When You Come To A Fork In The Road, Take It

Market Commentary – Fall 2019

Yogi Berra is credited with this aphorism and it is an apt piece of advice for investors as the opening of the 4th quarter of 2019 unfolds. One path forward sees global economic growth slowing along with headwinds like the trade war, political noise, slowing profits, and Middle East tensions with a recession on the horizon. The stock market generally falls sharply as recession fears crystallize. Taking that cold path requires steadiness and a warm coat in the form of assets that offset stock market risk such as bonds and perhaps a higher level of cash than is normally carried on board.

The other sunnier path acknowledges current challenges but looks at underlying financial factors that can push back against the darkest implications of incipient weakness. While the slowing (but not shrinking) of the U.S. economy is tangible, several positive developments make it likely this recent slowdown is not a prelude to recession. First, a housing rebound is underway fueled by an over 1% drop in the interest rate paid for long term mortgages. According to the National Association of Home Builders their proprietary index of housing conditions has bounced smartly since bottoming in December of 2018. Second, the consumer appears to be on a firm foundation with the high employment rate and strong with healthy household balance sheets powered by a 7.9% savings rate.

Investors even have reasons to believe the weak manufacturing economy is set to improve. Automotive production looks set to rebound as inventories have been trimmed by a recent sharp cutback in auto output. Though the UAW strike will have some impact, the strike itself is indicative of worker confidence. Finally, inflation expectations remain low, keeping a lid on interest rates and providing the Federal Reserve another reason to maintain its current accommodative stance. Having cut rates twice this year, they are likely to continue to ease rates amid current weakness and tame inflation. Europe, Japan, and China are all in the process of easing financial conditions in those big economies.

With the consumer in good shape, housing and autos set to bounce, and the Federal Reserve on the investor’s side, there is plenty of support for looking past the current turbulence to a brighter path ahead. On the other hand, reasons to be concerned about a contraction in economic activity are higher than they have been in several years. We believe investing as if a recession is baked in our near-term future is premature. Profits from the companies of the S&P 500 have for much of the year been expected to fall. In fact, modest improvements have been recorded. US stocks are now priced at a reasonable 16 times estimate of next year’s earnings. We recognize the recent weakness and are keen to see improvements in the economic outlook. As we walk into the autumn season, the sunnier path seems to be the optimal path to take.

We appreciate your trust and confidence in Altavista and look forward to talking with you soon.

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