“Hope is not the expectation that things will turn around for the better, but the belief that they can. It invites not passive anticipation but active repair and restoration”.
-Peggy Noonan, Wall Street Journal 1/3/15
After gaining over 60% over the past three years, this bull market is clearly showing its age. Progress for the overall market has become halting. The market has been moving in volatile fits and starts and the slightest irregularity is an excuse for the bears.
It makes sense to be bearish, or at least, very cautious in the early stages of 2015. Famed investor Bill Gross recently wrote about 2015, ” When the year is done, there will be minus signs in front of returns for many asset classes. The good times are over.”
Please bear in mind that Mr. Gross is referring to the overall stock market and not the potential gains that lie ahead for carefully managed investment accounts. Strong returns will be possible in 2015. The principal condition is that portfolio gains will come from investment management rather than a strong tailwind from the broad market.
Even though the S&P managed a gain of 11% in 2014, there were five major swoons during the year. These periods give us a clear reminder that stocks are priced for perfection. Investors are very susceptible to being frightened and this can cause sharp declines for the market. In January of 2014, the market dropped 6% in the first week of trading. Profit taking was the culprit. In March, we had the biotech and tech selloff due to overvaluation fears. In August, Russian tensions escalated and caused a short term decline. In October, the Ebola virus scare caused the S&P to drop 10% in two weeks, its first decline of that magnitude in two years. Finally, in December, the market fell 6% in conjunction with the remarkable drop in crude oil.
These occurrences and other evidence points to a challenging year for stocks as we look ahead. Stocks like Costco, Starbucks, and Visa have been market leaders but they have price-earnings ratios above 30, which is considered to be a relatively high valuation. Growth forecasts for these companies are less than 10%. High valuations like these need to have better growth rates.
Since so many stock prices are very high compared to their ranges, this makes us decidedly negative in the early stages of this year. Since the market tipped lower in December, it is likely that this direction will continue. For any investor, it would be worthwhile to scrutinize your investments and take some profits. Many stocks can be sold at current levels and simply bought back at lower levels.
Early weeks of this year will tell us a lot about the opportunities that lie ahead. It should pay off to study company earnings announcements over the next few months. If these results are diciphered correclty, investors can make healthy profits. Our intent is for our clients to capture these opportunities.
Here is to the getting it right in 2015.
The Best an Economy Can Offer
Meanwhile, the economy is a different story from the stock market. Our economy is finally finding its footing and more good news is in store. Economic currents are flowing together to offer us one of the most constructive economic outlooks that we have seen in many years.
Energy prices are at five year lows which benefit businesses and consumers alike. People are just starting to realize significant savings at the gas pump. Interest rates also remain near their lowest levels and offer tremendous advantage to business borrowers and home buyers. These savings create an implied tailwind to our economy as we look into 2015.
Average hourly wages are finally starting to sneak higher. This follows years of stagnation. Assisting wage growth is the continuing surge in employment. Throughout 2014, the average monthly new jobs gain was 241k, which is the highest rate since 1999 and is the fifth best rank over the past 28 years. This year, peak employment finally climbed above the 2008 high of 138 million. We have more people working in the US today than ever before. (source: Bespoke Investments)
The good news for the US economy continues to pile up. The US dollar rests at a five year high versus major international trading partners. Dollars go further toward buying imported goods. In addition, evidence points to American households continuing to save more greenbacks. This higher savings rate lowers the debt of the private sector and creates stronger balance sheets for businesses and consumers alike.
Everyone recognizes that things can change but all of these signs point to a very healthy economy that is growing and just beginning to flex its muscles. According to a Wall Street Journal Survey, no mainsteam economist predicts a recession this year and the positive view on the economy is universally embraced.
A strong consideration for the Federal Resrve must be made whenever we examine the economy. The Fed has adopted a “data dependent” policy which implies economic performance will drive Fed policy. Chairman Janet Yellen is currently regarded as being dovish on the economy and this means that she will be generous in accomodating economic growth. Weakness in worldwide economies, threats of deflation, and a strong US dollar should conspire to keep Fed policy dovish and keep the Fed from raising interest rates at least until summer.
A Strong Economy Does not Mean a Bull Market
Since stocks have risen so much since the financial crisis, they already have our economic recovery baked in. Even though our economy is healthier than it has been in six years, the stock market is already discounting this.
The S&P 500 gained 11% for 2014 but the Russell 2000, an index for smaller companies, was only up 3.6% and the Dow was up just 8%. Gains for 2014 were muted. Many stocks in the energy space are down 35% since the beginning of last year. Google, Amazon, and IBM shares were also negative for 2014. Since the overall market has its share of sputtering parts, we view this as further evidence that the broad market is still struggling.
In spite of the vibrant domestic economy, it is most likely the stock market consolidation will continue into 2015.
Peregrine Returns and Strategy
For 2014, mutual funds posted their worst year versus the S&P. The average stock fund gained 7.48% for 2014 and trailed the benchmark by about 4%. I think this will change drastically in favor of active managers, but 2014 did not reflect this.
The Peregrine Equity Composite gained 2.84% in the fourth quarter and finished the year with a gain of 8.15%. Our Balanced Composite was similar and gained 2.34% and 8.25% respectively. Our clients had strong gains during October and November but many of our firm holdings sold off in the final two weeks of 2014.
The investment landscape is substantially shaped by the crazy condition of low oil prices, lower interest rates, and a climbing US dollar. The threat of outright deflation exists in Europe and the Chinese economy is showing clear signs of slowing. In the meantime, the rising US dollar spells new challenges for investors since this is a disadvantage for companies that export. These conditions will probably extend into 2015. There will be sparkling investment opportunities but caution is the guiding light at this time.
Past performance is no guarantee of future results. Investment management involves the possibility of losses. Significant general stock market moves up and down can influence the performance of client portfolios. Composite returns are based on client portfolios of over $100,000. Not all clients are included in the composites. All returns include the reinvestment of dividends. All returns are net of fees. Composite returns are derived from aggregated, time-weighted returns for clients of Peregrine Asset Advisers. Individual client returns can deviate from the composite returns. While Peregrine uses the S&P 500 as a benchmark, Peregrine does not attempt to mimic the structure of this index. Individual client portfolios vary. The number of securities held also varies per client.
Do you have questions or would you like to know more, contact Dan Botti.