We’ve watched the post-Trump Election Rally with both pleasure and amazement over the past 6 weeks.
Pleasure, because we have generally been overweight cash and equivalents as a defensive measure in our fixed income allocations, overweight stocks, and underweight bonds. We generally avoided much of the bond market carnage in November which saw, globally, over 1 Trillion Dollars in fixed income market value disappear. We saw equity holdings appreciate as P/E’s expanded in the wake of the resounding Republican victory.
Amazed because we continue to believe that while this “might” be a secular change, it is more likely the “8th inning” and indicative of a late cycle rally.
The next few weeks are going to be critical for “risk” assets like both stocks and bonds.
Bonds may have peaked and it may be that the realization that this rate rally is based on hope, rather than fundamentals, may result in the bond boys coming to the conclusion that CPI acceleration is slowing, that higher interest rates from the Fed will further slow growth and that real inflation and significant changes in consumer behavior will result in some muted consumer confidence, slowing consumer spending trends and resulting in lower interest rates.
Stocks, I believe, are going to trade with the economic cycle as opposed to some secular change that has been triggered by the election of Donald Trump. Energy price declines over the past 2 ½ years have muted inflationary trends. Recently, however, energy price increases have pushed core inflation higher. Looking forward, however, energy price increases have the potential for keeping higher inflation in check because the “new consumer” is more focused on saving, resulting in them keeping their budget in balance even if it costs more to put gas in their vehicle.
If the consumer isn’t spending, the economy’s expansion is going to remain weak. Stock prices could move down from here as valuations come into line with growth prospects. Bond prices could move higher with lower yields if the “promise” of greater inflation isn’t realized.
Is the Trump honeymoon over? Tax reform and reduced regulation are longer term secular supports for sustained growth. Infrastructure spending, while grabbing headline news, is probably too small to matter much in the greater economic scheme. Most of the changes including a new “TrumpCares” Act and lower tax rates, probably won’t have much effect, economically, until 2018.
Any boost to 2018 growth may be dampened by late cycle economic pressures.
Reduced regulation has the potential for improving business confidence with talk of corporate tax reform and a reduction in regulations. Unfortunately, tight labor markets and global excess capacity have the potential to keep job growth anemic.
With all these cross-currents, what is our direction?
In a nutshell: 1) Slightly reduce our overweight equity position, repositioning to take advantage of late cycle stocks; 2) keep our fixed income positions short/intermediate with cash on the sidelines; 3) continue to add alternative investments that make good common sense to our portfolios; 4) continue to recommend and add to Gamma-generating investments which have the focus on protecting principal and improving overall portfolio returns in a rising interest rate environment.
As always, if you would like to discuss our strategy or its implementation, please feel free to call or email me.
Alpha Beta Gamma Wealth Management.