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Positioning on the Field

| October 15, 2018

At MPCA, we look at a lot of charts…no seriously, it’s a LOT. We typically spare you from having to “nerd out” with us, but sometimes a “picture (or a chart) is worth a thousand words.” In those cases, we will put that chart in front of you to help illustrate where we have been and what influences our thinking around your portfolio looking forward. With that said, here’s a quick recap of last week and how we got here – including, of course, a few charts. We will have more to follow in the coming days and weeks.

You can see in the chart below that we had an explosive rally in January, to start the year (1), followed by an even bigger move to the downside in February (2). Since that plunge in February, we were mostly backing and filling through May and then started the slow climb to the recent highs during the last couple weeks (3). We are now sitting below the 200-day moving average, which is generally considered to be long-term support for the market, but also seem to be holding above the February lows, which is a good thing.

All this is why, if you look at the chart on page 1 (using a football analogy), currently we are in the middle of the field and the defense is on the field. When we have these conditions, we sell lagging areas of the market on rallies, add to areas holding up well, and are looking for either a breakout to the upside or a breakdown that would signify something even worse on the horizon. It’s not a surprise that our model has spent a large part of the year in a tug-o-war between the bulls and the bears. From an economic perspective, we see much of the US economy still doing well, but many of the International economies showing signs of pressure from trade tariffs and dollar strength, as well as lingering issues from the Great Recession (countries like Turkey, Venezuela, and Italy).

Transitioning from the now to the look ahead – the above chart, courtesy of our friends at Hays, shows valuations and 10-year forward return expectations for the S&P 500. You can see the black line (which ends in 2008), represents the actual 10-year return for the market. It ends in 2008 because it needs returns from the next 10 years in order to complete the chart. The other lines are various valuation measurements, like Shiller CAPE and MV/GDP (Buffet’s favorite measure) that show what expectations should be if we look out the windshield. The other thing this chart shows is that whatever valuation you want to use, they are pretty much telling the same story. You can see the black line is almost a perfect correlation to the other lines, which if that continues leads us to expect the next 10 years to be <5% for an all-equity US portfolio. Not great, but it’s what you can naturally expect when the markets get expensive, as they are today. Using an analogy, you wouldn’t expect to get the same useful life out of a car if you buy it with 80,000 miles as you would if you bought it brand new. As our friends at RiverFront remind us often, “Price Matters.”

We intend to expand on these thoughts over the next couple weeks with more than our usual commentary and likely more charts and pictures than we typically use. In the interim, we always invite and welcome your questions and comments.