Market Commentary

Our Chief Compliance Officer, Ashley Guerra quoted in an informative article by CNBC.

New client best interest rule raises standards but ‘muddies the water’ on advisor, broker differences

PUBLISHED MON, NOV 18 20198:00 AM EST UPDATED TUE, NOV 19 20191:12 PM EST Andrew Osterland

What is a suitable investment for someone? What is in an investor’s best interest? What is the difference between a securities broker and a financial advisor? If you have no idea, you’re not alone.

“There is still so much confusion with financial terms,” said Ashley Guerra, chief compliance officer for registered investment advisor Gamble Jones Investment Counsel, ranked No. 12 on the CNBC FA 100 list of top financial advisors for 2019. “I don’t see a lot more awareness of the issue among investors.

“I still have friends that call me their broker sometimes,” she added.

Read more

Newsletter – Quarter 3, 2019

The road to nowhere has been paved with uncertainty.  While the stock market continues to be resilient and is hovering near all-time highs, it has made little progress since January 2018.  Given the market’s distaste for uncertainty, it is not surprising that a lack of clarity on the U.S.-China trade war, the economy, and corporate earnings growth has played a key role in this relative stagnation.

The trade war between the U.S. and China has served as a major headwind for the market since early 2018.  Prospects for a resolution have deteriorated since late May, when negotiators were believed to be close to a deal.  Since then, the dispute has escalated, with each side implementing additional tariffs and scheduling further rounds of tariffs for later this year.  Though there continues to be dialogue between the two countries, including a meeting scheduled for next week in Washington D.C., both sides seem fairly well dug in at this point, and we do not expect there to be a quick resolution.

Uncertainty over trade policy has led to growing economic uncertainty.  The effects of the trade war, including slowing trade flows and business investment, have weighed on the global economy.  Global GDP growth is expected to decelerate this year to its slowest pace since 2009, with China cooling off significantly and Europe nearing a recession.  The U.S., which relies less on exports than most countries, has fared a little better than much of the world so far.  However, it hasn’t been entirely immune to the effects of the trade dispute, as evidenced by the recent contraction in the manufacturing sector as well as the significant cooling in business spending.  Federal Reserve economists recently estimated that uncertainty over trade policy will reduce U.S. GDP by more than 1% through early 2020.  Still, consumer spending, which makes up nearly 70% of the U.S. economy, has held up well, fueled by an unemployment rate that continues to sit near a 50-year low.  So while economic growth has undoubtedly moderated, we don’t anticipate a recession in the U.S. in the near future.  However, the potential for a significant escalation in the trade dispute certainly poses a risk to that expectation.

As is usually the case, corporate earnings growth has followed the lead of the economy.  The more uncertain economic outlook has also made it more difficult to forecast the pace of earnings growth.  At the beginning of the year, the consensus estimate among analysts was that S&P 500 profits would rise by about 8% this year.  Due in part to the strain that the trade dispute has placed on the economy and business sentiment, that estimate has now fallen to 1%.  While analysts currently expect S&P 500 earnings growth of 11% next year, we think that forecast is likely a bit too optimistic given our expectations for moderate economic growth.  There is also the potential for earnings to contract should the trade war intensify.

Even amid this backdrop of uncertainty, historically-low interest rates continue to bolster the stock market.  Interest rates have fallen sharply this year as the Federal Reserve and central banks around the world have cut rates in an effort to combat a slowdown in economic growth caused in part by the trade dispute.  The Fed cut its short-term benchmark interest rate in July for the first time since 2008 and followed up with a second cut in September.  Longer-term yields have followed suit, declining sharply in anticipation of additional Fed easing.  Yields have also been dragged down by the gravitational pull of the more than $15 trillion of foreign sovereign debt now trading at negative yields.  As a result, the 10-year U.S. Treasury yield has declined from 3.2% in November to 1.7% today and the 30-year Treasury yield recently dipped briefly below 2% for the first time in history.  While we continue to have concerns about the potential long-term side effects from such an extended dose of loose monetary policy (see our 2nd quarter newsletter), low rates have played a key role in this record bull market and continue to support stocks even in the face of trade volatility and slowing economic and earnings growth.

In the short term, the stock market’s path appears somewhat tethered to developments in the U.S.-China trade war and its ripple effects on economic and corporate earnings growth.  Though the market has fundamentally been treading water since early last year, it has still had an impressive run during the current 10 ½ year bull market, the longest on record.  During that span, the market has benefited significantly from the expansion of its price-to-earnings ratio, with the forward P/E of the S&P 500 rising from a multiple of 9 to a multiple of 17 today.  While today’s valuation is not exorbitant, particularly in the context of a supportive low-rate environment, it is above its long-term average of 15.  Without much room left for further P/E multiple expansion, the market will need to rely mostly on earnings growth to drive it higher.  As a result, we think it is unlikely that the market’s returns over the next few years will be as robust as they have been over the past decade.  Though we still expect the market to be higher a few years from now, we think it is prudent for investors to expect moderating gains.

We thank you for the confidence you have placed in us to help guide you on your financial journey.  If a trusted colleague, friend, or family member needs objective guidance or advice, please do not hesitate to share our information with them.

Newsletter – Quarter 2, 2019

Throughout the first half of 2019, investors have been inundated with news about trade wars, government shutdowns, and Iran-US tensions.  Despite these many anxious moments, the market has continued to climb the proverbial “wall of worry.”  Many different factors are likely responsible for this recent climb; however, in our view the most significant one appears to be changing monetary policy expectations, both domestically and globally.   Global central banks have backed off their calls for tighter monetary policy and have instead adopted a more dovish outlook. The shift is a key driver of the exacerbated price movement of the US equity market seen in Q4 2018 and the first half of 2019. 

As recently as December of 2018, the Federal Reserve hiked its benchmark interest rate to 2.25-2.5% and signaled for at least 2 rate hikes in 2019. This hawkish stance on the heels of 4 rate hikes in 2018 led to a precipitous decline in the US equity market during Q4 2018, as many feared that higher rates would send the economy into a rapid slowdown and possible recession.  During the beginning of 2019, Federal Reserve Chairman Jerome Powell signaled a change of course regarding monetary policy as he conveyed during a speech that the Fed would remain patient with future rate increases.  This sparked the significant move higher in the US equity market that we have seen year-to-date.  During its latest meeting in June 2019, the Federal Reserve capped off a complete U-turn in monetary policy, signaling a strong chance for at least one rate cut in 2019.  Many market participants believe the Fed will be forced to cut rates up to 3 times before the end of 2019.  This dramatic change appears to signal that easy monetary policy and low interest rates are likely here to stay for the foreseeable future.   

Accommodative monetary policy is not unique to the United States, as central banks across the world attempt to fight deflation and stimulate their economies.  As of June 2019, over $13 trillion of global government debt is negative yielding.  Rising debt loads and an aging demographic are likely to continue to spur more radical monetary policy.  While global equity markets have been rejoicing over easy monetary policy, we remain concerned about the longer-term ramifications.  The low interest rate environment penalizes savers hoping to generate income on their assets and forces them into riskier assets in search of a higher return.  As investors reach for return, the excess risk they take on may expose them to greater harm during any unexpected turbulence in the market.  Interest rates also serve as a hurdle rate when making a potential investment and a way to price risk.  With rates near zero, heavily indebted and inferior companies are able to survive longer while depleting the productivity of healthy companies by competing with them for capital, materials, and labor.  Valuations of risk assets, such as stocks, are based on risk free rates such as the interest rate on US Treasuries.  As rates approach zero, asset values become distorted and price movement is less correlated with actual business fundamentals.  Policies being utilized by global central banks are historically unprecedented, making it difficult to predict what the future may bring.   

A reader may be asking themselves what he or she can do in today’s environment.  We have outlined a handful of important steps:

  1. Review your investment goals and objectives, time horizon, and tolerance for market volatility.  One’s financial picture and priorities can change over the years.  It is best to optimize your asset allocation accordingly. 
  2. Stay diversified across multiple asset classes and securities.  Diversification amongst uncorrelated asset classes can provide downside protection during market corrections.
  3. Own quality assets.  For example, we seek companies that have strong competitive advantages, strong balance sheets, and generate a lot of cash.
  4. Allocate to riskier assets only when you are being properly compensated to take on the additional risk.
  5. Temper return expectations going forward.  Over the last decade, the US stock market’s average annual percentage return has been in the double-digits, significantly above its historical high-single-digit average annual return.  This recent trend is not likely to continue forever, and returns over the next decade are likely to be more modest.  In fact, some large institutional investors are forecasting mid-single-digit returns over the next ten years.

If you have questions on any of these above-mentioned steps and how they can be incorporated into your financial plan, please feel free to give us a call.  A member of our team would be happy to help.  We take pride in working with our clients to help them achieve their financial goals, regardless of the macroeconomic environment.

Sincerely,

Alison Gamble, President

Gamble Jones Investment Counsel

Newsletter – Quarter 1, 2019

It is said that patience is a virtue; the stock market certainly appears to value it as such.  Following its worst December since 1931 due in large part to fears that the Federal Reserve would raise interest rates too aggressively amid rising economic uncertainty, the market sharply reversed course in the first quarter on the heels of the Fed doing the same.  As recently as December, the Fed had projected two more rate hikes in 2019 and indicated it saw little reason to end the steady reduction of its $4 trillion bond portfolio that has been used to provide additional stimulus to the economy since the Great Recession.  However, in fairly short order, the Fed has since pulled an about-face, stating it “will be patient” in determining future changes in rates and hinting that no rate hikes are now on the horizon this year.  It also now plans to end the bond portfolio runoff in October, leaving the Fed with a much larger balance sheet than it anticipated when it began shrinking the holdings in late 2017.  The market certainly appreciated the gesture, as the resulting decline in long-term rates helped the S&P 500 to its best quarter in a decade.

Of course, a key reason the Fed has become more patient is because it recognizes that the economy has cooled off a bit.  Coming off a year in which it achieved GDP growth of 3% for the first time since 2005 due in part to the tax cuts put in place at the beginning of the year, the U.S. economy is now showing signs of weakening as the fiscal stimulus fades.  In addition, the economy is also facing a headwind from slowing growth overseas, with particular weakness in Europe and China.  The economic soft patch has led some to conclude that the U.S. economy is in danger of slipping into a recession.

Concerns over a potential recession were amplified by the recent inversion of the yield curve.  A yield-curve inversion takes place when long-term bond yields fall below that of short-term yields, an unusual occurrence given that investors are typically rewarded with higher yields for locking up their money for longer.  In this case, the yield on the 10-year Treasury note fell below that of the 3-month T-bill for the first time since 2007, just before the start of the last recession.  An inverted yield curve is a sign that investors are anticipating that the Fed’s next move will be a rate cut, which would most likely occur due to pronounced economic weakness.  Forecasting future economic developments is always a difficult task, but an inverted yield curve is seen as the most reliable indicator for recessions, having preceded each of the past seven.  A recession typically begins six to eighteen months after an inversion, though it can take as long as two years to emerge.  The stock market can also continue to rally long after an inversion takes place.  In the most recent case, the yield curve initially inverted in August 2006, 14 months before the market peaked and 16 months before a recession began.  And while an inverted yield curve has generally been an accurate predictor of recessions, it is not a perfect indicator, with an inversion taking place in both 1966 and 1998 without an ensuing recession.  In addition, the massive amount of Treasury bonds still held by the Fed has artificially flattened the yield curve in recent years, potentially making it a less reliable signal.

The economy has certainly slowed a bit over the past few months, and the recent inversion of the yield curve has served to reinforce that.  And with the current economic expansion on track to become the longest in history in a few months and undoubtedly now in its later innings, it would not be a big surprise if a recession were to occur in the next couple of years.  However, with the economy still supported by a strong labor market and a healthy consumer, we don’t think a recession is imminent.

Tracking the path of the economy, corporate earnings growth is also expected to slow this year.  Boosted by tax cuts, earnings were exceptionally strong last year, with S&P 500 firms delivering EPS growth of 24%.  With the economy slowing and the benefit of tax cuts now having faded, EPS growth is expected to be a far more moderate 4% this year.  Still, we expect the economic environment to be sufficient for a number of companies to produce solid results.

Following the recent rally, we view the market as a whole as fully valued at current levels.  We would not be surprised to see heightened volatility in the coming months as the market sorts through a number of issues, including Brexit, the ongoing trade dispute between the U.S. and China, and the state of the economy.  In spite of the turbulence that these short-term macro issues may cause, our focus remains centered on building durable portfolios of quality stocks that will perform well over the long-term, through a number of economic cycles.

Sincerely,

Gamble Jones Investment Counsel

Newsletter – Quarter 4, 2018

Another year is in the books!  We trust you had a wonderful holiday and brought in the New Year with cheer. 

A quick review of 2018 shows that the 2017 global equity rally continued into 2018 on the back of the U.S. corporate tax cut, deregulation, and solid global growth before reversing course in the fourth quarter.  The lack of a trade agreement with China, an expectation of slower global economic growth, and a tighter monetary policy by the Federal Reserve all had a hand in the fourth-quarter equity sell-off. 

During the fourth quarter, the Federal Reserve raised its benchmark federal funds rate for the fourth time in 2018 and indicated that it expects to raise it two times in 2019 and at least once in 2020.  As we have mentioned in previous letters, these rate increases lead to higher corporate borrowing costs that will likely have a negative impact on earnings going forward, especially for companies with a debt-heavy capital structure.  The Fed continues to reduce the size of its balance sheet by allowing a capped amount of Treasury and mortgage-backed securities to run off each month.  This balance sheet reduction exacerbates tighter monetary conditions typically seen in a rising rate environment, as it further reduces liquidity in the financial system.

The U.S. stock market as measured by the S&P 500 Total Return Index declined by 4.38% for the year, while the bond market as measured by the Barclay’s Aggregate Bond Index rose .01%.

GDP grew at a solid rate of 3.4% in the third quarter of 2018 and is expected to be above 3% for the year.  For 2019, estimates so far show a more modest growth rate of around 2%.  Corporate earnings were very strong in 2018 but are also expected to grow at a less robust rate in 2019.  The deceleration in expected earnings growth played a major role in the valuation reset that materialized in the form of the fourth-quarter equity sell-off.

The Federal Reserve’s actions will play a key role for the economy and corporate earnings in 2019.  Some form of resolution to the U.S.-China tariff dispute would also benefit the U.S. and world economy. 

As our clients know, we invest in companies with strong balance sheets, a history of earnings growth, and forward-looking leadership.  We are confident that positioning our clients in these types of companies will allow them to capture significant upside during the course of a full economic cycle. 

All of us at Gamble Jones wish you and your family a happy, healthy, and prosperous new year.

Sincerely,

Gamble Jones Investment Counsel

PS The Securities and Exchange Commission requires that we annually offer to our clients our Form ADV, Part II.  Please contact us should you desire a copy of the document.

PPS If you are in a broker-directed relationship, the SEC requires us to advise you that other brokerage firms may charge lower commissions.

PPPS Attached is a copy of our Privacy Policy.

Also, in order to comply with a section of the Investment Advisers Act of 1940, we are required to state the following: should any change occur in the future with respect to the organization of this firm, now a corporation, we shall advise all clients whom we are then serving of such change either prior to its effective date, or within a reasonable time thereafter; and no agreement with any client will ever be assigned to others without the full knowledge and consent of all parties thereto.  Please be assured that the foregoing is a bureaucratic requirement.  We do not anticipate nor are we contemplating the sale of Gamble Jones Investment Counsel.

 

Newsletter – Quarter 3, 2018

As French entertainer Maurice Chevalier once said, “Old age isn’t so bad when you consider the alternative.”  The current bull market recently became the longest on record after reaching 3,453 days on August 22nd.  The rally, which began in March ’09 on the heels of the financial crisis, has been described as the most hated bull market in history, as it has been saddled with doubt about its sustainability all along the way.  In spite of the skepticism, the market has proven to be resilient, successfully navigating its way through a number of challenges for nearly a decade now.

Though this bull market has certainly been historic, what really matters for today’s investors is where stocks go from here.  After such an extended run, the bull market is now undeniably a bit long in the tooth, but as the old Wall Street adage goes, “Bull markets don’t die of old age.”  The rally has been underpinned by strong corporate earnings and low interest rates, and it will likely take a change in one or both of those factors to bring it to a conclusion.

Boosted in part by tax cuts, corporate earnings have been exceptionally strong, with S&P 500 firms expected to post EPS growth of 22% this year (the fastest pace since 2010) and a still solid 10% next year.  The slow but steady economic expansion that is now the 2nd longest in history has also picked up steam, providing a fertile environment for earnings growth.  And while economic growth is likely to moderate a bit next year as the benefits from fiscal stimulus fade and the impact of any unresolved trade disputes begin to be felt, the risk of a recession occurring anytime soon appears to be minimal.  As long as the economy remains on firm footing, earnings should continue to be healthy.

The historically low interest rate environment of the past several years has also had a major hand in extending this bull market by making stocks more attractive relative to low-yielding bonds and allowing companies to borrow freely.  However, rates have been steadily creeping up as the Federal Reserve and other central banks begin to unwind the loose monetary policies put in place during the financial crisis.  The Fed is likely to continue the process of normalizing rates with further hikes in the coming months as the economy remains strong and inflation has picked up, recently reaching the Fed’s 2% target after undershooting it for several years.  We expect the Fed’s rate hikes to be gradual and for monetary policy to remain accommodative for some time to come, but rising rates are a risk to the market that continues to bear monitoring.

Another notable milestone that recently took place was the 10th anniversary of the collapse of Lehman Brothers, which many point to as the seminal event of the financial crisis and a catalyst of the worst period for the market during the Great Recession.  It serves as an important reminder that the market is cyclical and that its pendulum can swing the other way in a hurry.  Therefore, it is important for investors to remain disciplined and maintain a long-term perspective in good times and in bad.  As renowned investor Warren Buffett has said, “Be fearful when others are greedy and greedy when others are fearful.”  Along the fearful to greedy spectrum, we’d describe our current state as selective.  While the market continues to benefit from the backdrop of solid earnings growth and an accommodative interest rate environment, we recognize that there is a good chance we’re in the later innings of this bull market, that valuations as a whole are pretty full, and that the market’s returns over the next decade are not likely to be quite as robust as those of the past one.  As we have throughout the many investment cycles that we’ve encountered in our 62-year history, we will avoid reaching for momentum investments at the peril of long-term results and will remain focused on buying great companies at reasonable valuations.  Though fewer in number than at the start of the bull market, we continue to find such opportunities that should ultimately prove to be good long-term investments.

Sincerely,

Gamble Jones Investment Counsel

P.S. With the end of the year fast approaching, tax season is just around the corner.  In building portfolios that are tailored to our clients’ needs, we strive to maximize tax efficiency whenever possible.  If there have been any investment-related transactions outside of your account(s) managed by Gamble Jones that have generated a significant gain or loss for you in 2018, please let us know.  If you have tax-related questions, please consult your tax professional.  We are happy to work with clients and their tax professionals to maximize after-tax investment returns.

 

Newsletter – Quarter 2, 2018

French critic Jean-Baptiste Alphonse Karr’s famous quote, “the more things change, the more they stay the same,” rang true in the 2nd quarter of 2018. Despite the return of volatility to the markets in 2018, after an unprecedented year of record low volatility in 2017, the 2nd longest economic expansion post World War II remains intact. The quarter was not without unnerving headlines, whether it be concerns about North Korea or a brewing trade war with China. This did not stop the S&P 500 from moving higher. While we realize volatility can be unsettling for investors, we believe volatility creates opportunity and is thus beneficial to our style of investing. When we look at the macro economy, we see synchronized global growth, coupled with items that warrant caution moving forward.

As the 9+ year-old bull market marches on, there are headwinds forming that may threaten the expansion. While tax reform has served to boost short-term growth, it remains to be seen what impact it will have on the long-term health of the economy. Mounting federal debt levels look set to increase with higher federal deficit forecasts. The Congressional Budget Office is currently forecasting debt/GDP to reach nearly 100% by 2028, levels last reached in 1946 following the conclusion of World War II. Federal Reserve Chairman Powell has moved forward with the Fed’s plan to normalize monetary policy, raising the federal-funds rate again during the quarter and continuing to taper bond purchases. Higher interest rates could put pressure on a private sector that is heavily indebted compared to historical levels. In fact, U.S. nonfinancial corporate debt finished 2017 at an unprecedented 45.4% of U.S. nominal GDP, which is higher than the previous record of 45% set in the 2nd quarter of 2009. Historically low interest rates have made higher debt levels manageable. However, this is something we are keeping an eye on as rates rise and the ability to service high debt levels might be pressured. Higher interest rates not only increase borrowing costs, they also pressure asset prices. Market participants value securities based off the current risk-free rate (generally U.S. Treasuries). As the risk-free rate rises, the hurdle rate required to earn an adequate return on risk assets increases. This could be problematic for a market that by some measures looks to be fully priced, if not somewhat expensive.

As the adage goes, the stock market always climbs a wall of worry. Despite the concerns we have, there are many reasons to be optimistic about the future. To start, the Tax Cuts and Jobs Act passed in December 2017 appears to have been very stimulative to U.S. businesses, which subsequently, should be beneficial to U.S. consumers. Businesses are comfortable enough with their economic position that hiring has increased, leading to an unemployment rate hitting an 18-year low. In fact, the Bureau of Labor Statistics reported that as of April, there were more job openings than unemployed people. Additionally, outside of the U.S., many other large economies continue to see positive growth. We expect this to continue in the near term absent any geopolitical shocks or setbacks from an escalating trade war. We believe the U.S. and China are aware it is in the best interest of the global economy not to engage in a full-blown trade war. While we have no way of knowing the outcome, we feel there is a lot of posturing going on between the U.S. and China, and we are hopeful this will eventually be resolved. Finally, deflationary forces, such as globalization, shifting demographics, technology, and the “Amazon effect,” have given us persistently low inflation. This combination of low inflation and accelerating GDP growth has served as a strong foundation for the economic expansion. Should the expansion continue through the summer of 2019, it will become the longest economic expansion post World War II.

The market never provides us with a black and white picture, and today’s market is no different. We think it is reasonable to say that today’s economic picture does not portend a sudden slowdown, but we believe the best stance is to remain cautious and seek investments that we feel offer attractive risk/reward profiles. We have been trimming positions where we feel valuations are full and adding to our best ideas whenever the opportunity arises. Over our 60+ year history, our investment philosophy has remained the same: We seek to hold securities where we feel the underlying company has strong competitive advantages, maintains a solid balance sheet, and generates durable cash flow streams. We take pride in working with our clients to help them achieve their financial goals, regardless of the macroeconomic environment.

Sincerely,

Gamble Jones Investment Counsel