Monthly Archives: January 2014

Economy in Perspective, an 85-Year One

Doing a post on the economy in 2013 got me thinking about how current environment compares to prior decades.  I tried to focus on a very small number of indicators that are truly representative of the national situation and not get bogged down in a forest of minute details.  The numbers in the tables and charts below are averages of the annual data for each decade.

Exhibit 1 presents eight indicators with the highest number for each row highlighted in green, while the lowest is highlighted in orange.  Not surprisingly, the 1930s stand out quite a bit as crappy time to be around.  If we make an argument that 1930s and 40s were “anomalies” what with the Great Depression and World War II, things look a bit different (Exhibit 2).  The 1950s was a model boom decade with a roaring stock market, low interest rates, fast-growing economy, relatively low inflation and a population “baby boom”.  Both the unemployment rate and budget deficit were very low, while the high WWII debt was being paid off.

On the flip side, the 2010s have been pretty crappy so far as indicated by the dominance of highlighted numbers in that column.  Attractive stock market returns are the major exception here.  Of course, we are only 4 years into the decade and things might look quite a bit better down the road.

Exhibit 1 – Important Metrics by Decade (1930s to 2010s)

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Exhibit 2 – Important Metrics by Decade (1950s to 2010s)

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Now let’s take a look at these metrics one by one in a bar chart form.  These are averages of the annual data for each decade.  Stock market returns have been remarkably attractive for a majority of the 20th century decades, save for 1930s and 2000s (Exhibit 3).  The negative returns for the 2000s certainly help to explain continued investors’ reluctance to invest in equities.  Although fund flows for 2013 show that this might be changing.  Interest rates look like a bell-shaped curve rising in mid-century and culminating in double digits in the 1980s.  From there we began the 30-year decline in rates with a coincident bull market in bonds.  What this chart looks like say 50 years from now is anybody’s guess, but there is not much room left to the downside in interest rates.

Exhibit 3 – Stock Market Returns & Interest Rates

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World War II and the subsequent rebuilding led to an economic boom in mid-20th century (Exhibit 4).  Real GDP (adjusted for inflation) is still growing albeit at a slower pace.  Speaking of inflation, after peaking in 1970s (which led to high interest rates in Exhibit 3), it has been steadily declining.  In fact, despite massive “money printing” by the Fed as well as ballooning federal debt and budget deficit (Exhibit 6), inflation in this decade has been the lowest since 1930s.

Exhibit 4 – GDP Growth & Inflation

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There is a reason the post-war period was nicknamed “baby boom” with strong population growth (Exhibit 5).  With a booming economy, there was plenty of work to go around leading to low unemployment rates.  Once more, 2010s have been a rather tough time to be looking for work.

Exhibit 5 – Population Growth & Unemployment Rate

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Finally, the federal debt and budget deficit have seen major changes over the last few decades (Exhibit 6).  During World War II, the government borrowed heavily to support war effort, but slowly reduced the debt burden into 1970s.  The 1990s and 2000s saw a relatively stable debt load, but it increased markedly after the “Great Recession”.  Similarly, current budget deficits are quite high by historical standards (although last few years have trended down).

Exhibit 6 – Federal Debt and Budget Deficits

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This piece is meant to put current environment into historical perspective and is something I will likely refer to quite a bit in future posts as well as my work with clients.

A few words about methodology:

Depending on the data series being cumulative or oscillating, some averages were calculated as geometric means or CAGR (S&P 500 Return, Real GDP Growth, Inflation, Population Growth),  while others are arithmetic means (10 Year Treasury Rate, Unemployment Rate, Debt to GDP, Budget Deficit to GDP).

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2013 Review: Economy Edition

The last two weeks I reviewed investment performance in 2013 (2013 Review: Significant Events and 2013 Review: Asset Class & Sector Edition).  This last post in the annual review series will focus on economic indicators.

The employment situation continued to improve in 2013 (Exhibit 1).  The U.S. economy added 2.18 million new jobs (182,000 a month), slightly fewer than 2.19 million in 2012.  Total employment increased 1.6% which was better than 1.0% population growth.  The unemployment rate ended the year at 6.7% in December, the average of monthly rates was 7.4%.  U-6 rate is a broader measure defined as “Total unemployed, plus all marginally attached workers plus total employed part time for economic reasons”.

Exhibit 1 – Employment

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GDP growth slowed in 2013 (based on first three quarters) (Exhibit 2).  Auto sales, another metric of economic health, increased 6.8% approaching 16 million a year.  Inflation, as measured by Consumer Price Index, stayed very benign and decreased for the second year in a row.  This combination of slowing growth and mild inflation would argue for continued support from the Federal Reserve.

Exhibit 2 – Growth & Inflation

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Public debt increased to $16.7 trillion during the year (Exhibit 3).  On the positive side, a combination of tax hikes and spending cuts (sequester) led to a big drop in budget deficit.  It declined by 37% to $680 billion to about half of what it was in FY 2011.  The Federal Reserve expanded its balance sheet by over a trillion dollars to $3,759,000,000,000 (that’s a lot of zeros!).  Average monthly increase was about $90 billion, which is in-line with its official QE pace of $85 billion a month.  The purchases have been “tapered” to $75 billion beginning in January 2014.  We’ll do a separate post analyzing Fed balance sheet in more details.

Exhibit 3 – Debt & Deficit

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S&P 500 earnings growth accelerated to 10.7% (Exhibit 4).  However, most of the strong index performance in 2013 came from P/E multiple expansion, which increased by 17% to 17.2x from 14.7x.  Both 10-Year Treasury rate and 30-Year Fixed Mortgage rates increased from record-low levels.

Exhibit 4 – Earnings & Rates

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Finally, the housing sector continued its slow healing process (Exhibit 5).  While still nowhere near prior peaks, both unit numbers and prices improved again in 2013.

Exhibit 5 – Housing

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All of these data and MUCH more are available for free at http://research.stlouisfed.org/fred2/.  This is a great resource for investors and financial planners who like to do their own homework instead of relying on whatever sensationalized datapoints the media choses to focus on.

I plan on taking a closer look at many of these metrics in future posts.

2013 Review: Asset Class & Sector Edition

Last week I reviewed the major events of 2013 and their impact on the market (2013 Review: Significant Events).  In this post I would like to dig a little deeper.  Even though the tables below reflect 2013 market performance of actual ETF products, this discussion is for informational purposes only and is NOT a recommendation to buy or sell any one security.

As shown in Exhibit 1, U.S. equities were the strongest asset class, followed closely by European and developed stock markets.  Emerging markets didn’t do so well with a 3.7% decline.  Commodities had a rough year with the broad index dropping 7.6%.  Oil did relatively well, while gold was THE WORST asset on this list with a whopping 28.3% drop.  Bonds didn’t fare well either as the Fed set the stage to reducing QE which led to rising interest rates.

Exhibit 1 – 2013 Performance for Major Categories

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Sector performance showed a typical “risk-on” environment (Exhibit 2).  Investors were enamored with “growthy” areas: solar, biotech and Internet/social media.   As an aside, solar stocks had a banner year that needs to be put in context – this rally follows a precipitous 3-year drop.  TAN has lost 82% in 2010-2012 and is still down 59% from Dec 2009 (SPY is up 80% during the same timeframe).

Consumer-related and industrial areas also had a great year.  Materials and income-oriented sectors lagged the overall market.  Gold miners lost more than half of their value (on top of posting losses in 2011 and 2012).  I am NOT making an investment call – but could GDX be the next TAN?

Exhibit 2 – 2013 Performance by U.S. Sector

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Performance for the select countries and regions is shown in Exhibit 3 – some of the smaller countries had very strong/weak results but I want to focus on the major ones.  Japan and developed Europe lead the way as economic policy and reforms were cheered by investors.  Emerging markets overall and BRIC countries in particular led to the downside.  This underperformance was attributed to the struggling commodities markets, rising rates in the U.S. and some structural local problems.  Interestingly, the “Frontier markets” (which are even less developed than emerging) were in favor last year.

Exhibit 3 – 2013 Performance by Country / Region

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There were few places to hide in the fixed income markets in 2013 (Exhibit 4).  Riskier and hybrid (convertibles and preferreds) groups have outperformed, while the interest rate-sensitive ones saw fairly significant losses.  This picture is pretty typical for periods of improving economy with rising rates.  Municipal bonds had a tough year among increasing concerns about pensions, Detroit bankruptcy and issues in Puerto Rico.  International bonds didn’t do well either with the exception of corporates.

Exhibit 4 – 2013 Performance by Fixed Income Group

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Next time, I plan to focus on reviewing economic indicators for 2013.

2013 Review: Significant Events

Imagine for a minute that you have spent all of 2013 on a deserted island with no access to news.  Upon your return you were told that you have missed:

  • Washington antics – sequestration, ugly fight over the debt ceiling / budget, 2-week government shutdown and filibuster “Nuclear Option”
  • Federal Reserve – “QE Taper” and a new chairman (Janet Yellen) nomination
  • Global unrest – Boston marathon bombing and escalating tensions in the Middle East (Syria, Egypt, etc.).

What would be your guess of what the market return for the year was?  I bet it wouldn’t be +32.4% !  Yet that is what the S&P 500 returned as it climbed the proverbial “Wall of Worry” throughout the year.

Exhibit 1 shows the weekly % changes in the S&P (green and red bars) and the level of the index (black line).  The annotations are the major stories of the year that affected the markets.  It’s not meant to be a comprehensive list, just my personal observations.

Exhibit 1 – 2013 S&P 500 Timeline

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Source: PlanByNumbers, Yahoo! Finance

Throughout the winter and early spring, the lawmakers could not agree on a budget compromise, leading to the dreaded “sequester” – a series of budget cuts designed to be so severe and indiscriminate that passing of a fix was all but guaranteed.
In March, the Cyprus bank deposit haircut was the big story as investors feared it would lead to massive capital flight from the Eurozone.  Ultimately, the central bank agreed to a 47.5% haircut for international deposits over 100,000 euros.  Despite the public outcry, that crisis remained largely contained to Cyprus.

April brought the Boston Marathon bombing and the ensuing manhunt.  After a few quiet weeks, the Fed decided to throw a monkey wrench and announce impending “Taper”.  From the day before its first mention on May 22 to the short-term bottom in late June, the market dropped nearly 6%.  Despite an improving economic picture, the market was driven by Taper and the perverse situation when good news meant withdrawal of the stimulus and led to market sell-offs.  This prompted the Fed to go on the PR offensive to talk investors off the ledge.  While stocks recovered from the initial Taper blow, bonds didn’t fare as well.  10 year Treasury yield jumped from 1.93% on May 21 to briefly hitting 3% level in early September.  Throughout the summer, the market convinced itself that the Fed would begin tapering at its September meeting, so then they surprised everyone and decided to push it back (the market went up 1.22% on the news).  Finally, after the December meeting, they unexpectedly announced QE Taper of $10 billion a month starting in January.  Interestingly, the market went UP 1.66%, good for the 3rd best day of the year.

Another bit of excitement was “Nasdaq Flash Freeze” in late August, which was reminiscent of the market “Flash Crash” back in 2010.  “Obamacare” enrollment started on October 1 with the ensuing website disaster.  TWTR went public on Nov 7 at $26.  It jumped 72.7% on the first day of trading and then proceeded to rise an additional 42% to close the year at $63.65.  This was a much more successful IPO than its social media peer Facebook.

October brought with it an ugly battle over the budget and debt ceiling.  The lawmakers could not come to an agreement, bringing about a two-week government shutdown.  To everyone’s surprise, they finally managed to agree on a two year budget deal in mid-December, well before the deadline.  After the budget deal and Taper announcement, the market pretty much cruised the last 3 weeks into the record books (2013 turned out to be one of the better years in modern history – Exhibit 2).

Exhibit 2 –S&P 500 Annual Returns Since 1926

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Source: PlanByNumbers, Ibbotson SBBI, Standard & Poor’s

The year was strong throughout with only two negative months (Exhibit 3). January, July and October were the strongest months (interestingly those were all during earnings seasons).

Exhibit 3 –S&P 500 Monthly and Quarterly Performance in 2013

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Source: PlanByNumbers, Yahoo! Finance

In the next post, I will take a closer look at sector and asset class performance in 2013.