Dear Santa:  My name is Mr. Market and I am about 225 years old.  I thought you should know, this year I have not been nice, rather I have been kind of naughty.  You see I have had a lot on my mind this year.  There have been tariffs going back and forth between countries.  Some were solved, but a big one between the United States and China has not.  Major companies are starting to express concerns for their future earnings based on these tariffs.  Unemployment is low, but I am concerned that this could lead to inflation.  Corporate taxes are down and that led to a decent amount of reinvestment, but recently, corporate capital investments have been slowing.  For Christmas, I wish to move from naughty to nice.  I wish that an agreement with China can be ironed out.  I also wish for the Fed to make the right moves as they continue their campaign to bump the Fed Funds rate.  Thank you Santa.

Tariffs

With talks between the US and China set for the beginning of this month, we are hoping for a resolution.  It appears the White house has muzzled trade hawk Peter Navarro, in favor of the more pragmatic Larry Kudlow.  This could be a sign the White House is keen on the disruption caused to the markets.   This will not be an overnight deal as there are quite a few points of contention, but positive developments would be appreciated.  The market, as well as companies, do not like uncertainty and these have fueled the unexpected.

Taxes and Corporate Behavior

American corporations saw a large decrease in corporate taxes in 2017, concurrently we watched a nice uptick in corporate spending.  The tax overhaul has been credited with giving our economy a jolt.  Workers have seen a bump in their take-home pay, and corporations have added to their profits.  While the economy has accelerated, wage growth has not.  Some companies have allotted capital to purchase fixed equipment; while others just bought shares of their stock.  The corporate spending spree appears to be slowing.

The Fed and Economic Growth

Fed Chairman Powell remains positive regarding the US economy, but seems to be a bit less “hawkish.”  Hawkish meaning the Fed will be less inclined to increase the federal funds rate in 2019.  We do anticipate an increase in the Fed funds rate in the December meeting, but the three increases planned for 2019 seem less likely.

Unemployment is at a very low 3.7%.  How do we continue economic growth?  It comes down to productivity and filling open jobs with new workers.  Both of those areas do not seem to be growing.  As seen below, productivity is lackluster and the labor force participation remains low at 62.9%.  The potential by-product of those two could be inflation as companies will need to increase wages to lure workers.  Should we see an uptick in inflation, the Fed may decide the increases in 2019 could be warranted.

Having just come off Thanksgiving, you will be happy to know the American Farm Bureau Federation reported there is disinflation in turkeys.  A 16-pound bird averaged $21.71 this year which is $1.36 per pound.  That is down 3% from last year and at the lowest level since 2014.

Wisdom from Warren

A couple of 2018 appropriate quotes from Warren Buffett. 

“In the short term, the market is a popularity contest. In the long term, the market is a weighing machine.”

“Someone’s sitting in the shade today because someone planted a tree a long time ago.”

What Then

The year is quickly coming to an end, and maybe we get a Santa Claus rally.  Ultimately, we came off an amazing 2017 and as Warren says, we planted many trees a while back.  We will be making some changes in the portfolios in December (and possibly into January).  We anticipate adding to dividend-paying stocks and looking at some lower volatility options for the international markets.  Some of our fixed income accounts will begin to incorporate shorter term bank loans for added yield.  We are strong believers in the power of the markets and are long-term bulls.  We have decided it is prudent to make subtle adjustments as the economy could be entering a slower phase.  We wish you all a very happy holiday season and we thank you for your continued confidence.

Sincerely,

Disclosure

The information contained herein is based on internal research derived from various sources and does not purport to be statements of all material facts relating to the securities mentioned. The information contained herein, while not guaranteed as to the accuracy or completeness, has been obtained from sources we believe to be reliable. Opinions expressed herein are subject to change without notice.