Recent Investment Commentary 2018-01-19T18:57:51+00:00

Fourth Quarter 2017 Investment Commentary

Global Market Update

Global markets accelerated throughout 2017 propelling broader market indices higher, with all major indices making new all-time highs.  The S&P 500 index of stocks rose 22.5%. International markets also excelled in 2017 as both developing and emerging stocks were boosted by expanding economies throughout Europe and Asia with the EAFE Index +25.4% for 2017.   Small- and Mid-Cap domestic stocks saw advances in the mid-teens.

The election prompted a rally in domestic stocks that continued on throughout 2017. The rally was fueled by optimism and expectations that growth-oriented policies and tax cuts would result in earnings gains.

Tax Reform

After the failure of two health care reform initiatives, financial markets were injected with renewed momentum with the prospects of tax cuts that culminated in the passage of the Tax Cuts and Jobs Act of 2017 near the end of the year.  The Tax Act made numerous significant changes to the taxation of individuals and also ushered in sweeping changes to corporate taxation.  Among the most significant changes for the stock market, the Act reduces the corporate tax rate from 35% down to 21% for “C” corporations that include most companies on the stock markets.  Enactment of the tax bill is expected to cut taxes by more than $1.4 trillion over 10 years, as estimated by the Joint Committee on Taxation.

Other projections also include a rise in the federal deficit, should economic growth not be sufficient to make up for the cost of the tax cuts.  Passage of the tax reform bill may eventually lead to higher inflation because of possible growth in the federal deficit and an expanding economy. Economic expansion produces inflationary pressures that can increase wages and asset prices such as homes and stocks. In addition, tapering of fiscal stimulus in Europe by the European Central Bank (ECB) may also add to international inflationary pressures, which has been one of the ECB’s primary objectives.

As an adjunct to lower corporate tax rates, U.S companies have a one-time opportunity under the new law to repatriate cash held overseas at a tax rate of 15.5%. This will affect various sectors and numerous companies that are estimated to have amassed over $2 trillion overseas. Most believe this will not only raise tax revenues but also add liquidity to U.S companies looking to expand business operations domestically.

Companies in sectors such as technology and healthcare generally hold the most cash overseas. These companies may have the most to gain in 2018, since a change in the tax law encourages “repatriation” of monies back to the US at the reduced tax rate.   Furthermore, companies with strong balance sheets have been out-performing those with weak balance sheets, as the market prepares for possible tax ramifications for companies deducting certain interest and depreciation expenses.

Interest Rate Moves and Beyond

The Federal Reserve raised the short-term rate in December, as expected by the markets, and made fairly optimistic comments about economic growth projections for 2018. The federal funds rate rose to a target range of 1.25 – 1.50%. The increase in rates implements a strategy of tightening money supply, meant to help alleviate inflationary pressures. Concurrently, the Fed is also shrinking its $4.4 trillion balance sheet, a dual monetary policy effect expected to curtail inflation and reduce stimulus.

The yield curve flattened throughout 2017, with a rise in short term rates and a drop in longer-term rates. The yield on the 2-year Treasury Note saw its largest annual increase in over 10 years, ending the year at 1.89%, up from 1.22% at the start of the year.

The current head of the Federal Reserve, Janet Yellen, is scheduled to chair her last Fed meeting on January 30th & 31st, with Jerome Powell assuming the post in February. Many believe that Powell will continue to pursue the current path of the Fed and proceed cautiously with interest rate increases.

Labor Markets

By the end of 2017, the Unemployment rate had dropped to 4.2%, the lowest level since 2000. The fed targets the unemployment rate to determine strength of job creation and a 4.2% rate is considered below their target rate for “full employment.”

Members of the Federal Reserve indirectly expressed concern about the labor market, suggesting that improvements in the job market were expected to accelerate wage and consumer buying pressure, stoking unwanted inflation.  Although inflation has not been evident yet, the Fed is on a course of slowly raising interest rates.  As a result, we remain more defensive and willing to trade off income by including short- and medium- duration bonds in our portfolios.

Our Shrinking Stock Market

Over the past 20 years the number of corporations with listed shares traded on U.S. exchanges has

actually dropped by approximately 40%. In the 1990s, there were over 8,800 publicly traded companies with a total market capitalization of about $20.9 trillion. As of the end of December 2017, total market capitalization was $27.7 trillion, yet with 40% less stocks than in the 1990s.

Shares have decreased for various reasons, including aggressive share buybacks and higher regulatory costs. Mergers and acquisitions have also reduced supply while fewer firms are willing to deal with the costs and regulations involved in being public.  As fewer companies are willing to be publicly traded, more are eager to become private or be acquired by private equity firms.

As the equity markets have consolidated, so have some of the indices made up of these publicly traded stocks. The broadest equity index of all is the Wilshire 5000 index, which no longer includes 5,000 companies and is now comprised of only 3,503 firms (as of September 2017.)  This supply and demand dynamic has become a meaningful valuation component of the equity markets, as there are far fewer stocks available, but at higher prices.

We are entrusted by our clients to help navigate the many global political, economic and financial events that are constantly evolving.  We want to assure you that we continue to manage your accounts using our resources and best judgement as applied to your unique situation.


*All index returns and other statistics are provided by, unless otherwise noted.
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