INVESTMENT LETTER

Spring 2017

 

The cautious optimism that we have observed since the U.S. presidential election last fall continues to sustain itself for investors. However, we have already seen a rotation in performance among asset classes. The underlying economic data suggests that we are still in a “wait and see” period and, as time goes on, the optimism that has been priced in to asset values will need to be justified or investors will have to taper their expectations. Maintaining a diversified investment portfolio is a core principle at all times if your goal is to preserve and grow wealth.

Sentiment versus Reality

Distinguishing between how we feel and reality is essential for good decision making. Early this spring there were a lot of stories in the financial media about the contrast between “hard and soft” economic data. Hard data is economic information that we can see and measure. Think jobless claims, retail or durable goods sales. These are trends in real economic activity over time. Soft data is generally considered to be indications of sentiment. For example, how does the consumer or the CEO of a company feel about the economy or their own prospects? There are a number of surveys that track sentiment of both consumers and corporate managers in order to give us a sense of what each respective group might do in the future.

Since the election, the divergence between trends in sentiment and the real economic activity has been observed and widely reported. In late March, Morgan Stanley published a research report on this topic. The report illustrated the divergence between sentiment surveys and “hard economic data” with the below chart over the last seventeen years.

 

While there has been a clear divergence between the “soft and hard” economic data so far this year, this does not seem surprising. What is important for investors to remember is that real changes in the economy take time and one set of data (soft) is looking forward while the other is looking backwards (hard). Additionally, from the chart above, what stands out more prominently is that the “noisiness” of the sentiment data represented by the yellow line is significantly greater than the real economic data.

Watching and Waiting

So the question is, will real economic activity follow this positive sentiment, or will markets have to come back down to “reality”? The only thing we know for sure is that no one knows. Some will guess right and others will guess wrong, but this is not a predictable event.

More recently, we are seeing that corporate earnings have been accelerating and that this is the most “broad-based global earnings rebound since 2011”. Additionally, the IMF recently raised its outlook for global economic growth. One of the main trends of recent years has been the outperformance of the U.S. economy versus the rest of the world. This has been reflected in relative stock market performance between the U.S. and the rest of the developed world as well as emerging countries going back to 2011. Year to date there has been a clear rotation as international stocks of all types have been outperforming U.S. stocks. Positive earnings growth and improving global economic trends would be a significant shift from the lackluster trends we have been experiencing for the last few years.

One aspect of the current environment we do not expect to change is the under-performance of bonds. The bond market is severely challenged as interest rates continue to be at or near historic lows. If the global economy continues to improve, interest rates will likely rise putting downward pressure on bond prices. If the global economy takes an unexpected downturn, interest rates are so close to zero that the positive impact of rising bond prices will be muted.

Meanwhile, our alternative strategies continue to steadily perform with very little correlation to the bond markets, U.S. or international stocks. While the recent market environment for stocks has been very kind, our discipline to maintain diversification throughout the market and economic cycle will serve us well when the current environment inevitably changes. Financial markets are inherently tricky and the current environment is no exception. Holding true to the core principles of diversification and maintaining a long term perspective remain essential to long term capital preservation and growth.

Disclosure: 

Cornerstone Advisory, LLP, is registered as an investment adviser with the SEC. The firm only transacts business in states where it is properly registered, or is excluded or exempted from registration requirements. Registration does not constitute an endorsement of the firm by the Commission nor does it indicate that the adviser has attained a particular level of skill or ability.

 

Past performance may not be indicative of future results. Therefore, no current or prospective client should assume that the future performance of any specific investment or strategy will be profitable or equal to past performance levels.

 

All investment strategies have the potential for profit or loss. Changes in investment strategies, contributions or withdrawals, and economic conditions may materially alter the performance of your portfolio.

© 2020 by Cornerstone Advisory, LLC

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