Forty years ago a Business Week cover story announced the “Death of Equities.” The Dow was at 867. In the years since, as the Dow has risen 30x, we’ve seen other forecasts for the tragic demise of stocks, all wrong. In 1979, the doomsayers pointed to inflation and high taxes as the forces that would kill stocks. Healthy skepticism is valuable but consuming too much media-driven skepticism can have major negative impacts on an investor’s returns. Knowing that we have to find a balance between what the media pushes and what is real, let’s take a look at the threats now and how stocks might overcome them.
Investors have complained about high taxes for decades. When marginal taxes were much higher there were tax shelters to avoid taxes to keep investors investing. Now there are no more tax shelters, but tax rates are much more reasonable for long-term investors. As it stands today, the threat of significantly higher taxes on anything for US investors is slim to none. The Senate will veto any tax increases and after the 2020 election, mainstream Democrats will restrain tax increases no matter who wins.
What about inflation?
Inflation is nowhere to be seen right now. The Federal Reserve recognizes this and is cutting short term rates. The US bond market realizes it and is experiencing a drop in rates from 90 days to 30 years. We have a flat yield curve, a neutral stance, with some kinks when measured in between. Investors want the confidence of an upward sloping yield curve to assure them that the economy is still growing. The US bond market is challenging the growth call right now, but there are many other factors complicating the outlook beyond just the yield curve. In the meantime, I expect continued low inflation and a flat yield curve for some time. Near non-existent inflation in the near term means investors who are holding cash on the sidelines have less to worry about.
The global negative yield phenomenon
Other major bond markets around the world are in negative yield category; this is a strange and unsustainable state. I am confident that these negative yield investors will look back on this era and be glad they escaped it with only slight losses. All of Germany, Japan and Switzerland are negative. The $16 trillion of negative debt, up from $12 trillion at the beginning of the year, gets a lot of press. Negative yield investors must be able to justify their investments somehow. They are like one-decision Nifty Fifty stock investors who kept buying the same 50 stocks until their values became absurd in the 70’s. This past week negative bond investors pointed to the 60% price return they got in 100-year Austrian bonds due to the leverage built into long-duration fixed-income holdings. Even with an extraordinary return like that, long-term low or negative bond investing does not look like it will pay off for the majority of holders.
Now for some good news
Bloomberg reports that President Trump’s 8/14 conference call with the heads of Citibank, Bank America and JPMorgan was completely coincidental with that day’s 800 point selloff. The bank executives relayed stories of credit growth, profit growth, healthy net interest margins and consumer spending. Brian Moynihan even said that “fear of recession” is our greatest recession risk – we agree fully. On the other end I noticed a headline this weekend, “Youth summer unemployment hits 50 year low.” Jobs are available and so is income.
It’s tempting to take a defensive stance and buy T-bills, more gold or 10-year Treasuries as a hedge against an economic meltdown leading to a stock market meltdown. Within reason, owning some Treasury securities now is a solid approach. We continue to invest portfolio cashflow into higher dividend-yielding stocks. With buy-backs in full force, yields are higher than they seem. A stock with a dividend and a share buy-back program yields more than the published SEC yield. As one might say at pretty much any point — past, present or future — stocks may get sick for a while, but they’re not likely to die this year or next.
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