Dividend Café

The Changing Weather of 2018 - Jan. 5, 2018


Dear Valued Clients and Friends,

It has been between 55 and 70 degrees in Newport Beach all week, and yet I find myself in New York City (photo is from out of my NY office window)  where they are using terms I have never heard to describe the weather conditions (what is a “snow bomb cyclone”???).  I know market timing is a fool’s errand, but one would think I could have done better “weather timing” to kick off the new year!

Weather notwithstanding, we have a hot market, a cooling confidence in Wall Street punditry, and a lot to cover in this week’s Dividend Café.  We plan to release our annual white paper on 2018 positioning and perspective next week, but in the meantime, let’s dive into the first edition of 2018.   You won’t be disappointed!

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Contrarian Duty

What is our moral obligation as financial advisors?  To offset this reality for our clients:

The All-World market index was up 22% last year.  The S&P 500 the same.  The Nikkei up 19%.  Emerging Markets up 36%.  The VIX had 22 of its lowest readings in history last year.

AND YET, a net total of $23.4 billion (again, NET of new money in) actually EXITED U.S. stock funds last year.

As long as there are people prone to doing the wrong thing at the wrong time, there will be a higher calling for what we do.  And as long as human nature is what it is, there will be people prone to do the wrong thing at the wrong time.

Does a strong year one year guarantee a strong year the next?

If the subject is the stock market, the answer is no, there certainly is no such guarantee.  But there is a pretty high statistical likelihood.  Truth be told, the years following big 20%+ years really are similar to any other market average trend: A 10.5% return on average, with a positive return 69% of the time.  So what can we predict about 2018 based on 2017?  Nothing.  Absolutely nothing.  Note the data here, and then definitely check out the Chart of the Week at the end as well.

* Bespoke, January 2, 2018, Jones Day Trading

Human nature and the bond market

One of the great phenomena holding up the bond market (and therefore, holding down bond yields), has been the massive flows of money from retail investors into bond funds, a phenomenon now eight years old and counting.  Many investors use bond funds as a substitute money market (not smart).  Others use them as a surrogate for their bond allocation in an investment portfolio.  The sheer volume of bond purchases required to meet demand embedded in the inflows to the bond fund space has been a game-changer and has offset much of the negative fundamentals in the bond market (i.e. unattractive risk/reward tradeoffs around interest rates).

The Wall Street Journal ran a story this week on how this phenomenon would likely continue, and a declining demand for government debt will not hurt the Treasury market because investors will continue to support the market with their bond fund appetites.  I suspect this misses the point.  Bond markets have not held up because retail investors have liked them; retail investors have liked them because bond markets have held up.  The “chicken or egg” of it all is if a disruptive event occurred within the bond markets (big interest rate spike, credit market turmoil, etc.).  That may not happen anytime soon, but if (or when) it does, it is against the evidence of history to suggest that retail flows will offset such disruption, as opposed to actually align with the disruption!  Templeton taught us that “this time it’s different” is not good investing.  Human nature is what it is – in the stock market, and the bond market!

Is commodity inflation back en vogue?

The indication is that it may very well be (note accompanying chart).  The irony is that so many WANT this to be true.  Higher commodity prices drain liquidity from the system and represent a higher input cost, thereby serving as a profit margin compressor.  Why do people want copper and oil prices to be higher?  Because they indicate, in theory, healthy global demand in the overall economy.  The challenge in evaluating commodity prices is that they carry mixed messages – there can be a positive indication, but deciphering such requires a more extensive evaluation of other factors.  And they can create a negative result – who wants to pay more for something? (though apparently, when hearing society’s approach to housing prices, permanently escalating asset prices are a good thing).  Regardless, the direction of copper and oil prices are monitored by our team diligently, both for what they say about the present, and what they could mean to the future.

Anyone remember Brexit?

With the MSCI United Kingdom stock index up 22% in 2017, it may have been hard to remember that Britain was supposed to fall into the abyss after the 2016 passage of Brexit.  I am the first to admit that much of the reason for a benign response thus far is the relative “softness” of the manner in which Brexit is playing out.  But I would argue that a total hard rupture with Europe was never really on the table, and was actually just a part of the fearmongering of the Brexit opponents.  There remains work to be done, but the basic gist of British sovereignty is becoming reality, without the destruction to trade capacity so irrationally feared.

Superstitious support for the MLP sector

Clients and readers know how much credence I put in calendar happenstance as it pertains to any investing subject (hint: it is not very much).  So do we think the fact that MLP’s have never been negative three out of four years in history, or that January has been the best month (on average) for the space over the last 22 years, means anything?  No, we don’t.  But flows were so low in 2017, that any fundamental pick-up leading to new demand is likely to see an outsized impact on prices.  I really don’t know how much more emphatic I can be about the key to satisfaction with the results in this sector: Focus on cash flows, focus on the growth of cash flows, and make darn sure the fundamental backdrop protects the cash flow and growth of cash flow.  Will higher prices result?  You know I believe they will.  But the growth of outsized income is the value proposition here, and always will be.

Do valuations matter?  Or, my explanation about FANG …

“Why don’t you buy [Facebook, Amazon, Netflix, Google]?” is a common question asked by anyone who has seen their stratospheric performance to anyone not buying such names.

My answer is 1.87% (1).

That is the per year return for the Nasdaq for anyone who bought the Nasdaq at its March 2000 high.  In 17 years, the “hot tech space” has made a grand total of 1.87% per year.  How could that be?  Because when you spend over a dozen years just getting back to purchase levels, the math is pretty unfriendly.

We value future expected returns, not past returns.  And entry level valuations matter …

Hey, this Dividend Café was terrible!

Okay, maybe you don’t feel THAT way, but if you were looking for more of a 2017 review and 2018 outlook, our annual white paper covering all of that and then some is well underway, and we expect to have it ready for publication no later than January 16.

Chart of the Week

I wonder what sticks out to you from this week’s chart?  Wow, are markets ever consistent!

Quote of the Week

“The farther back you can look, the farther forward you are likely to see.”

– Sir Winston Churchill

* * *
So we will leave it there for the week and hope that you are staying warm this frigid winter weekend.  I have a lot of reading and writing to do this weekend, so a little snow bomb cyclone may be just what my computer ordered.  It remains to be seen if 2018 will create some stormy markets, but we will cheat a little bit as to our forthcoming white paper on the year ahead …

The magical low levels of 2017 are unlikely to remain.

But then again, snow and blizzards are the norms.  Sunshine 365 days per year is the fantasy.  And managing our client’s financial needs for all weather conditions is the aim of all of us at The Bahnsen Group.  So to that end, we work.

With regards,

The Bahnsen Group, HighTower

(1) Nasdaq, FactSet, January 2, 2017


The Bahnsen Group is registered with HighTower Securities, LLC, member FINRA and SIPC, and with HighTower Advisors, LLC, a registered investment advisor with the SEC. Securities are offered through HighTower Securities, LLC; advisory services are offered through HighTower Advisors, LLC.

This is not an offer to buy or sell securities. No investment process is free of risk, and there is no guarantee that the investment process or the investment opportunities referenced herein will be profitable. Past performance is not indicative of current or future performance and is not a guarantee. The investment opportunities referenced herein may not be suitable for all investors.

All data and information reference herein are from sources believed to be reliable. Any opinions, news, research, analyses, prices, or other information contained in this research is provided as general market commentary, it does not constitute investment advice. The team and HighTower shall not in any way be liable for claims, and make no expressed or implied representations or warranties as to the accuracy or completeness of the data and other information, or for statements or errors contained in or omissions from the obtained data and information referenced herein. The data and information are provided as of the date referenced. Such data and information are subject to change without notice.

This document was created for informational purposes only; the opinions expressed are solely those of the team and do not represent those of HighTower Advisors, LLC, or any of its affiliates.