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Market Commentary

1st Quarter 2018 Market Commentary

Complaints on the economic front from small business owners claim that taxes are too high and regulations are cumbersome. Complaints on the market front are that the market has been going up for so long, there hasn’t been a 5%, a 10% or a 20% correction. We stated five problems here and four of them have been resolved. A normal correction provides buying opportunities. The trick is to determine whether we just had a normal correction or a precursor to a bigger decline. We are of the opinion that the equity markets could stay in a trading range for the next few months after which the equity indices can start a move higher.

We wouldn’t be surprised if we receive more bad news. We’re going to need a catalyst, but we have plenty of potential catalysts in the pipeline. President Trump is working on tariffs. We don’t know if it’s a negotiating tactic, but he says he is doing this because other countries are not fair to us. If you inspect and dig deeper, tariffs are not that significant from either side. And the difference in tariffs imposed on us by other countries versus tariffs imposed by us on other countries is even smaller. Kim Jong Un says he’s decided to stop nuclear testing, which eased the markets recently. He’s said that before, and actions speak louder than words and history has shown his words don’t carry as much weight. Moreover, he appears to be getting cozy with China again. Currently, 47% of our trade deficit is with China and 9% is with Mexico, so over the short-term, there is plenty to take down the markets further.[1]

Over the short-term we are expecting more volatility, but over the intermediate term, this market still has a bullish bias. Part of the problem is that some investors have never seen equities go up in a rising interest rate environment. If you look back to 1982-2000, one of the greatest bull markets we’ve had, interest rates were consistently falling and equities were rising. The question in the skeptics’ mind is: If interest rates are not falling, how can markets rise? In the absence of very high interest rates, equity markets usually follow the direction of earnings. Earnings have continued to rise in a relatively benign interest rate environment. In fact, in recent quarters, the price to earnings ratios have fallen as the markets have risen because earnings have risen faster.

When you look at the long-term interest rates, the 10-year US Government Treasury rate is around 2.8%. The consumer price index (CPI) stands at about 2.2% (February 2018).[2] Therefore, the real interest rate is around 0.6% (nominal interest rate - CPI = real interest rate or real yield). The average long-term real interest rate for the last 60 years is around 2.4%.[2][3] Compared to this long-term average, we are sitting at 0.6%, which is considerably lower and still conducive to a healthy environment for equities to flourish. With that in mind, we are tempted to stick with our 2017 prediction that the S&P could go to 3,000 and we wouldn’t be surprised to see it go to 3,700 in the next 24 months.

Over the next 7-10 years, we do have concerns. Historically, real estate has been a household’s main asset and represented the core segment of their net worth. However, that hasn’t been true this cycle, which is one of the many reasons we are concerned over the next decade not being as rewarding as the last. When you inspect the American household’s net worth, the share of financial assets as a portion of their net worth has continually risen over the last nine years and now exceeds their real estate ownership. Real estate has historically been our citizen’s primary savings account. To compare, in 1982 real estate was almost 30% of the American household’s net worth. At the end of 2017, real estate was about 24.3% of household and nonprofit organization assets, while equities represented 26% (much higher than 17.4% in March of 2009) and cash and bonds were about 13.4%.[4] 

One of our other reasons for concern is the deficit, which we believe is going to continue to trend higher over the next few years. When President Bush accomplished his proposed tax cuts in 2003, he felt that the deficits would go down because the economy would self-sustain (supply-side economics). That didn’t happen then, and this time we expect a similar result. In short, our national debt currently stands at about $20 trillion[5], and has the potential to cause some problems in the future.

It is hard to believe that Legend Advisory has been managing assets for over 26 years. We are humbled by your confidence and trust in us to watch over your savings. The Legend Advisory team is grateful for the privilege to serve you by helping to achieve your investment goals.

[1] U.S. Census Bureau
[2] Bureau of Labor Statistics
[3] FactSet
[4] Federal Reserve

Shashi Mehrotra, Chartered Financial Analyst, is the Chief Operating Officer and Chief Investment Officer of Legend Advisory. The opinions and predictions expressed herein are those of Shashi Mehrotra solely and not necessarily the opinions or expectations of Legend Advisory or any of its affiliates. Such opinions and predictions are as of March 27, 2018, and are subject to change at any time based on market and other conditions. No predictions or forecasts can be guaranteed.

Current market and economic data is as-of March 27, 2018. Information contained herein has been obtained from sources believed to be reliable, but is not guaranteed.

Important Disclosures and Definitions

Investing involves risk including the potential loss of principal. The opinions and material presented are provided for informational purposes only. No person or system can predict the market. Neither asset allocation nor diversification guarantee a profit or protect against or eliminate the risk of experiencing investment losses. All investments are subject to risk, including the risk of principal loss. There is no assurance that the investment goals and process described herein will consistently lead to successful investing.

The information shown does constitute investment advice, does not consider the investment objectives, risk tolerance or financial circumstances of any specific investor. The information provided is not intended to be a complete analysis of every material fact respecting any portfolio, security, or strategy and has been presented for educational purposes only. Data obtained from the sources cited is believed to be reliable and accurate at the time of compilation.

Past performance is no guarantee of future results.

There are some risks associated with investing in the stock markets: 1) Systematic risk - also known as market risk, this is the potential for the entire market to decline; 2) Unsystematic risk - the risk that any one stock may go down in value, independent of the stock market as a whole. This also incorporates business risk and event risk; and 3) Opportunity risk and liquidity risk.

U.S. Treasury securities—such as bills, notes and bonds—are debt obligations of the U.S. government.

Price/Earnings (P/E) ratio is the price of a stock divided by its earnings per share that gives investors an idea of how much they are paying for a company’s earning power. High P/E stocks are typically young, fast-growing companies and are far riskier to trade than low P/E stocks.

Consumer Price Index (CPI) measures prices of a fixed basket of goods bought by a typical consumer, widely used as a cost-of-living benchmark, and uses January 1982 as the base year.

Securities offered through Lincoln Investment, Broker/Dealer, Member FINRA/SIPC. Advisory services offered through Lincoln Investment, Legend Advisory, or Capital Analysts Registered Investment Advisers. 

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