Financial markets were not friendly in 2018. Over the last few months, the markets were actually just plain mean.
For my clients, I’ve been sticking to a more conservative approach that helped to somewhat lessen the blow. That basically means I chose to invest less-heavily in stocks than I could have been. However, in all honesty, I didn’t position things conservatively enough. Hindsight always appears crystal clear!
I’ve been asked lately if we’re heading into a recession. Here’s why I feel it’s too early to tell.
There are two major types of recession indicators. The first is made up of “betting” indicators. They are a reflection of the shoot-first, question-later collective guesses made by the markets. The second type is comprised of “fundamental” indicators. These include both business and consumer surveys as well as economic releases.
The market-based indicators are often way out in front of the economy’s fundamentals; zigging and zagging and garnering alarming media headlines. Today, the financial markets are currently flashing red.
The stock market recently crossed over the official line that marks a bear market. And, both the yield curve and bond prices for lower-quality companies foreshadow a weakening economy. On the whole, these signs raise concern.
However, financial markets aren’t all-knowing. They often get it wrong. Since 1950, there have been 13 bear markets and nearly half of the time no recession followed. Markets can’t see the future, because (most) people can’t see the future!
The fundamental indicators currently offer a less-concerning picture. Most economist see slower economic and company earnings growth ahead. But, still, positive growth is expected this year. The Fed now appears ready to calm markets by slowing or even pausing its rate hiking plans. And, for different reasons, it’s conceivable that both Trump and China might blink on the trade spat. Overall, the best way to describe the fundamental indicators is they appear to be taking on an unattractive yellow-green tint.
The current split in the indicators forces me to avoid looking to the market to either validate or refute my current game plan.
At the highest level, I rest on the knowledge that my clients’ overall asset allocation is diversified, balanced and appropriate for them. Next, I’m focused on making sure the investments I’ve chosen are both sound and safe. Soundness places a premium on quality investments backed by financial strength. Safety emphasizes value, as measured by price relative to things like earnings or cash flow.
Beyond asset allocation, soundness and safety, the game plan has to remain flexible. To be sure, if the fundamental indicators begin to better align with the market’s signals, taking proactive steps to lower risk is in the cards.
As famed value investor, Ben Graham used to remind his students, including a young Warren Buffett, “Mr. Market” is a fickle man who is prone to bounce between elation and despair. In the face of his emotional roller-coaster, the wisest thing is to be prudent, stay rational, weigh the evidence and think independently. That’s just what I was hired to do!