Investors are being bombarded right now with a bunch of conflicting signals. This always happens when the stock market finds itself trapped in a trading range. However, this is not the time to fall victim to confusion or panic. So, let us discuss how we should prepare for our investments over the next six to nine months.
First of all, the sharp run-up in bond yields since September and especially since the turn of the year has paused. Hints from analysts are filtering that the economy may be cooling a bit in the first quarter. After the March 15 report on February retail sales came out, the Atlanta Federal Reserve revised downward its Gross Domestic Product Now Tracker to forecast first quarter growth of just 1.9% versus 2.5% a week before, about 4% the month before and above 5% over 6-8 weeks before. Moderating growth and milder inflation will take the pressure off the Federal Reserve to dramatically pick up the pace of interest-rate hikes to keep inflation under control. In short, the stock market out look over the next quarter or two is probably a good deal brighter than the muddled trading lately might suggest.
We feel that there are two factors that have kept this bull market going for equities. The first factor is that the Federal Reserve has maintained an easy monetary policy. Despite the central bank’s modest tightening of credit in the past year or so, short-term borrowing costs have remained below the inflation rate (Consumer Price Index) almost continuously since November 2009. Easy money encourages investors to move out of cash equivalents into higher- yielding “risk” assets, including stocks. The second factor is that corporate earnings have improved dramatically since the end of the last recession, touching an all-time high most recently in the fourth quarter of 2017. Since common stocks represent a claim on the stream of corporate profits, higher earnings usually translate into higher share prices. Of the two factors, we are more concerned about Federal Reserve policy. If, as most observers now expect, the Federal Reserve, under newly installed chairman Jerome Powell, edges up short-term interest rates no more than 0.75% this year, we do not envision any serious damage to the economy.
All in all, we are encouraged by developments in both stocks and bonds over the past few weeks.
On the bond side, inflation fears have cooled and yields have come back down. The 30-year Treasury yield, one of the most keenly sensitive inflation barometers, has tumbled 25 basis points from its peak in late February. This is good news not only for bond investors, of course, but also for stock investors. Falling bond yields make it less likely that the Federal Reserve will feel pressured to embark on an aggressive credit-tightening program as the year unfolds.
During the quarter, we added to some existing positions as well as established some new positions to both our Equity and Fixed Income portions of our portfolios. On our Equity portion, we added Allergan plc (AGN), a specialty pharmaceutical company and Vanguard Consumer Staples Index Fund ETF Shares (VDC). On our Fixed Income portion, we added Southern Co (SO), a holding company that owns all of the stock of the traditional electric operating companies; Education Realty Trust INC (EDR), self-managed and self-advised real estate investment trust; Main Street Capital Corp (MAIN), a principal investment firm; Vermillion Energy Inc. (VET), a Canadian oil-and-gas producer with a current yield of 6.8%; Digital Realty Trust Inc. (DLR), one of our favorite REIT’s with a current yield of 3.9% and Vanguard Utilities ETF (VPU) with a 4.2% yield. Also, for those selected clients who needed more minimum cash reserves, we added the Schwab Value Advantage Money Fund (SWVXX), which tracks the current 7-day Treasury rate and has a current yield of 1.51%. However, this fund is traded like a mutual fund and requires 24 hours for the trade to settle in the event of liquidation. The remaining cash in most of our portfolios is very liquid and is currently invested in a sweep money fund (SWZXX) that has a current yield of 1.15%.
On the sell side of our Equity portion, we sold a few stocks that we believe reached their appraised values. We sold our entire positions in Deltic Timber Corp.(DEL); Wynn Resorts Ltd (WYNN); and T. Rowe Price Group Inc. (TROW). On our Fixed Income portion, we sold our entire positions in the iShares 20+ Year Treasury Bond ETF (TLT).
As far as our investment strategy is concerned, we continue to maintain our standard two-pronged strategy, which is to maintain a substantial exposure to common stocks (and mutual funds) as long as there is a reasonable prospect for double-digit returns. Furthermore, we will continue to take profits more frequently so that we could gradually increase our weighting in cash as well as the fixed income portion of our portfolios. During the quarter, we continued with our average asset allocation mix of 40%-50% Equity, 40%-50% Fixed Income and 0%-20% cash for most of the portfolios.
We want to thank all of you for giving our firm the opportunity to serve you. We thank you very much for the trust and confidence you have placed in our firm as it is always appreciated. Please contact us should you have any questions or comments. Also, we want to invite you to visit our website at www.farmandinvestments.com for a quick Retirement calculator, our latest firm news, and Market Commentary archives.
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