March

HUTCHENS INVESTMENT MANAGEMENT WEEKLY COMPASS March 20th, 2017

on Monday, 20 March 2017. Posted in 2017, March

HUTCHENS INVESTMENT MANAGEMENT WEEKLY COMPASS March 20th, 2017

Markets Look to Economy and Earnings.

“Life is really simple, but we insist on making it complicated.”                                                                                                                                                                                                              Confucius
 
 
Markets continue to move up despite a slowdown of momentum for the Trump Agenda.  The economy is on a pace to grow above the 2% level in 2H2017.  A chorus of permabears; David Rosenberg, Marc Faber, David Stockman and most recently joined again by Nouriel Roubini, are all in sync that markets are “doomed.”  Reasons may vary but the conclusion is unanimous.  Most often-heard for a correction is the extended length of the current bull market.  Presently, the 2009-2017 bull market is the second longest in history and third in appreciation.  Since the election the S&P 500 has gained 14.1% while the NASDAQ has risen 17.2%, both indices are near all-time highs.   Since the bottom on March 9, 2009, the S&P 500 has gained 257% but has remained one of the least respected bull markets in history.  Contrary to what many pundits predict at every selloff, stocks do not collapse from age.  In fact, the recent move in equities since the election is more reminiscent of 2013, when stocks measured by the S&P 500, gained over 30%.  Without any help from fiscal stimulus, full year 2017 earnings are forecast to increase 10%, but these estimates continue to be revised higher, unlike during the past three years.  For 2013, earnings grew an actual 6%, followed by 8% in 2014.  Both 2012 and 2016 had corrections early in the year.  In 2012 it was the European Sovereign Debt crisis and for 2016 it was oil, China and the US dollar.
 
The problems which led to the selloffs over the past few years have lessened or disappeared.  Europe remains in reflation mode and Brexit, although set to reappear March 29, is confined to the UK and the EU, fallout to US interests is minimal.  Oil, which in early 2016 approached $26 a barrel, has since doubled and hovers around a manageable $50 a barrel.  Even with cheating on output quotas, there is little chance of a retest of the lows of February 2016.  For years China was widely believed to be incapable of transitioning to a consumer economy.  Aside from avoiding the expected financial shock, it is now on a path to managing the debt cycle and longer-term the emergence of a high income economy.  The US dollar stabilized in 2016 and remains high, but below the peak levels of 2015.  The US Dollar Index (DX) is 8.8% above the May 20, 2016 cyclical low.   
 
There is little doubt that the election tipped the scales to growth.  The current Administration’s ability to rapidly enact its fiscal stimulus has been stalled by politics.  Firstly, Repeal and Replace ObamaCare was a bad choice as the initial policy initiative.  There is no economic value to TrumpCare, only fulfillment of years of GOP rhetoric on a better plan which thus far is unsubstantiated.  A replacement is 2-3 years away and will be contentious and headline grabbing at every turn.  Secondly, the cost estimates of replacement going forward from the Congressional Budget Office (CBO) will negatively affect tax reform.  With a sizeable conservative contingent, i.e. the Freedom Caucus, the passage of any budget busters is unlikely.  Demands for a “revenue neutral” tax bill will be center stage with higher health costs limiting the savings to individuals and corporations.  For the time being, it will be the rollback of Obama initiated regulations that will stimulate additional growth.   
 
Wall Street has not reacted to the first Trump Budget, knowing full-well it will not be passed as presented.  Congress holds the purse strings and for elected officials the proposed budget is extreme.  Defense will not get an additional $50 billion, nor will the cuts be as deep.  Where infrastructure spending winds up is anyone’s guess.  Throughout all these negotiations, there will be a unified Democratic opposition, whose primary purpose is disruption and delay.  For now the economy and earnings will have to carry the stock market.  Consumer and business sentiment currently remain optimistic and the prospect of additional reduced financial regulation is on the horizon.  Already, banks are broadening their loans and the removal of environmental restrictions have moved stalled energy projects forward.  Eventually it will be Tax Reform and the Repatriation of overseas funds that extend and broaden the current bull market.  
 
Investment Policy
 
Our investment policy remains optimistic. We do not discount the possibility of a market sell off as investors become frustrated with slow implementation of stimulative policies. However, any correction should be considered a long-term buying opportunity.  It is unlikely given the growing strength in the economy and the outlook for corporate earnings that the long-term bull market will be interrupted.  Realistically the positives from expansionary fiscal policies will take more time than generally expected. Longer term we believe that consumer-led economic growth, accompanied by slow rising real interest rates and moderate inflation, will result in increased earnings and multiple expansion with further upside for select domestic Large-Cap consumer, financial, industrial and technology companies.  To mitigate the potential of higher-than-expected inflation and multiple compression, portfolios should include value companies exhibiting sustainable earnings growth and dividends.

Authors:
David Minor
Rebecca Goyette

Editor:
William Hutchens

HUTCHENS INVESTMENT MANAGEMENT WEEKLY COMPASS March 6th, 2017

on Sunday, 05 March 2017. Posted in 2017, March

HUTCHENS INVESTMENT MANAGEMENT WEEKLY COMPASS March 6th, 2017

Will the Washington Circus disrupt the Bull Market?

“I remain just one thing, and one thing only, and that is a clown. It places me on a far higher plain than any politician.”                                                                                                                                Charlie Chapman
 
 
The most recent assertions by President Trump of wire taps in Trump Tower have unnerved even his staunchest supporters.  Whether it is true is unclear as the President has offered no evidence to support his claims, only a Tweet.  After outlining his agenda in a well-delivered State of the Union Address earlier in the week, the President put his own credibility on the line again on Saturday. For investors, these accusations should not matter, but rather it is the cumulative effect of these unsupported messages that bring his ability to manage within the Government into question.  Upcoming legislation will need all the GOP support for passage without distraction.  This week is the unveiling of a draft of “Repeal and Replace ObamaCare,” again something of no financial significance to the markets, that was until Trump trumped himself.  What should be a non-event for financial markets could be interpreted as a negative by some investors.   
 
Markets set all-time highs last week as the enthusiasm generated in Tuesday’s speech spilled over into stocks on Wednesday.  Through last Friday, the S&P 500 had risen 11.3% since the election and the NASDAQ Composite is up over 13%.  The rise reflects stability in the economy as housing, corporate earnings, and signs of capital investment lifted stocks and a healthy consumer began spending.  This pattern continues today.  However, the election of Donald Trump, fraught with controversy, but with a stimulative platform engendered confidence at the same time the economy was stabilizing.  Underlying strength in the economy continues but consumers are spending less than the historical pattern in prior recoveries.  Online is replacing brick and mortar, as the 85 million Millennials are changing housing and leisure preferences.  We have discussed in our past Reports how the demographic shifts would lengthen the housing cycle as families are started later and Baby Boomers remain employed beyond normal retirement.  It remains a 2% economy, although lessened regulation, tax reform, and proposed fiscal stimulus have the potential to increase growth beyond that level for the first time in eight years.   
 
Not since the financial crisis has Washington had such a major role in setting US economic policy.  Fortunately, the economy is at the stage of recovery to benefit from a fiscal stimulative agenda with the Fed standing ready to increase rates as inflation rises and growth accelerates.  How much and how soon depends on how fast policy initiatives become law.  After a new healthcare law, tax reform will move into the Congress.  Although Secretary Mnuchin expects enactment in 2017, the implementation of a revenueneutral tax plan may not bring 3% sustained real GDP growth.  This is particularly true if the controversial “Border Adjustment Tax” (BAT) is initiated.   A BAT, despite its revenue producing potential, has unintended consequences.  Among these are:   
 
 A long list of beneficiaries (net exporters and companies leveraging IP overseas), and an equally long list of companies at risk (industries with high import content).   
 
 Growth may increase but Personal Consumption could be slowed by higher costs and the potential of trade retaliation (external benefits at the expense of domestic spending.)
 
 Higher inflation could necessitate higher Fed Fund rates, thereby cutting economic growth and eventually ending the bull market.   
 
Today, markets are looking for the BAT as an offset to rapidly rising deficits.  For investors, the bond market is a leading indicator of its effectiveness.  Using the 10-year Treasury as a proxy for economic growth, we would look to interest rates to rise to about 4% without a stock market adjustment.  However, bears will point to an impeding recession before the 4% rate is reached, which could result in a midcourse correction.  For now, we are nowhere near that level for a definable correction (10% or more).   
 
Earnings Update
 
According to FactSet, with 98% of the S&P 500 market cap reported, 4Q2016 earnings and revenues rose an identical 4.9%.  In 1Q2017 analysts are projecting earnings growth at 9.0% and revenue growth of 7.3%.  For 1Q2017 eight of the eleven major S&P 500 sectors are estimated profitable and all but one (Telecom Services) are forecast to have positive revenue growth.   Earnings are dramatically improving as we approach 1Q2017 reporting season, and along with a healthy consumer provide the foundation for economic growth and in turn, stock market appreciation.  For now, the Circus in Washington is not a game changer for investors, but with the hostile atmosphere between all players, potential disruptions to the Trump Administration’s growth agenda, particularly tax reform, is likely.   Also, the President seems quite capable of self-inflicted chaos.  In such an environment, mid-course selloffs are inevitable (less than 10%).  Stock selection under these changing domestic and trade conditions speak to a more flexible investor.  Our investment policy will address these issues as the agenda moves forward.  
 
Investment Policy
 
Our investment policy remains optimistic. We do not discount the possibility of a market sell off as investors become frustrated with slow implementation of stimulative policies. However, any correction should be considered a long-term buying opportunity.  It is unlikely given the growing strength in the economy and the outlook for corporate earnings that the long-term bull market will be interrupted.  Realistically the positives from expansionary fiscal policies will take more time than generally expected. Longer term we believe that consumer-led economic growth, accompanied by slow rising real interest rates and moderate inflation, will result in increased earnings and multiple expansion with further upside for select domestic Large-Cap consumer, financial, industrial and technology companies.  To mitigate the potential of higher-than-expected inflation and multiple compression, portfolios should include value companies exhibiting sustainable earnings growth and dividends.

Authors:
David Minor
Rebecca Goyette

Editor:
William Hutchens