Stock Market Outlook
and Economic Update
The stock market once again is responding to uncertainty relating to trade tensions with China, and most recently, with Mexico. I believe the Mexican tariff threat will be resolved shortly. Mexican President Obrador stated on June 1, 2019 a desire to resolve this issue and is sending a delegation to the U.S. to resolve the U.S. – Mexican border dispute and thus the threat of tariffs.
The U.S. stock market, as measured by the S&P 500 Index (S&P), declined 7% in May 2019. However, the index remains up 10% on a year-to-date basis through May 31, 2019.
The recent stock market sell-off is normal for the stock market as periodic concerns develop prompting investors to sell. We advise clients to establish a long-term investment strategy which includes an appropriate amount of risk assets (stocks and real estate), and funds for cash needs and emergencies (money markets and bonds) for the next 1-4 years.
Corporate earnings are expected to be up a mere 3% in 2019, after a robust 22% growth in 2018. The consensus estimate for corporate earnings growth for 2020 is 12%. If our economy remains in a growth phase, and corporate earnings rise by 10%+ in 2020, the U.S. stock could rise by 10-15%, in my opinion. An important caveat: if the trade dispute between the U.S. and China does not dissipate, consumer and business confidence could easily deteriorate and thus cause a weakening economy and possibly a recession. A bear market (-20% or more) would likely ensue.
The U.S. economy continues to expand but its growth rate is decelerating. The U.S. economy remains on a solid growth trajectory, although its growth rate has slowed in 2019. Gross Domestic Product (GDP) is the primary measure of economic growth and is expected to be up by 2.7% in 2019, down slightly from 2.9% in 2018. World GDP is expected to be up by approximately 3.5% in 2019 and 2020, down from 3.8% in 2018.
On the job front, companies continue to hire new workers at a health pace with 260,000 new jobs being added to the U.S. economy in April 2019, and 8170,000 so far in 2019. Wages are rising 3.2% on average for production/non-supervisory workers with higher gains among the lower wage jobs. This is certainly welcome news because wage growth has been lackluster for several years.
Consumers are spending cautiously, but still “feeling” well. Personal income rose 5.1% in the March 2019 quarter on a year-over-year basis, while spending was up 3.6%, exhibiting consumers caution. The personal savings rate is 7%, approximately twice the rate prior to the financial crisis of 2008.
Consumer and business sentiment, while currently healthy, could deteriorate easily if trade tensions do not show signs of abating ……
Small business optimism on a slight upturn after deteriorating at the end of 2018 and into 2019…….
Stock Market Outlook: a possible 10-15% upside in the next 18 months?
The stock market’s valuation (price-to-earnings ratio) is back to its historical average and is currently (5/31/2019) 15.7x. As we look to 2020 earnings estimates, the P/E ratio drops to 14.7x, based on the current price of the S&P and its 2020 earnings estimate. Herein lies the catalyst of the potential for the market to rise by 15% in the next 12 to 18 months! This potential is based on our economy not experiencing a recession and continues its modest GDP growth rate of 2.5%+.
Is a recession on the horizon? We continue to see the media bring forward articles and opinions that a recession is coming every time the market declines. We heard this cry in the third quarter of 2018 when the S&P declined 20%. Then, in the first quarter of 2019 the S&P rebounded 22% and the economy expanded by 3.1%. It is unclear what the outcome will be with trade negotiations, especially with China. These negotiations will likely have a direct impact on business sentiment and investment. If business uncertainty leads to business investment declining, an economic downturn could easily follow. If global economic growth rates continue to decline and trade tensions remain heightened, the stock market could easily enter a true bear market (down 20%+).
Portfolio Investment Strategy
• Maintain an appropriate allocation to cash and bonds for cash needs for the next 1-4 years.
• Equity/stock investments should have a time horizon of at least three years.
• Equity/stock allocation: increase small-cap exposure. Small cap stocks are now selling at a discount to large capitalization stocks and have a higher
earnings growth rate. Small cap stocks typically sell at a P/E ratio premium to large cap stocks.
• Market timing is fruitless. While it is tempting to sell stocks when the markets are declining, we believe prudence is on the side of maintaining a long-
term strategy and/or adding to stock investments when the stock market is declining.
Every investors situation is unique and requires a customized strategy to implement.
Rich Lawrence, CFA June 4, 2019
Plan for the Long Term
Prepare for the Short Term
This market update includes data we believe to be accurate. However, Lawrence Wealth Management (LWM) does not warrant or guarantee its accuracy. Opinions about the future are not predictions, guarantees or forecasts. Investing in stock and bond markets have risk that could lead to investors losing money.