September 2016 Newsletter to Clients
Submitted by Moneywatch Advisors on September 1st, 2016Enjoy this month’s edition that features an update on the economy and stock markets from an article we thought was worthy of sharing. “Bull Market Has Further to Run” by Brian S. Wesbury - Chief Economist, Robert Stein, CFA – Dep. Chief Economist and Strider Elass – Economist, all from First Trust.
“Bull Market Has Further to Run”: Now, the pessimists can’t stop talking about profits. S&P 500 reported earnings are down 3.4% and the government’s economy-wide measure of corporate earnings are down 4.9% from a year ago.
In hindsight, corporate profits peaked in 2014, just like they did in 1978, 1988, 1997, and 2006. So, they say, a recession and bear market are on the way, just like the ones that followed those peaks in profits as well. It’s time to sell, again!
One problem with this theory is that it assumes the decline in profits is permanent. But profits have been hurt by the downdraft of energy prices, which crushed profits in that sector, while also hurting other related businesses. However, energy prices are rebounding while profits outside of energy are accelerating.
In addition, the ingredients for a recession are not yet there. Monetary policy is not tight, consumer and corporate balance sheets are healthy, and the recovery in home building has much further to go.
We use a Capitalized Profits Model (the government’s measure of profits divided by interest rates) to measure fair value for stocks. A traditional measure using a 10-year Treasury yield of 1.62% suggests the S&P 500 is massively undervalued. Using a 10-year yield of 3.5% suggests fair value for the S&P 500 is 2667, which is 23% higher than Friday’s close. Even a 4% Treasury yield suggests fair value is 2333. We’d have to use a 10-year yield of 4.3% to conclude that the S&P 500 was already at fair value and no one expects that!
And that’s assuming no rebound in profits at all.
Alternative versions of the cap profits model using corporate bond yields suggest fair value for the S&P of around 3000; around 2900 if we use the Baa yield, 3200 if we use the Aaa.
None of this means the stock market must go up today, or this week, or even in the year ahead. But it does bolster our case for a continuation of the bull market.
We have been forecasting 2375 for the S&P at year end. At the bottom of the correction early this year, we stuck to our bullish forecast. As of Friday’s close, we needed a 9.5% gain to get there. We only have four months to go, but that’s not wildly optimistic by historical standards.
We’re looking for a strong finish to 2016 as many of the investors who are now pessimistic realize their fears aren’t justified by reality.
Client Seminar and Lunch: We are pleased to report on a very informative and delicious client seminar lunch on August 17th.
A full house of Moneywatch clients, at Coles restaurant in Lexington, heard from our visiting speaker from Lord Abbett funds. Our speaker gave us an insight into the increase in the LIBOR rate and its positive relationship to growth in floating rate funds such as the Lord Abbett and Blackrock funds we use at Moneywatch.
In a lively question and answer session, the economy as a whole was discussed along with Brexit consequences and general retirement planning questions.
The location and food was exceptional and we plan to continue these client seminar events in the future.
Thank you for your continuing confidence.
Past performance is no guarantee of future results. The opinions expressed are those of Moneywatch Advisors, Inc. and are no guarantee of the future performance of any particular fund. This information is for educational purposes only and is not intended as investment advice. Please consult your financial advisor for more detailed information or for advice regarding your individual situation.
