Global equity markets have remained at the forefront of media attention over the past few weeks and the downside that has been evident has investors questioning the near-term outlook of equity markets. The MSCI World Equity Index, as well as the Standard & Poor’s (S&P) 500, have both retracted by approximately 10% from recent peaks with the S&P 500 still in positive territory for the year (that’s an important fact to keep in mind, despite the recent downside). Although market pundits are attempting to pinpoint a specific catalyst to the volatility, we would argue that that is a futile attempt. Not only do we not know the exact reason why losses have been evident, but attempting to pinpoint a reason can simply lead to more subjective and emotionally driven decisions, all of which can have a detrimental long-term effect to a sound financial plan. We can certainly list 5-10 items, but that would be pure speculation. Rather than trying to pinpoint a reason why, our process is different. We step back and try to gauge the health of the equity market, as well as the health of the economy as a whole. Based on those factors, we can then make an objective assessment of what the likely outcome may be over the next 12 months. As it currently stands, we remain highly convicted in equity market exposure through year-end, and especially throughout 2019. Not only are corporate profits healthy and growing, but overall expectations for future quarters remain intact. When accounting for the current quarter, in addition to last quarter, the average earnings growth in the S&P 500 has neared 20%. The significance of such back-to-back strength should not be undermined. Moreover, when breaking down the domestic equity market in its various segments, the volatility attribution to the downside becomes more apparent. Highly overvalued companies that have a high influence to the S&P 500, such as Amazon or Netflix (based on a price-to-earnings ratio), have failed to post recent earnings results that coincide with an ability to sustain high growth over the next 12 months. An argument could certainly be made that by avoiding such riskier aspects of the market, a risk centric investment strategy may have the potential to produce positive risk adjusted returns that attempt to surpass that of the broader market. This was certainly true in the technology bubble of the early 2000s. In the year 2000, the S&P 500 returned -10%. If you removed highly overvalued technology from that mix, the index returned +4%. This is exactly the risk management components we apply to individual equity strategies at Credent. Our fundamental assessment of balance sheet strength takes a front seat to pure sentiment driven behavior. None of this is to suggest outsized returns, but it simply showcases how objective analysis can often reign supreme to market speculation, among other factors.
Aside from our risk centric process, information released on Friday further amplified our optimistic and objective stance on equity market behavior over the next 12 months. Quarterly annualized gross domestic product (GDP) growth was announced at 3.5% relative to the 3.3% expectation. This is the first time in a very long time that GDP is announced at such levels in back-to-back quarters. Moreover, to the surprise of many market participants, consumer spending rose the most since 2014. Such positive sentiment cannot go overlooked when we consider the strength of earnings and also the fact that the consumer holiday spending season is right around the corner. The current market cycle has produced an opportunity that can allow investors to increase their equity market participation or to initiate a new one. Volatility is healthy and has the ability to produce strong returns over the long-term, despite the near-term fear that may be augmented. This is simply a repeat of what happened in early 2018.
Investment Policy Committee:
Investment advice offered through CX Institutional, a registered investment advisor.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly. The economic forecasts set forth in the presentation may not develop as predicted.