Investing in a Multi-Speed World

Here we are in the multi-speed investing world. Actually, I think you can make the case that the markets are always that way to some extent. It’s just that the central banks have added to the cloudiness in our forecasting.

In that regard, US stocks were strongly higher Friday in response to the better than expected numbers coming from the November non-farm payroll report. While Fed Chair Janet Yellen had said last Wednesday that at their coming rate decision meeting on 14 – 15 December, the Fed “will assess all of the available data,” it sure looks as if our rates are finally going to begin rising.

Meanwhile, across the Atlantic, European Central Bank (ECB) Mario Draghi announced last Thursday that the ECB would push its deposit rate even deeper into negative returns, to help stimulate the economies of the fringe members in the Eurozone. He added Friday that “quantitative easing was unlimited” and that “there was no particular limit to how we can deploy any of our tools” and that theirs is a “gradual incremental approach.”

So, where does that leave you as an investor?

First, some perspective

No matter how confusing all of this may seem, remember that unrest and uncertainty are just part of living and investing. For instance, we haven’t always worried about low interest rates or low inflation. In 1973, the price of oil quadrupled. Inflation in 1983 topped out at 13.5%. Those each brought its own set of challenges and talk of impending doom. Instead, the stock market, while suffering through the occasional bumps in the road, has generally persevered since those times.

Daily stock prices are affected by the news of the day, the trend of inflation and economic growth, the prevailing Fed policies and, of course, geopolitics. Regardless of those things, as well as whatever interest rates were doing at the same time, the markets have proven to be quite resilient over time.

In fact, according to the S&P folk, going back to 1982, there have been just five down years in the S&P 500. That’s 5 out of 33 or only 15% of the time. Taking the data back to the 1926, the record shows that stocks have been up roughly 3 out of every 4 years. While we aren’t guaranteed nicely positive returns every year, in order to receive those long-term average returns, you must stay invested – even when the bear is running amok, ala 2008 – 2009 – and your perseverance is being tested mightily.

So, what about all the talk about stocks being overvalued? Well, I’m of the opinion that more important than whatever formula is being used to determine a current relative value, you need to consider the trend, the direction in which prices are heading. While the historic record suggests a positive result more often than not, you can’t be sure. For instance, this year may wind up flat to slightly negative. This singular annual result, even if it does continue positive for the seventh year in a row, shouldn’t knock you off your strategy.

Investing in transition

Like any other time, you don’t just go blindly into individual companies or sectors. Just cuz something’s up doesn’t mean it can’t continue higher…the theme of this bull market, methinks. Conversely, just cuz something is down, doesn’t mean it can’t move lower. Just don’t be afraid to take appropriate action.

Stocks rise, individually and/or collectively, because their future earnings are thought to be rising. So, give your holdings a steely-eyed examination to determine which themes or trends may have run their course, as well as those positioned to benefit from the changes.

For instance, the utility, telecom and highly leveraged REITs (real estate investment trusts) are likely to suffer in a higher rate world as they’re capital intensive businesses which use lots of capital in their daily business. Rising rates can bring rising costs and therefore lower earnings. That combo tends to be less than positive for the share prices.

Dividends in these type issues aren’t guaranteed, though they may be maintained, at least until or unless rates go much higher than they are likely to be soon. However, don’t be looking for any increases in payouts from these issues.

The areas that have tended to do well in past periods of rising rates include the shares of banks and insurance companies. In addition, consumer discretionary sector companies like retailers have done well as rising rates typically signal an improving economy so consumers tend to be more willing to spend, as we’ve seen this year in car and light truck sales with recent sales results at near-historic levels. This willingness to spend also helps the hospitality sector, i.e., hotels, travel companies, restaurants, cruise lines and airlines.

Home builders tend to do well too. And, given the previously depressed housing market, it appears as if there is additional growth potential simply from recovering from that as well. Related to that are appliance makers and other providers to the field.

And let’s not forget tech. Tech of all types and uses will have a lot to do with future growth all over the globe. Just stay with quality and ensure that the company does have substance and not just a nice idea.

Finally, unlike the high-dividend paying companies, look at those quality firms that have a history of consistently increasing their dividends. While perhaps giving you a little less current income, over time, the growth of the dividends, recalling that their levels aren’t guaranteed, can go a long way toward protecting your buying power.

Summary

One last point to hopefully help you understand the historical effect of the rates rising, I call upon the S&P historians once again.

Since 1983, the Fed has had 6 cycles of raising interest rates. With the exception of 1999, the S&P rose during each of those periods. Further, in the year following the final hike in those cycles, the S&P averaged a gain of 14.6%. Here’s the chart:

S&P 500® Index Returns Before and After Rate Increases
Performance Before/After Initial Rate Hike

As always, please let me know if I can be of further help or if you have questions on any of this material.

Cheers!

Mike

Securities and Investment Advisory Services offered through KMS Financial Services, Inc.

To get an overview of economic conditions, use this link. It’s updated monthly. http://www.russell.com/Helping-Advisors/Markets/EconomicIndicatorsDashboard.aspx

Past performance is not indicative of future returns.Investing in securities of any type involves certain risks, including potential loss of principal. Investment return and principal value in a bond and/or securities portfolio will fluctuate so that investments, when sold or redeemed, may be worth more, or less, than the original investment.

Investing in sectors may involve a greater degree of risk than investments with broader diversification. International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Investing in emerging markets can accentuate these risks.