As the major indices hit new highs, protection against sharp declines in the market has become a priority. The first half of 2017 has been one of the strongest for the financial markets. The S&P 500 posted a return of 9.34% in 1H 2017 and has since continued to climb hitting 11.71% year-to-date. Likewise, the Dow Jones Industrial Average returned 8.56% in 1H 2017 and is now at 9.36% year-to-date. The Nasdaq has outperformed both the indices posting 14.07% in 1H 2017 and has inched up to 18.7% year-to-date.
By any measures, these are spectacular returns and brings with it higher valuations that has sparked concerns over stocks that have driven up the markets to all time highs. In particular, the FAANG (Facebook, Amazon, Apple, Netflix and Google) group of stocks have been instrumental in lifting the indices, particularly the Nasdaq and the S&P 500. Valuations in a couple of these stocks brings back bad memories from the internet bubble era – Amazon now trades 190 times earnings, Netflix trades at 210 times earnings. To put it in perspective, when the S&P 500 trades above 20 times earnings, many consider it to be overvalued. S&P 500 now stands 22 times earnings.
And so, heading into 2H 2017, the search for value has begun. Growth sectors – Technology, Healthcare and Consumer Discretionary which have outperformed in 1H 2017 and have been major contributors to the rising indices appear vulnerable to falling out of favor. Value sectors – Financials, Energy and Consumer Staples, which have largely lagged behind, are now finding buyers as investors begin to rotate out of growth into value to protect against a possible correction.
Future Wealth’s View
Given that it is impossible to predict what is going to cause a correction, we examine economic and the political landscape for clues. GDP growth numbers looks positive signalling continued manufacturing momentum and low unemployment in a low inflation environment. But drop in wage growth, high house prices, high auto debt levels, high commercial real estate prices and too much corporate debt remain key concerns.
Uncertain political backdrop is a major red flag. With health care reform all but dead, possibility of passing tax reform this year looks bleak. Gerrymandering has already begun in Washington with an eye on the 2018 mid term elections in the midst of global uncertainty – Russia is meddling, North Korea is threatening and China is weakening. Dysfunction in Washington and tumultuous Trump presidency, that has gone from curiosity and bemusement to confusion and concern, has irrevocably damaged American credibility and leadership. This has set in motion a move to redefine the economic world order which could have far reaching consequences in the years to come.
But none of this makes a compelling case for a correction in the stock market. While it is logical to see a shift to value stocks and potentially some profit taking after blockbuster 1H 2017 runup, at Future Wealth, we take a longer term view of the markets for our clients and see no compelling reason to shuffle our clients’ portfolios heading into 2H 2017, even as structural changes sweep through world economies.
And so, let us celebrate 1H 2017 and keep our optimism into 2H 2017. Even OJ Simpson will join us in that party – The Juice is Loose Once Again.