August was a wild month for capital markets. It can be hard not to get nervous about your portfolio when the market tickers are red more often than green, and you’re reading about an inverted yield curve as a predictor of bad things to come. So, we wanted to weigh in on some of the issues making headlines recently. If you have any additional questions or concerns, Personal Capital offers free portfolio reviews, and an advisor would be happy to answer any questions you have about your concerns.
The Trade Conflict
The trade conflict with China is impacting sentiment and has had a detrimental effect on many individuals and businesses. Still, prior to recent escalations, we viewed actual impact from tariffs as less dramatic than is commonly being portrayed. Tariffs are a form of tax. A 10% tariff on $500 billion of Chinese goods is significantly smaller in dollar terms than an absolute 1% increase in US federal income tax rates. However, prolonged tariffs at the recently elevated 30% level will cause businesses to have to make tough choices and will likely hit short term economic growth.
The Yield Curve and Recession Concerns
The yield curve is now functionally flat – that is not a great environment for growth, but doesn’t mean there must be a recession. Equity returns have historically remained positive on average for a significant period even after yield curve inversion.
This bull market has been driven by innovative and very accommodative monetary policy globally. The Fed and other central banks appear ready and willing to keep pushing this agenda. It is a powerful force which eventually will run out of impact, but it is very hard to predict when.
Given the length of the current expansion and increasing number of softening economic data points across the globe, we view the chances of recession in the next 12 months as elevated, but still unlikely. Trying to predict timing of recession is very hard and usually not a good idea. We don’t recommend it. Recession is the exception; growth is by far more common. Meanwhile, consumer spending and the job market in the US both remain strong.
Considering the developed world’s low and negative interest rate environments, the nearly 6% global earnings yield for stocks (of which about 2.5% is paid in dividend yield) is very attractive. This is not a prediction that stocks will rise, but there is a solid argument that stocks could go up significantly given the new interest rate paradigm.
It may be a slightly riskier time to be in the market, but it could be a much riskier to be significantly underexposed to stocks and earning negative inflation-adjusted yields elsewhere.
A Final Tip for Homeowners
Low rates hurt lenders and help borrowers. Especially if you are paying more than 4%, it may be a good time to investigate a mortgage refinance.
Also, while short term rates are dropping, in the US they are still considerably above zero in the US, so it pays to make sure your cash balances are working for you.