Now that we have passed the half-way point in 2018, it is time to start looking forward to the second half of the year. As we survey the current status of the economy, there is a lot of information to take into consideration. Here are 3 things that suggest the economy may be peaking, leaving us to ask, “Is this as good as it gets?”
1. The Tide is Turning
Instead of a “rising tide lifts all boats” environment, clear winners and losers have emerged this year, creating a wide disparity in performance across different markets and sectors.
Winners:
- Energy (+13.46%)
- Technology (+9.4%)
- Consumer Discretionary (+8.2%)
- Small Company Stocks (+7.8%)
Losers:
- Industrials (-3.2%)
- Financials (-3.2%)
- Emerging markets (-6.7%)
Typically, this market behavior occurs when the economic environment shifts and investors start to prepare for what’s ahead. Current economic growth, while solid, is likely going to cool down in the second half of 2018. In turn, we will be watching for signs of rotation into “defensive” categories as confirmation of a “risk off” mentality.
2. Yield Curve Woes
First off, what is a yield curve?
It is simply a line that plots the interest rates, at a set point in time, of bonds having equal credit quality but differing maturity dates. A “normal” yield curve is one in which longer maturity bonds have a higher yield compared to shorter-term bonds due to the risks associated with time. In other words, in a normal economic growth environment investors are rewarded for buying bonds with longer maturities.
Normal Yield Curve:
So what is the issue?
Some investors are concerned the Fed may raise short-term rates too far and the yield curve may become “inverted.” This happens when short-term rates exceed longer-term rates. It’s the rarest of the three main yield curves (normal, flat, and inverted) and throughout history has often occurred prior to a recession. While the curve is trending towards a flat appearance, we do not expect the yield curve to invert this year.
Inverted Yield Curve:
3. Those “Good” Numbers are in the Rearview
Second quarter results are being released and the majority are solid. For instance, the real GDP number had the ever elusive 4 in front (4.1%) and good corporate earnings are rolling in daily. What we need to remember is that those numbers are for the past three months and in our rearview mirror. As we keep our eyes on the road ahead and evaluate the economic landscape, our data-driven research process indicates U.S. economic growth is likely peaking and projected to cool over the next several quarters.
Our Outlook: BEARISH
For the first time this year, our short-term quantitative signals have all turned negative. Additionally, our intermediate-term risk model just recorded its lowest reading of the year and growth is projected to cool. We believe the culmination of these warning signs creates a headwind for stocks and heightened downside risk. In response, we have downgraded our outlook from neutral to negative for the remainder of the year. While we currently do not observe recessionary conditions, a substantial market pullback and increased volatility would not be uncommon in this type of climate.
The silver lining
We expect that the next 6-9 months should present some very good buying opportunities. Further, economic growth is only projected to cool a bit before heating back up next year, potentially setting the stage for some good investment returns.
How Can We Help?
At GGM, aligning your investments with the prevailing economic environment is just one of the ways we strive to add value to your portfolio. If you are concerned about whether your investments are primed for the current market and allocated to meet your objectives, we recommend our complimentary portfolio checkup. Contact us today!
