I am a bottom-up investor, which means I tend to focus on the merits of individual companies far more than any macroeconomic impact. However, even I can see that macro forces are lining up in our favor in a big way as we near 2015.
Quantitative Easing (QE) by the Fed has pumped some $4.5 trillion into the economy over the past few years, pushing interest rates down and driving investors out of bonds and into stocks. While officially over, the program will quietly continue as the Fed reinvests interest income and expiring bonds into new purchases. The result is that corporations have been able to re-finance their debt at rock bottom interest rates, strengthening balance sheets and improving profitability. Likewise, the Fed’s Zero Interest Rate Policy (ZIRP) makes it likely that big-ticket consumer spending will continue.
The drop in crude oil, down some 40% since its peak in mid-June, is acting like a shot in the arm to a US economy that has already seen GDP growth in the 4% range for each of the last two quarters. Lower prices at the pump are like a cash rebate in the wallets of just about every family and small business in the US, stimulus that will find its way into higher consumer spending and business investment.
Finally, while we may be sick of the partisan bickering among our politicians, the reality is that equity markets tend to outperform after mid-term elections, and history shows that investors love a divided government. Congress puts a check on the White House, while veto power keeps a check on Congress. Expect higher prices in equity markets to follow.
Avoid Micro Risks from Sky-High Stock Valuations
There are some negatives, of course. Europe is officially in recession (except Italy, which avoided recession only by counting the impact of illicit drugs and prostitution on its GDP – seriously, you can’t make this stuff up). Asia is likewise trying to manage a credit bubble and monetary crisis. Eventually these will come into play, just as eventually we will have to pay the piper for QE, but for now the macroeconomic winds seem to be at our backs.
The risk in 2015 instead will be in the microeconomic arena, especially in navigating sky-high stock valuations. We will be going into a sixth year of market expansion, so your job is to screen out overvalued stocks. The price you pay will be the most important factor to your investing success in 2015. Even if you buy the greatest companies in the world, you will likely underperform if you pay too much for them. While I love companies like Netflix (NFLX) , Chipotle (CMG) and Adobe (ADBE) , the reality is that you are unlikely to ever see success buying companies with sky-high price to earnings ratios (P/E) of 80 or higher.
Don’t get burned by stocks that have already risen into the valuation stratosphere. An easy benchmark is to look for those companies selling below the S&P 500’s trailing P/E of 18.9 while showing a healthy return on assets (ROA) and/or return on equity (ROE). Some companies I like include Johnson & Johnson (JNJ) , Viacom (VIA) , Symantec (SYMC) , and Honeywell (HON) .
Alan Stevens is Portfolio Manager for Catalyst/Lyons Tactical Allocation Fund (CLTAX) and is Co-Portfolio Manager for Catalyst/Lyons Hedged Premium Return Fund (CLPAX). He serves as Managing Director of Research and Portfolio Management at Lyons Wealth Management LLC and holds a MBA from Harvard Business School and a BA from Lake Forest College.
Disclosure: The material is not intended to be a formal research report and under no circumstances is it to be considered as an offer to sell or a solicitation to buy any investment referred to in this document. Lyons Wealth Management LLC accepts no liability for loss arising from the use of this material. Any opinions expressed are our current opinions only. All information provided in this presentation is for informational purposes only. Lyons Wealth Management LLC, their employees, directors, and/or their respective family members may or may not directly or indirectly hold positions in the securities referenced.
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