Client Note December 2020

January 12, 2021

2020, despite a massive pandemic and a severe global recession, central banks, with some fiscal assistance from governments, have managed to keep financial asset prices elevated.  Significant declines in revenues, profits and employment arguably the worst since the 1930’s alongside surging stock index price levels, have conspired to give us the most overvalued market since 1929 or 2000 (some argue “ever”).    How long can this endure?  Depends on when central banks begin to whisper about ‘normalization’.

For 2020, the SP500 gained 18.4%, the aggregate bond index gained 7.5%, and gold gained 26%.  European shares eked out a positive year while the Asian indexes fared very well.  My conservative portfolios gained mid to upper single digits while the average moderate portfolio gained a bit more than 13% on the year.   The pullback in Moderna and precious metals provided a weak end and lackluster start to the year.    The energy sector was the worst sector in the SP500, losing 28% and the tech sector fared the best gaining 48%.  Healthcare and energy are likely to be strong outperformers in 2021.  The addition of TSLA to the SP500 has increased the risk of market volatility. Past observances of new additions to the index show they generally perform worse than prior to their addition.  TSLAs outrageous market value (valued more than the 9 largest global auto makers combined; selling at 28x sales) and the 7th largest company in the index, put the index and any sector it is in at risk of increased volatility.

Gold and gold miners are at risk of starting another correction.  Recent lows at Thanksgiving are being approached.  The rally from late November to January 6 was the largest run up since gold’s consolidation began in August.  However, IF we can hold the longer-term uptrend, upside potential is significant.   Bonds too, are seeing prices under pressure as metals/lumber/agriculture/oil prices’ surge is generating calls of “Inflation!”.   It’s quite early to claim prices are going up due to renewed growth.

Asia came out of the COVID-19 lockdowns much quicker and effectively than western nations.  This re-opening (as a result of very stringent testing/tracing/ and effective lockdowns) allowed those economies to re-stock and re-open driving up demand and prices for raw commodities.   From 2015 to late 2017 base metal prices and oil were moving up quickly.  Cries of inflation were heard then as well.  Inflation never showed up (unless you count 2.1% as INFLATION).  This is due directly to US consumer spending growth, or lack thereof.

Aggregate consumer spending is significantly below trend.    Dig a little deeper and you can see many economic indicators picked up in 2015 through 2017, then rolled over during summer 2018, after the brief impact of tax reform (most of the benefits went to the top where additional money isn’t spent). Current total annual spending was $14.8trillion and growing at 4.2% for the past few years (income at almost the exact same rate).  MOST recently spending has declined the past few months while aggregate income also is declining.  Today we can see the next few months will likely show a spending gap of $1trillion.  A $1trillion gap is almost 7% of total spending and reflects the concurrent GDP output gap and an outright decline in GDP of around 4% year over year.  Looking ahead, the real problem may lie in the US inability to deal with the virus effectively.  Yesterday, an article stated that in Ohio, 50% of nursing home workers are refusing the vaccine.   Layer in low compliance with mask mandates (>70% compliance in order to be effective), and I truly wonder if an end to the virus is, in fact, in the offing.

As a consumer driven economy, the point is, while one can find prices of products higher (or packaging smaller at the same price), we spent a lot less in 2020 and will continue into 2021.  And unless personal spending increases, we should not see a difference in the economy or inflation going forward.  This may bode well for bonds.  TLT the 20-yr treasury bond elf, gained more than 15% in 2020, but has fallen a similar amount off its highs this summer.  Expectations for higher rates may have gotten ahead of itself and we could be near a low in prices.  Layer in the fact that bets against prices are near extremes may indicate the decline in bond prices is nearing an end.

In addition, or perhaps running parallel to the decline in spending is the truly massive amount of people on unemployment insurance.  In 2006, Continuing Claims for unemployment insurance hit a low of 2.35 million.  This began to increase in early 2007 and hit a high of 6.62million in June 2009, after the Great Financial Crisis. By June 2010, this fell to below 4.5million, and continued to decline into October 2018 to 1.65million. Claims remained flat until February 2020.  May 9, 2020 claims hit 24.91million.  And over the past 8 months has receded to only 5.1million.  It was only in November that our current Continuing Claims for Unemployment Insurance fell below the GFR Peak in 2010.  The number and duration of unemployment today has not been seen in the post WWII era.  Fortunately, today, we have unemployment insurance and a Federal Reserve acting to support financial markets (almost perpetually since 2009).

We should not expect any kind of normalization in the economy or improving numbers at least until employment, and thusly spending, improve rapidly.  This is completely dependent upon containing the spread of covid-19.

Due to the length and depth of the declines in spending and employment, the longer-term collateral damage will not be seen until things begin to normalize. Once all the rent and loan deferments, PPP loans, random stimulus checks, and enhanced unemployment benefits disappear we will be able to see the extent of the long -term damage.   Ironically, that knowledge will come at the same time we declare victory over this virus-recession and may be concurrent with a market decline.

In the meantime, let us hope the Fed does not mention ANYthing about tapering the current $120billion per month they are pumping into the financial markets, hoping that the Wealth Effect is more than theory.  So, while prices continue to climb, we will participate and listen intently for any signs the Fed is “confident” enough to reduce the variety of market interventions currently underway.

 

Adam Waszkowski, CFA

This commentary is not intended as investment advice or an investment recommendation. Past performance is not a guarantee of future results. Price and yield are subject to daily change and as of the specified date. Information provided is solely the opinion or our investment managers at the time of writing. Nothing in the commentary should be construed as a solicitation to buy or sell securities. Information provided has been prepared from sources deemed to be reliable but is not guaranteed by NAMCO and may not be a complete summary or statement of all available data necessary for making an investment decision. Liquid securities, such as those held within managed portfolios, can fall in value. Naples Asset Management Company, LLC is an SEC Registered Investment Adviser. For more information, please contact us at awaszkowski@namcoa.com.

Client Note September 2020

Client Note                                                                                                                                                      

October 8, 2020

September saw the S&P500 slip approximately 3.8%, ending a streak of 5 positive months in a row.  While equity markets and precious metals (oddly) are moving together, our cash and bond holdings kept average portfolio declines to approximately 1.5% on the month. Year to date through September 30, the S&P 500 is up 5.6%, while our average Moderate Portfolio is up almost 10% year to date.  The fact that financial markets are up this year, despite 2020 being on track for the worst GDP contraction since 1946, is remarkable.

Estimates for 2020 GDP growth will come in around -4%, while the 2007/2008 era saw only a 2.7% contraction.  But this time markets are faring far better.  The key difference between today and 2008 is the emergency actions of the Fed.  The Fed acted far faster and far more substantially than it did in 2008.  The labor market bottomed out in February 2010 with total losses of 8.8 million jobs.  Not until May 2014 did the US recover all the jobs lost.  Currently, we have recovered half of the 22 million jobs lost.  IF, the now-slowing recovery is similar to post 2008, it could be 5 years before all jobs are recovered.  Fortunately, the S&P500 mirrors the Fed’s balance sheet growth more than the economic data.   

History shows us that markets recover more quickly than jobs or the economy.  As such, it appears equity markets have priced in a full profit recovery in the coming year.   In 2008, corporate profits bottomed almost the same time markets did.   Profits and markets grew alongside each other for several years. This time, markets have already recovered and are waiting on profits to back fill the massive valuation gap that now exists.  Because of this mis-match in timing, we could see a few more bouts of 20% gains and declines, as data/news shows economic activity slowing or increasing; as governments decide to add fiscal support or skip it; and as hot spots of the Covid virus spike and recede over the next year or longer.

Some analysts see rising inflation and higher rates coming because of economic growth.  In order to create the ‘good’ inflation (demand-pull), consumers need to spend.  They spend wages, new credit (loans/credit cards) and transfer payments (social security/welfare/stimulus checks).  Banks’ lending standards are increasing; lending is decreasing.  Aggregate wages have declined each month since May. Finally, in August the Cares Act $600/week stimulus ran out while 10 million remain unemployed, keeping pressure on consumer spending.  The Chairman of the Federal Reserve has asked Congress for fiscal stimulus to lift the economy.  As it stands now, there is no real impetus for market rates to rise, and may bode well for bond prices, as rates stay low or perhaps decline again.

My outlook for markets and rates remains the same as during the Summer.  Rates remain low and there is a good likelihood of large swings in market prices.  That outlook will remain until either a large stimulus package with money going right to consumers or control of the spread of the virus occur, maybe both.  I am expecting a post-election rally that may start mid to late October, simply because regardless of the winner, markets like certainty.  Precious metals appear to have completed their correction and a nascent rally may have started.

Adam Waszkowski, CFA

 This commentary is not intended as investment advice or an investment recommendation. Past performance is not a guarantee of future results. Price and yield are subject to daily change and as of the specified date. Information provided is solely the opinion or our investment managers at the time of writing. Nothing in the commentary should be construed as a solicitation to buy or sell securities. Information provided has been prepared from sources deemed to be reliable but is not guaranteed by NAMCO and may not be a complete summary or statement of all available data necessary for making an investment decision. Liquid securities, such as those held within managed portfolios, can fall in value. Naples Asset Management Company, LLC is an SEC Registered Investment Adviser. For more information, please contact us at awaszkowski@namcoa.com.

Client Note July 2020

After a brief pause in June, financial markets continued their climb, trying to get to even on the year.  Of the major indexes, only the tech-heavy NASDAQ has managed to make new all-time highs.  The discrepancy across indexes is significant.

Off its all-time high             year to date price return

The Dow:                              -10% (Feb 2020)                                  -7%

S&P 500                                 -4% (Feb 2020)                                 +1%

Russell 2000 (small cap)    -12%   (Jan 2020)                               -10%

NASDAQ                                  -3% (July 2020)                                 +20%

EAFE (Eur/Afr/Far East)      -15%  (Jan 2018)                                 -8%

 

Inside the NASDAQ, the top “6” holdings are Apple, Microsoft, Amazon, Facebook, Alphabet A shares and Alphabet B shares.  These 5 stocks make up 44% of the index.  What this means is that only a handful of stocks, in one sector, are keeping the overall indexes up.  One can say, “so goes tech, so goes the markets”.    US mega cap growth/tech has been the only game in town.   More recently tech has weakened against the rest of the market.   If tech loses it dominance without another sector or two to take the reins, equity markets will have a bumpy second half 2020.

Portfolios I manage continue to do very well.  Gold is in the news a lot recently.  Over the past 15 months, gold has dramatically outperformed equity markets, and climbed 65% since November 2018.  The last 15% of that has come in the past two weeks.  Trimming and taking profits is on the schedule for August.   The individual stocks I choose from time to time have become a mixed bag.  IRBT and APRN recently reported significant upside earnings surprises, only to be sold off hard.  I am seeing this in several areasIts feeling like a ‘sell the news’ kind of market.  After a 50% climb since the March lows, its not inconceivable that stocks will take a breather.  Perhaps even give back some as we adapt to living with Covid19.     Clients can probably observe the steps I have taken to reduce exposure and take some profits, so that if/when we get a correction, it should not be too painful.

July 30, 2020 has the potential to be a historic day.   GDP for the second quarter 2020, covering March 30 through June 30 will be released.  Current estimates are to see a contraction in US GDP of -30%.  This would be the worst quarter since Dec 1946 and sets up the worst year since then as well.  While this is widely known to people who follow it, I am sure it will be a shock to some, and widely covered in the financial press.   In addition, all the tech stocks mentioned above will report earnings.  They will all be very profitable, but if this is indeed a ‘sell the news’ market, beware.  Microsoft already reported on July 22, beating estimates, and was sold off by 6%, recovering only a part of that decline this past week.

The economy is not coming back as fast as hoped and is already showing signs of levelling off.  Roughly 10% of our economy has disappeared (hospitality/tourism).   As long as the Fed promises, and CONTINUES to inflate the monetary base, financial markets can remain elevated However, if a small correction gets out of hand, the Fed has little influence in the very short term—and not much new to offer.  .  The real economy however will not come back without greater spending from consumers and businesses—either through earned wages, or stimulus, or loans/credit.

 

Adam Waszkowski, CFA