognized until 6-8 months along).   While there are different factors influencing the 2yr and the 10yr rates, a spread widening might be a more important development than continued compression.

Finally, what does all this mean for an investor.   In short, we must all recognize that a 24 month span without a 5% decline is extremely unusual, as there are often 3-4 in a given year.   Also that when investors are most optimistic, returns often lag with the more extreme readings leading to more significant changes.  Mature bull markets eventually end and investors with a longer term horizon need to have a strategy not only for growing their investments, but also protecting the gains one already has.

We all know how to deal with a bull market, but few people have a strategy on how to deal with a bear market.

Adam Waszkowski, CFA

What are Alternative Investments?

  • Real Estate: Tenancy-in-Common, LLC,  LLC Unit or Partnership Interests in Real Property investments, such as hotels, storage, retail and other real estate types.
  • Arbitrage: Simultaneously buying and selling related securities, sometimes in different markets, to exploit mis-priced relationships.
  • Hedging: Investing to offset the risk of price declines using methods such as buying or short selling.
  • Trend-following: Identifying price patterns with profit potential and implementing similar long/short positioning

IMPORTANT RISKS
Alternative investments do not guarantee a profit or protect against a loss.  Sophisticated techniques can magnify a gain or loss, for more information consult your financial adviser, prospectus or private placement memorandum.