1Q-19 Investment Strategy Review

We held our 1Q-19 investment strategy review on December 20, 2018. At these meetings, we discuss a wide range of factors that affect the financial markets and our investment strategy. As you are aware, the stock market has exhibited above average volatility over the past couple of months and actually entered “bear market territory” this week, having declined 20.4% from the intraday high in September to the intraday low on December 24. As we have stated previously, market corrections and mild bear markets are normal occurrences in a secular bull market. We would note that during the current secular bull cycle that began in 2009, we experienced a similar mild bear market in 2011, so swings of this magnitude are not unprecedented.

We believe the primary concerns for the market now are: 1) potential for slowing global economic growth; 2) Federal Reserve monetary policy; and 3) the trade dispute with China. Additionally, the “news” environment over the past several months has been unusually active. News about topics such as trade, immigration, government shutdown, White House staff changes, etc., we believe, has added to recent volatility. Not inconsequential also has been the impact of algorithmic (or computer-driven) trading, which now accounts for a large portion of daily market volume (we have heard estimates as high as 75% of daily volume). We believe the high level of algorithmic trading is materially amplifying the recent volatility.

Currently we believe the market appears to be disconnecting from the economic fundamentals. With respect to the global economy, we believe there will be some slowing in U.S. and global growth in 2019 but we believe it will still show good growth with the U.S. GDP now expected to grow about 2.5%. With regard to Fed policy, the Fed recently signaled it will most likely reduce the number of rate increases it expects in 2019 from four increases to two. This is a positive development and sends the message that the Fed is maintaining flexibility with regard to its policies. With respect to the China trade dispute, there appears to be some behind-the-scenes progress but it will take more time to see if the dialogue proves successful.

Let’s not forget there are some positives right now, to name a few: 1) Federal Reserve policy appears to have become a bit less aggressive; 2) investor sentiment has turned quite bearish; 3) valuations for stocks have declined significantly to about 14.5x forward P/E estimates and we believe there should be decent fundamental support for stocks at a forward valuation in the range of 13-14x; 4) based on the earnings yield, stocks still remain attractively valued relative to bonds.

With respect to changes in your portfolio, one of the key things to come out of the meeting was a review of all holdings which resulted in a reduction in the number of holdings in your portfolios. Within equities, our deliberations resulted in a slight 3.5% reduction in equity allocation while allocation to bonds remained the same. We again slightly increased our weightings in “value” stocks within both U.S. large cap and international equities. We maintained our sector investments in medical equipment and telecom stocks and added a small position in gold as a hedge against market volatility. Within the bond area, we continue to maintain a heavier weighting toward shorter duration bonds. We also changed our core bond holdings to U.S. Treasury bonds from U.S. corporate bonds as we believe Treasuries offer great stability in what we expect may be a more volatile market environment in 2019.

We want to emphasize that your portfolios are diversified across nine asset classes and that U.S. stocks are only a portion of your total holdings.  This is done primarily to reduce portfolio volatility particularly during times of above average market volatility. We don’t believe in timing the market; but rather, we believe remaining disciplined to an appropriate portfolio allocation along with some tactical allocation is the best way to provide long-term asset growth with lower volatility and higher risk-adjusted returns.

Robert Toomey, CFA/CFP

Vice President, Research