· Stocks followed up the best week of the year with another rally, although this one on very narrow leadership. On both the New York Stock Exchange (NYSE) as well as NASDAQ Composite, laggards outpaced advancing issues by approximately a 3:1 ratio. Furthermore, of the 138 sectors, 79 were down as opposed to 59 up. If the strength continues to advance in this fashion, we would consider it a classic year-end rally, driven by those that have missed out on the advance in large-cap stocks thus far this year and are playing catch-up. To instill confidence, the leadership would have to broaden dramatically.
What could provide help to broaden leadership would be continuation of strength in the bond market or at least further stabilization as well as further cooperation from energy prices and the dollar. At the present, it appears as if the direction of interest rates is more or less a battle of additional supply versus the strength of the economy. This will most likely continue into 20224.
Despite the sharp move to the upside, we are presently sticking to our belief that “stock prices will be supported by better than expected earnings along with positive seasonality, but held back by valuation along with fears that the war between Israel and Hamas will spread. We are most likely in a trading range with the bias to the upside. Despite the gains thus far this year, we counsel patience. There is no need to be a hero.”
· In remarks for before the International Monetary Fund, Fed Chair Jerome Powell noted that “the Federal Open Market Committee is committed to achieving a stance of monetary policy that is sufficiently restrictive to bring inflation down to 2 percent over time; we are not confident that we have achieved such a stance.”
· Shares of Microsoft hit an all-time high this past week, bolstered by the belief that its investment into the areas of Artificial Intelligence (AI) will further ignite earnings. Interestingly and a reflection of the move in the shares of Microsoft as well as other large-cap tech stocks, their market capitalization along with that of Apple (AAPL), both exceed the combined market cap of the Russell 2000 (the second and third thousand largest stocks domiciled in the United States).
· Berkshire Hathaway, the company led by CEO Warren Buffett has amassed more than $157 billion in cash, $126 billion of which has been invested in short-term Treasury Bills. We make note of this as unlike, Berkshire or Warren Buffett for that matter, many investors require some income along with stability in their portfolios. This would imply lengthening out some of the maturities to take advantage of the recent move up in interest rates.
· All eyes turn to inflation this week as on Tuesday, the U.S. Bureau of Labor Statistics will report on inflation at the retail level as measured by the Consumer Price Index (CPI) and on Wednesday, at the wholesale level as measured by the Producer Price Index (PPI). Investors will pay particular attention to see if inflation pressure continues to ease or remains at current levels, which according to the Fed, are still somewhat elevated as compared to their two-percent target. The consensus estimate for the CPI and PPI to rise 0.40% and 0.50%, respectively. Over the past year, the CPI has advanced 3.7% while the PPI is 2.2% higher.
· At age 62 and 1 month, according to Social Security, my (Dennis) life expectancy is 21.5 years which will bring me to 83.5. Aaron’s, at age 34 is 47.3 years for a total of 81.5. According to AARP and assuming some specific factors contained within this link (https://www.aarp.org/retirement/social-security/questions-answers/retirement-benefit-break-even-age.html) “ at around age 78 and 8 months, you reach the break even point, when your cumulative benefits from claiming at 67 surpass those you’d get by taking retirement at 62.” As food for thought, consider that according to Medicare up to 25% of total costs come within the last year of life and you can see why the decision as to when to claim Social Security Benefits is not an easy one.
· Late Friday, Moody’s Investor Service lowered its ratings outlook on U.S. Government debt to negative from stable. In a statement Moody’s noted that “in the context of higher interest rates, without effective policy measures to reduce government spending or increase revenues Moody’s expects that the US’ fiscal deficits will remain very large, significantly weakening debt affordability.” Moody’s added that “continued political polarization with the US Congress raises the risk that successive governments will not be able to reach consensus on a fiscal plan to slow the decline in debt affordability.”
· After dropping double digits during 2022, the 60/40 Portfolio has righted itself. After dropping 16.90% during 2022, a proxy for this asset allocation, the Vanguard Balanced Index Admiral Shares (VBIAX) has risen 8.60% thus far in 2023 and looks to provide more consistent performance in the future as interest rates appear to be nearing a peak.
· The average credit card balance rose above the $6,000 mark, its highest in 10 years. In addition, newly delinquent credit card rates have doubled over the past year, but remains within the historical norm. With unemployment remaining strong, the amount of credit card debt, up 15% y/y, is a concern, but not yet a problem.
· For those clamoring for a portfolio laden with dividend-paying stocks, according to Bespoke Investment Group, “the 100 highest yielding S&P 500 stocks at the start of the year are down an average of 7.94% YTD on a total return basis compared to an average gain of 8.94% for the 100 stocks that had no dividend yield at the start of the year.”
· Late Thursday, Senator Joe Manchin (D-VA), a politician who straddles both sides of the political aisle will not seek reelection. Instead Manchin stated that he will be “traveling the country and speaking out to see if there is an interest in creating a movement to mobilize the middle and bring Americans together.” These sound like words from either a challenger to President Joe Biden or a bid to create a third-party candidate to rival both Biden and former President Donald Trump, both the current leaders as we approach primary season. Either way, ironically, this may perhaps tip the Senate toward Republican control as Manchin comes from a decidedly red state. On another note, according to one anchor on CNBC (and we paraphrase) – “the presidential election next year pits one individual that you might find wandering around in your garden at two in the morning against another who you might find in bed with your wife.”
· Year-End (Q4) Capital Gain Distributions. In a non-qualified account, keep in mind that whether you reinvest dividends and/or capital gain distributions, they are taxable to the registered shareholder. Moreover, given the volatility in the equity markets over the past two years, in many cases, we expect those distributions to be substantial. As we enter the final two months of 2023, Fagan Associates will keep a close eye on these and then attempt to mitigate the damage. It is also important to note, especially given losses in bond portfolios as a result in the rise in interest rates, that mutual funds cannot distribute losses to shareholders. Rather, they must save them to offset potential gains in future years.
· The normal. Prior to the pandemic, the tenor of the economy was one in which there was growth in GDP of approximately two percent in a sub-two percent inflationary environment. Many economists labeled this period the “new normal” as GDP growth prior to this period, which began after the Great Recession ended in Q1-2009, was typically 4% GDP and 2-plus percent inflation. Post-pandemic, GDP and inflation appears to be regressing back to pre-Great Recession numbers.
· 4.0% is now 4.7%, according to the revision of a study originally in 1994 done by Bill Bengen in 2020. This study is an attempt to determine what percent can you withdraw from your investment portfolio and feel confident that it will last you for your lifetime. We agree with this figure and given the current level of interest rates, might push this to 5% as individuals tend to spend less as they enter the passive stage of retirement, beginning around age 78.
· Should growth investors consider intermediate- to long-term bonds? Despite the rally, “we are getting there.” As it is very unlikely to pick the exact bottom in stocks, don’t think you can pick the exact top in interest rates (the equivalent of the exact bottom in bond prices). For example, an investor is only giving up $430 per year in income with the yield on the 10-year U.S. Treasury currently at 4.57% as opposed to its more recent 5.00%. Hogs and sheep both get slaughtered.
· Every environment has a temptation. Right now that “siren song” calling is cash. We say, use cash for short-term liquidity. Sure, it is nice that you are getting a return on that cash. However, cash is not a long-term investment option. Don’t get sucked in by investing solely in short-term fixed income securities such as money markets, short-term bonds or Certificates of Deposit (CDs) despite their yields being higher than longer dated securities as a result of the inverted yield curve. With the interest on the 10-year U.S. Treasury climbing to within an earshot of 5%, we recommend laddering bonds in order to add predictability to your stream of future income.
· Over the last two years (October 31, 2021), this has been more of a time rather than a price correction for equities but both for fixed income as interest rates have risen back to pre-great recession levels.
· Your money is not a competition but rather a means to allow you the freedom to do the things you want to do. It is security and with this in mind, perhaps it is time to lengthen the duration of your fixed income portfolio.
· Time will tell if investors/consumers will be inclined to slow down purchases as interest rates have moved higher just as they may have been inclined to increase purchases in the previous low interest rate environment. For example, stocks did well during the late 1990s even though the 10-year U.S. Treasury Note was well above 5% perhaps because interest rates prior to this period were much higher so they deemed this rate “low.” Today’s environment is quite the opposite as interest rates over the past decade were much lower. Perhaps investors deem this interest rate “high.”
· Autumn is a time to harvest and in regard to the non-qualified accounts managed by Fagan Associates, we will continue looking for ways to offset realized capital gains by realizing some losses in portfolios, if available. With that in mind, feel free to contact us should you have any questions regarding this process which occurs throughout the year, but quite often at an accelerated pace during the final quarter.
· Don’t get sucked in by investing solely in short-term fixed income securities such as money markets, short-term bonds or Certificates of Deposit (CDs) despite their yields being higher than longer dated securities as a result of the inverted yield curve. With the interest on the 10-year U.S. Treasury climbing well over 4%, we recommend laddering bonds in order to add predictability to your stream of future income.
· Corporate news – Shares of Plug Power (PLUG) dropped 40% Friday as a continuation of the hydrogen shortage have markedly increased input costs and threatened their long-term viability; Berkshire Hathaway (BRKB) posted earnings of $10.761 billion, 40% higher than year ago levels.
· Upcoming Economic Reports scheduled to be released this week include the following, on Tuesday, Retail Inflation for October as measured by the Consumer Price Index (CPI), on Wednesday, October Wholesale Inflation as measured by the Producer Price Index (PPI), October Retail Sales and September Business Inventories; on Thursday, the Weekly Report of Initial Claims for Unemployment Insurance along with October Industrial Production and Capacity Utilization; finally, on Friday, October Housing Starts.
· Like the fall foliage, the earnings season has peaked and has begun to wind down. Nonetheless, some of the notable companies reporting Q3 earnings this week include the following – Tyson Foods (TSN), Home Depot (HD), Cisco Systems (CSCO), TJX (TJX), Palo Alto Networks (PANW), Target (TGT), Applied Materials (AMAT), Ross Stores (ROST) and Walmart (WMT).
“This presentation is not an offer or solicitation to buy or sell securities. The information contained in this presentation has been compiled from third party sources and is believed to be reliable, but its accuracy is not guaranteed and should not be relied upon in any way, whatsoever. Fagan portfolio characteristics and holdings are subject to change at any time and are based on a representative portfolio. Holdings and portfolio characteristics of individual client portfolios may differ, sometimes significantly, from those shown. This information does not constitute, and should not be construed as, investment advice or recommendations with respect to the securities listed.
Additional information including management fees and expenses is provided on our Form ADV Part 2. The actual return and value of an account fluctuate and, at any time, the account may be worth more or less than the amount invested. Bond Investments are affected by interest rate changes and the credit-worthiness of the issues held in the portfolio. A rise in interest rates will cause a decrease in the value of fixed income positions. Past performance results are not indicative of future results.”