2019 Midyear Outlook: A Story of Headlines Vs. Fundamentals

As the first half of 2019 has drawn to a close, we want to take this opportunity to once again say thank you to our clients for their continued trust in our firm.  We love coming to work every day and the relationships we have built with all of you over the years are the main reason why.  We also want to say thank you to the friends and advocates of Verdi Wealth Management.  Your support is very important for the success of our business.

Headlines Vs. Fundamentals

Coming off the heels of the worst December since the 1930s, equity markets have performed very well through the first half of the year.  Although May was a difficult month with the S&P 500 dropping around 6%, it bounced back nicely in June and the S&P even hit a new all time high.  As we have noted in the past, this volatility is completely normal, with the average intra-year decline of the S&P 500 of around 14% going back to 1980. So far this year, peak to trough, we’ve seen a pullback of 7%, with the index finishing up around 17% this year through the end of June.*

Headline risk has been and always will be the major cause of short term volatility in equities.  This year isn’t any different.  We’ve had the release of the Mueller Report, uncertain Fed policy, increasing tensions in the Middle East (has there ever been decreasing tensions?), and continued uncertainty about the trade/tariff situation with China and other countries dominating the news.

The trade/tariff situation with China has been the dark cloud over the equity markets for a year now, and it’s our opinion that the narrative has not and will not change until both parties come to a concrete resolution.

It is our job to continue to filter out the day to day noise, and stay focused on the overall market fundamentals for our clients, which have been positive as of late.  Take job growth, for example.  Although there has been volatility in the monthly job gains, the overall growth rate has remained steady at more than 2 million jobs per year. Unemployment has fallen to 3.7%, the lowest number since 1969.  Wages have been rising, and household net worth in the first quarter of this year grew 4.5%, the biggest quarterly jump in 14 years, to $108.6 trillion.**

GDP growth stood at 3.1% over the first quarter of this year, and while it may fall a bit from that, we are optimistic that we end the year somewhere between 2-3%.  Not earth shattering, but still growing.

The most important data we look at, though, is corporate earnings, which is the catalyst for long term equity returns, and current valuations.  In 2018, corporate tax cuts and a strong economy helped the companies of the S&P 500 index grow their operating earnings/share (EPS) at 22%, the biggest increase we have seen since 2010.  This excess capital will be used to increase wages, spend on R&D and other cap-ex spending, increase dividends, buyback shares, and pay down debt.  Although earnings growth will slow in comparison to last year, we are hopeful that growth continues in the low to mid single digits for the remainder of the year.

As of the end of June, the forward P/E on the S&P 500, a metric used to value the index as a whole, was at 16.74, only slightly above its 25 year average.**  In our opinion, equities are fairly valued based on the historical data.