Recently Federal Reserve Chairman, Jerome Powell, said he sees the economy as being “in a good place”.
So, what’s good about the economy? The Bull Market Powers On!
- October Jobs report came in at 128,000 new jobs created vs 85,000 expected according to a Bloomberg survey.
- GDP rose 1.9% in the 3rd Quarter compared to 2% in the 2nd quarter, stronger than expected with economists forecasting 1.6%.
- Consumer sentiment has remained strong with the unemployment rate at a half a century low of 3.6% and wages now growing at a 3% inflation rate.
- Consumer spending while moderating to a 2.9% annual rate in the 3rd quarter off from a 4.6% rate in the 2nd quarter still compares favorably to last year’s 3rd quarter rate of 2.5%.
- The US housing sector has improved with lower interest rates and according to the US Census Bureau and US Department of Housing and Urban Development, residential home sales as of September 2019 are up 15.5% versus September 2018.
- Benign Inflation.
- The possibility for Tax Cut 2.0 that caters to the middle class.
- No signs currently for the Fed to raise rates.
So what’s bad about the economy?
- We are currently experiencing a global synchronized slowdown in economic activity which was started by a correction in the commodities market principally caused by the collapse of oil prices.
- Manufacturing activity has waned due to tariffs.
- CEO confidence has also waned as a result of the tariffs and uncertainty, consequently.
- Nonresidential fixed investment business spending continues to fall with business spending down 3% in the latest quarter.
- Corporate operating earnings have dramatically declined from a 20% growth rate in 2018 to just 1.9% in the 3rd quarter 2019 and is expected to turn negative in the 4th quarter.
- U.S. Industrial Production fell .3% vs. a .9% increase expected.
With the market at an all time high, I see a trend developing here where market valuations are extended and are becoming less supported by market fundamentals. In my opinion, the only reason the market is up this year is because the Fed did a complete one eighty moving from raising rates to lowering rates. There exists currently today a disconnect between market valuations and core market fundamentals that sustain growth. I think we are going to have to face down some key realities of economic truth:
- Will the manufacturing’s malaise start to affect the services economy?
- Is the worst over in declining global growth trends-India’s GDP is now at 5% vs 7.5%, China is at 6% vs 12%, Europe is in recession with flat growth.
- Will there be a trade deal or no deal or skinny deal?
- Will employment which is currently at an all-time high continue to expand or decelerate given renewed wage inflation?
- Is the expected 2020 earnings pick up projected at 11% for real?
- What about the Fed. Not one central bank in the developed world has been able to inflate their economies. Is our Fed three and done or is there more to come?
- No one has taken any seriousness to the overall debt and growth in operating deficits! The U.S. is going to end up looking like Japan.
While overall sentiment remains optimistically elevated, I have turned more bearish on the U.S. economy and its stock market over the next six to twelve months. The market will need to adjust to the real fundamentals of the economy. We need to get through Impeachment proceedings and the media frenzy around it, conclude the tariff wars and get through another presidential election cycle to have renewed sustainable growth.
We believe the global economy is entering a low-growth period as trade tensions and heightened political uncertainty continue to act as a drag on global trade, manufacturing activity, and business investment. However, we are long term investors and looking over the long-term horizon we continue to favor large capitalized proven companies that are US domiciled but have global demand. Our US companies have proven over and over again that they are the most innovative and productive in the world. In fact, these technological changes are happening so quickly and across so many industries, we are in the midst of a fourth industrial revolution with the evolution of technology. As volatility occurs over the next year due to heightened risks, we will want to take advantage of these buying opportunities.
Disclosure: The views presented are those of Patrick R. Wallace and should not be construed as investment advice. Covington Investment Advisors, Inc. is a Federally Registered Investment Advisor. The information contained herein is general in nature and is provided solely for educational and information purposes and does not constitute legal, financial or tax advice. Opinions and forward-looking statements expressed are subject to change without notice. Past performance is no guarantee of future results. Covington Investment Advisors, Inc. uses reasonable efforts to obtain information from sources which it believes to be reliable and does not endorse, approve, certify or control the third-party content referenced.