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Mike Moreland

June 05 , 2017

Mind the Gap

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The 2016 elections brought a sea change in investor perceptions.  So-called “soft” economic data – confidence surveys, spending plans, and the like – skyrocketed following the election.  Note the chart below:

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Source: zerohedge™

Financial markets followed, moving broadly higher on enthusiasm for the expected benefits of tax reform, expansionary fiscal policies, ACA repeal, and trade revisions.  The dollar rose, small company stocks (that sell primarily to U.S. customers.) and industrials gained.  The “Trump Trade” was taking off.  Bond yields rose.  The Federal Reserve expressed its confidence in the sustainability of economic growth and confirmed its plans to raise short term interest rates multiple times in 2017.

But the “hard” data – auto sales, production, housing activity, and the like – never chased the trade.  Much of the initial enthusiasm dissipated in the new year as investors accepted that campaign themes don’t immediately translate into policy initiatives and flow through to the real world.  Expectations and confidence in the future remain far above their readings prior to November 8, but are now tempered by the recognition that real results take time.

So why is the stock market touching all-time highs?  Largely because of a return to old habits – piling into popular names.  Look below.  Over forty percent of this year’s gain in the S&P 500 comes from five technology favorites – Apple, FaceBook, Amazon, Microsoft, and Alphabet (the parent of Google).  The gap started to widen in late winter, the same time the gap between hard and soft economic data began to close.

Wall Street Journal / The Daily ShotSource:  Wall Street Journal / The Daily Shot

What happens next?  History tells us that extended periods of concentrated market returns rarely end well.  And, with the top five listed above selling at over sixty times last year’s earnings (thirty excluding Amazon), there is not a lot of room for error.

So, based on what we see today, the knee-jerk response is to take a defensive position and wait for the storm to pass.  But – and here are the most dangerous words in investing – we believe this time is different.

We fully expect to see the beneficial effects of tax reform and the other substantive pro-growth policy initiatives appear as time passes.  We believe most equities remain roughly fairly valued, although on the high side of historic ranges.  We do not expect a modest increase in short- or long-term interest rates to derail slow but consistent economic progress.  At the same time, bringing market expectations into line with economic reality can be a messy process.   

 A good financial management team can help navigate choppy seas.  Part of what we do is insure you are well diversified, your portfolio risk is appropriate for your goals, and your focus is on long term results.  Give Security National Bank Wealth Management a call to review your portfolio today at (712) 277-6500.

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