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What Did We See?

• The US equity markets lost ground in August.
• Recession concerns have now reached a media induced fever pitch.
• The ongoing trade tariff war has started to effect global economies in a meaningful way.
• Global markets were all negative while the safe haven of bonds saw positive results.

Where Do We Stand?

• The imminence of a recession is coming closer to reality as global economies continue to slow or contract.
• We continue to monitor this recession story very closely but are aware of coming stimulus that could provide relief.
• De-risking of our client portfolios has occurred and we will take additional defensive measures as conditions warrant.
• We continue to rebalance your accounts accordingly.

Step right up and take a ride on The Tradetrum! The scariest ride in the carnival…

Equity markets around the world spent August battling rising concerns over a recession in the US and increased volatility around trade headlines. A commonly used measure of volatility, the VIX index, registered an average of about 19 for the month of August while July averaged only 13. That is an almost 50% increase in the levels of volatility for one month. The vast majority of the volatility was centered around the ongoing trade spat between the US and China. This is a story we have been listening and reacting to for much of 2019. After having agreed to a ceasefire at the G20 meetings in May, President Trump took the markets by surprise on the first day of August by imposing a 10% tariff on $300 Billion of Chinese imports that were not previously subjected to tariffs. China retaliated, by announcing three weeks later, that it would levy additional tariffs on $75 Billion of goods it had already levied some tariffs on. And of course, the US replied that the existing and planned tariffs would both rise by 5 percent.

“Round and round it goes, where it stops nobody knows.”

Does anyone else find it ironic that this line is thought to have originated on a show in the 1930’s called “Major Bowes Original Amateur Hour”? The tit-for-tat in these trade talks just feels amateurish, does it not? Regardless, the damage was done by the time both sides had calmed down near the end of the month. This renewed round of tensions finally did what many of the previous rounds could not do. It made the markets realize these spats could significantly damage the global economy. The injury to business and investor sentiment was painfully obvious as the S&P 500 was down almost 4% at three different times during the month. Thankfully, it was able to regain some composure and ended the month down only a little less than 2%.

On a monthly basis this was the S&P 500’s worst performance since May. Since World War II the average monthly return for the S&P is a gain of 0.69% across all months. At the same time, the average move for the month of September is a negative 0.54%. Most people think of October as the worst month for the markets, because they often remember that the market crashes of 1929 and 1987 both occurred in October. However, while September is down around 55% of the time, October is actually up about 61% of the time. October may be more volatile but September is really the month to be weary of!

Something’s gotta give…

In the US earnings have stopped growing as the increasing risk of an economic downturn has dominated headlines. When one accounts for profits at all publicly and privately held companies, profits in the US actually peaked in September of 2014. While today they have remained only slightly lower than the levels reached back then, the S&P 500 has added more than 1000 points since then. As this analyst has often said, earnings drive stock prices. Either earnings need to increase again to warrant the levels we see in the markets, or the markets need to adjust down to the levels we see in earnings.

While the US economy remains healthy, many of the recent economic data releases have proven that our economy is not immune to trade tensions. The manufacturing index (PMI) fell to below 50 which was it’s lowest reading since 2009 and signifies contraction. Meanwhile the services index remained above 50 but fell to a three month low. Consumer sentiment also fell, probably a result of continued media commentary on the inverted yield curve. Retail sales has remained a bright spot, however, jumping 0.7% in July.

Leading the way down…

In Europe, the slowdown has already been confirmed by very weak economic data and increased political uncertainty. Germany is on the verge of recession showing a contraction of 0.1% in the second quarter. Although Eurozone growth has been shown to be stabilizing during August, the ECB and local finance ministers will need to continue to provide stimulus for those ailing economies. Quantitative easing is not far off for this part of the world, in my opinion. Meanwhile in the UK, Brexit has weighed heavily on their economy and we don’t see any impasse now that Boris Johnson is sitting in the Prime Minister’s seat. Second quarter GDP actually shrunk 0.2% there while recent surveys suggest that will remain the outlook until more clarity can be had on a Brexit strategy.

Lastly, China has already taken several measures to reduce the sting of the US tariffs. Combining fiscal and monetary stimulus in July did little to reduce the costs of tariffs there. Retail sales were lower than expected in July and other data points were mixed at best. Additional stimulus was put in place in August along with the questionable tactic of allowing their currency to fall significantly. This warranted the US labelling China a currency manipulator and further stoked the flames of tension between the two countries.

Where do we stand at Shorepine Wealth Management?

All of the above shows me a global economy that is slowing, not collapsing. The Federal Reserve is likely to provide another 25 basis point interest rate cut in September (although we may disagree with this as we have written here and here). US companies will likely welcome this, as lower financing costs can buffer the pressure they are seeing in their margins and top line revenue growth. With expectations for US earnings to grow around 10% in 2020, I would expect that number to be revised lower. Possibly 5% growth in US earnings is more realistic in the face of all these challenges. Regardless, while a recession may be in the cards, I don’t think it will be as bad as the firehose of media negativity surrounding it will be. At this point is seems like a self fulfilling prophesy, which is always better than the one you don’t see coming.

I would expect to see new monetary and fiscal stimulus over the next few months around the globe to try to support the global economy. However, these likely won’t be enough to offset the damage that’s already been done during this trade tantrum. One can expect the slowdown to continue with fits and starts along the way.

Our protective posture…

The elevated recession risk, whether our own country’s doing or not, is real. We prepared our portfolios in anticipation of this by de-risking our equity holdings and slightly increasing our cash-like holdings over the past several months. This will provide a buffer should the market continue to act with as much volatility as we saw in August. We would be prudent to take additional defensive measures should the conditions warrant but do not see any reason for a long term investor to do so at this time.

If you have any questions or have experienced any changes in your financial situation please do not hesitate to Contact Me.

We appreciate your being a part of the Shorepine Wealth Management family and wish you all the best!

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