November 2012 Market Outlook
In June we quoted Alexis de Toqueville with regard to the developed world’s attempt to come to grips with fiscal burdens of increasingly hefty magnitudes. With the 2012 national elections behind us, we’ll return to his observations of American democracy;
“In democracy, we get the government we deserve.”
The tongue-in-cheek implication here being that the November 7th results have left us with precisely the balance of power that existed on November 6th. Though no survey has been undertaken, we think it fair to say that CCR Wealth Management’s clientele likely cancelled out each other’s vote last week, and therefore read different conclusions into the above quote. But fear-not dear readers of either stripe! November 7th also marked the beginning of the 2014 congressional election season!
Predictably, the market and media attention has finally turned to the larger issue of the approaching Fiscal Cliff. Trying to predict the outcome of this political and economic conundrum would be foolhardy; however we will observe that the consequences of this debate will likely have a much more immediate and measurable impact than the election.
The Fiscal debate looms larger than the current macro-economic picture because its outcome can affect things like the attractiveness of dividends, or even the attractiveness of the equity markets (cap gains and dividend tax policy being part of the discussion). Whenever an investment class is made less attractive due to tax policy, we can expect a reaction from the markets. Even the break-even point between taxable and municipal bonds could be changed for many Americans, placing pressure on one category to the benefit of the other.
These potential influences on the capital markets of course are only one aspect of the Fiscal Cliff issue. The other aspects have wide-ranging near and longer term economic implications—one that we’re sure many more congressmen and women are taking seriously.
CCR Wealth Management remains cognizant of the issues, vigilant of the proposals, debates, and possible deals being “trial-ballooned” by both parties. However, we caution individual investors about being swayed into pre-mature action by “narrative”, or even trains of thought which may seem logical—but rely none-the-less on the business of political prediction rather
than the logic of financial planning or investment objective.
Lastly, we do believe, despite the divided nature of this government, that a bridge past this cliff will be reached—neither side benefited politically from the 2011 debt-ceiling debate. With the 2014 congressional election season having begun just this past November 7th, we think policy makers will be cognizant of the gravity the Fiscal Cliff carries into 2013 and beyond. Unfortunately we think it too much to expect a “grand bargain” which would result in more permanent tax policy, and we can also not be assured compromise will even come prior to January 1. But any deal that yet-again kicks the can down the road will at likely be met with a relief rally, in our view.
EQUITY:
CCR Wealth Management’s Equity Model remains balanced between growth & value, while we have stressed buying into higher dividend yields on market dips. Our small cap target weightings remain muted (8%-10%), and geographic weightings continue to favor US over non-US equities. These weightings have not changed year-to-date, and we believe they represent the best posture going into the fiscal negotiations.
While we continue to favor US equities, we certainly have not abandoned non-US equity markets, developed or developing. Given local growth challenges stemming from very poor macro global economic conditions, however, we believe “stock selection” is critical. As such, CCR WM has spent considerable time and effort this year vetting and honing our mutual fund matrix—with special attention being paid to non-US specialties. We would place more emphasis on a managed approach (funds) in this environment than on broader exposures (indices).
FIXED INCOME:
The bond market remains enigmatic. This year the Barclay’s Aggregate Bond Index underperformed last year’s return, no doubt due to the lack of event-driven flights to quality. Our fixed-income models have stressed (and benefitted from) higher yielding and high-yield bond categories for several years now. We once again remind clients, and ourselves that in large swaths of the bond market (MBS, gov’t), there is no upside. We recently met with portfolio managers of some of our own preferred bond funds, and they have confirmed as much. Yet billions of dollars have poured into index-hugging bond funds. Our efforts in reviewing fixed income allocations continue to diversify clients away from the index—though for the first time in years we are noticing the yield spread of higher yielding bonds (BBB) approaching that of the pre-financial panic of 2008. In short—we feel a squeeze, which is particularly uncomfortable with a recession being possible fallout from the Fiscal Cliff issue.
We continue to stress yield, as well as geographic diversification in the bond market. Emerging market bonds (and bond-funds) continue to attract significant inflows for the reasons we have previously pointed out; strong fiscal comparables, growth and demographics, along with an acute need for yield from large institutional investors.
COMMODITIES/ALTERNATIVES:
The “secular story” with regard to commodities is clearly over. Early this year CCR Wealth Management eliminated our base metals position, and our current model is weighted to precious metals (gold and silver), with lesser exposures to oil (a geopolitical relief-valve) and REITs (a low-correlation yield source).
