A Critical Point For The Economy, But Does It Matter?

October 26, 2019

On this week’s show, Karl reveals some fresh economic data which shows the economy is at a critical point.  But, is it priced in the market?

Hey, good morning everybody. Welcome to the podcast. This is Creating Richer Lives. My name is Karl Eggerss and we always welcome you aboard, even if you are brand new to the podcast, a friend told you about it, you came to creatingricherlives.com and said, “What is this? I think I’ll hit the play button,” and here you are.

Many of you, of course, have been listening for a long, long time and we appreciate it. As always, we continue to improve the podcast and taken your suggestions and comments and questions, and it’s developed over the years. I’ve been doing podcasting for well over 10 years now, and podcasting has really taken off. It’s a great medium, not only because you can listen to it when you want, pause it to go get a snack, but you can also read it as we transcribe it every week. So, if you go to creatingricherlives.com, what we do is we post on there several things during the week.

One of them is this podcast in audio and written format. In addition, we also have our CIO’s weekly blog that comes out on Monday mornings, as well. And then, I typically will do a TV interview or radio interview just talking about things that are important to all of us. Sometimes they’re mostly financial, but also things that can help you in other areas of your life as well, which is the whole theme of this show called Creating Richer Lives.

So, that’s what we do. If you ever need our help in the financial planning realm, in the investment management realm, the tax realm, any of those types of things, 210-526-0057 or as I mentioned, just go to creatingricherlives.com, and you can reach out there as well. And by the way, if you ever have a friend that you think would benefit from our weekly distribution Covenant-U, and that comes out every Monday afternoon. It’s Covenant-U and it’s our previous week’s information.

Again, everything included in there. All you have to do is tell somebody to text Covenant-U to 22828. That’s pretty simple. They get out their phone, they type in Covenant-U as the message, and they text it to the number of 22828 and they will automatically be put into our distribution center, which sends out, again, our summation of everything we’ve done in the previous week, on Monday afternoons.

All right. Now that we have that housekeeping out of the way, we have a few things. An important past week, not necessarily in the markets because we didn’t really have a tremendous amount of movement in the markets. It was more a function of our quarterly investment committee meeting internally.

We get all of our thoughts together, a lot of opinions expressed, a lot of data going back and forth, and really to get our thinking for the next quarter, to look for any moves that we are deciding to make in terms of allocation, and we also get an economic update from our resident in-house economist Sean Foley. And Sean gave us some … a lot of information this time and some good, some bad, and so we’re going to go through a little bit of that in just a minute.

But first, I did want to put our thoughts and prayers out there for the folks in Dallas. I know my uncle’s house was literally destroyed in that tornado and it was a pretty violent tornado coming through there, and this is a good time for those of you that were not affected to think, “What things can I do right now to prepare for something like that, if it ever were to happen?”

Obviously, things like clothes can be replaced, everything can be replaced except for some of your data, some of your important documents, some of your pictures, so this is a good time. Take those pictures, scan them in, go use a Google Photos, go use a Dropbox, whatever you need to do to store them online. It’s great because those things cannot be replaced. And obviously, there’s some family heirlooms. You can’t scan family heirlooms, but whatever you can digitize, do it.

Especially these important documents, whether they’re wills or anything of that nature, but any other important documents to you, scan them and make sure as well your computer that’s sitting there, is it being backed up? I’ve been using personally something called Carbonite for years. They don’t advertise on here. We did advertise years ago, but they are not an advertiser.

But Carbonite is a great solution that runs in the background and it backs up everything on your computer. And there are different levels, they used to not back up big video files. You could manually back those up, you could click on them and tell it to do that, but now they have that option, as well. So videos, pictures, all of that gets backed up in the cloud. You can access it from anywhere.

So if your computer gets destroyed, you simply go on Carbonite, you download it. That’s just one solution at one I personally use, which is why I’m telling you about it, there are others. That’s peace of mind. Again, whatever you can digitize, just go through your house this weekend and think, “If that were to happen to me and if I was to come home and my house was literally gone, what could I do now to help mitigate some of those losses?”

And maybe it’s keeping some things in a fireproof box or off-site, any of those things. So I just wanted to mention that, because it’s really important, especially if you were not affected, to prepare. We can always prepare for that. I heard a story this week and before we get into our update on what we’re thinking about the markets and the economy and so forth, gentleman called me and, in a summation, his parents were left a trust by a great-aunt and unfortunately, I’m looking at this, they’d been getting income on it for years, but what was a very large estate has dwindled, dwindled, dwindled down.

Not only did the dad not get the right amount that was probably coming to him, but in addition, the investments in that trust were extremely aggressive, and was losing money in 2013 and ’14. And 2013 was a good year for the stock market, so it caught my attention. Why would that be going down? And in my mind I was thinking, “What went down in 2014?” Energy. The portfolio was littered with all energy stocks primarily, and that trust has dwindled down and now it’s at a point where the distributions that are going out each year to this gentleman’s father, they’re probably not sustainable because it will cannibalize the trust.

He even mentioned that the “financial advisor,” and I’ll use that in air quotes because this is not a financial advisor doing a fiduciary job, was also the trustee on the trust, in addition, was at the funeral with the attorney. They both had documents for the family to sign at the funeral. Warning sign, right? Red flag. So we’re trying to untangle this mess and figure out what happened, and the bottom line is these folks are not vengeful. They are saying, “How do we fix this going forward and live our lives comfortably going forward?” So this is where we step back.

We look at everything from the 30,000 foot view and say, “What are you trying to accomplish from this day forward?” The couple is 72 years old, “What are you looking to accomplish with this money that’s left? What else is coming in? What other expenses do you have? Build a portfolio that’s sustainable, that can pay you a reasonable income for the rest of your life and accomplish your goals. If you want to go back and fight, you can, but can we just move forward?” And that’s what we’re in the middle of doing.

There’s potential elder abuse. Some of this, you know, may or may not be able to be proven, but aggressive behavior nevertheless, and it’s a sad story, but this is how we want to turn what was a bad experience into a good one and show them how a good financial advisor experience, what that looks like. So be careful if you have any older family members, talk to them. What are they signing? Have they had any visitors lately? Are they putting too much trust in somebody? Look at the documents, those types of things. So be careful about that. Now moving on to the economy, the markets, et cetera.

We’re in an interesting position because, if I could put an underline under what the economic data is suggesting based on all this information that we received this week, some of it our input, some of it other people’s input, the economy is still slowing, and we’ve mentioned that the … we knew that, which is why the Fed’s changed their tune from last year and they’d been lowering interest rates this year and likely to do it again. We know that.

Is it going to stop though? Does it continue to slow down and grind to a halt, if not, go backwards, or is it just coming in and then reaccelerating? There are some folks that think we will see reacceleration later this year, but we’re already later in this year, right? We’re almost in November. But what I’ve been telling you and what we’ve been collectively saying inside Covenant is that the consumer, who is 70% of our GDP, has been keeping this economy really afloat because if you look at manufacturing, it looks pretty dismal.

Manufacturing looks like its own … it’s been in its own little recession, but the consumer has been doing pretty well in terms of, their wages have been accelerating, going up, they’ve been spending. Here’s the issue though, one of the issues, is that while their wages are going up, the hours that they are working are going down, and they’re down to 2016 levels. Now, if we remember back to 2016, some would say, and I wouldn’t disagree, we were in a mini recession in late 2015, early 2016 due to … falling energy prices was a big contributor.

Remember, oil went from 100 and … What was is? 20, $25 a barrel, down to $26 a barrel. And so we’re now down to those hours worked at that level today. So yes, the people working are getting raises, but if 10 people hypothetically were thrown out of work and one person got a raise, the stats would show people are getting raises, but yet we know there’s less people working.

So there’s a lot of jobs out there, a lot of jobs taken, everybody’s … a lot of people working. But the hours worked are one issue we need to watch, and that is down to 2016 levels, so we kind of need to hold here and so there’s a lot of these indicators we looked at over the past week that suggest that we’re at a critical fork in the road, where either things start to turn back up again, or we could tip into a recession in 2020.

Sean was clear, we’re clear, I’ve been clear on this podcast. Again, even if we go into recession in 2020, do you run for the hills with your stocks? Not necessarily because again, this recession, if it comes, we don’t know how long and deep it is, versus what was there in 2008. 2008 was a very unusual financial crisis, global recession as the worst we’ve seen. This is not suggesting that. This is maybe suggesting a mild recession, which maybe …

Do you know the stock market is not much higher now than it was a year and a half ago, almost two years ago? Has the stock market already been pricing in slow growth and slower growth? It may have been. So the stock market is a different animal than the economy. Think of that first. Even if we go into recession, because I always get the question, “Are we going into recession? Are we going into recession?” And I’ve been saying it doesn’t look like it right now, but we are very vulnerable to one. The Fed still looks like, based on what the bond market is telling us, the Fed is still behind the curve. The market is still asking and begging for more rate cuts.

Will they come? Should they do a half a percent? Probably so, but they’re likely to do a quarter of a percent. So the markets maybe have been pricing all of that in. And again, a recession is technically two quarters of negative GDP growth. Again, if it’s minus 0.001% for two quarters in a row, that is technically a recession. So it’s something we’re watching because here’s the thing, what’s going to happen if less people …

If people are working less hours and then we start to see maybe some layoffs, consumer spending starts to go down and that’s something we need to watch because again, while spending’s been improving, it’s still … All of this is still vulnerable. Again, it’s one thing if you’re growing at six or 7%, you’ve got some room to play with, but when you’re growing at 2%, you don’t have a lot of room for error. And that’s kind of where we are right now. If we were to sum up everything, is that we don’t have a lot of room for error in terms of the vulnerability of this economy.

We still have a lot of debt out there, albeit a lot of student loan debt, but debt is still a major issue and you guys know that, and the recession odds have increased. And when you look at some of the scenarios we’re looking at today, that doesn’t … hasn’t always led to a recession, but the odds have been high. Shifting from that, what do we do about that? Well, I can’t answer what you should do about that because I don’t know you, I can’t see you.

But I can tell you in general, as you go into something like this, you continue to look for quality. You don’t pay too much for things. So to me, what that looks like is you’re seeing stocks, for example, software stocks, which have been really the darling of Wall Street and for good reason, it’s a great business model, software stocks. But you’re seeing a lot of those stocks get hit and it’s not a surprise because some of them have been so expensive.

So you’re seeing stuff like that get hit, so I would say avoid the expensive areas. And you could always say this, but sometimes expensive gets rewarded. So I don’t always own the cheapest things in the world, but this is a time to probably do that. And there are good bargains out there. There’s things that are income-producing, but be careful in this market because of the fact that we’ve had low interest rates and they’re starting to go back down again based on what the Fed’s doing.

Remember, people have been using areas like utility stocks as a bond surrogate. They’re saying, “You know what, I can get a good quality dividend from that area without risking my money in bonds.” But what they’re doing is they’re actually having more risk and they’re overpaying. So you’re seeing some sectors and some industries that are very expensive based on their historical measures. So this is a time to really, again, look in the portfolio, your portfolio, what’s too expensive, what’s cheap? A little rotation.

If you’re owning bonds … Look, if the economy continues to slow, then high-quality, long-dated bonds still make sense. Treasury bonds still make sense if the economy continues to slow because, more than likely, interest rates continue to fall. And guess what happens? Bonds continue to go up, and many believed that we will see the 10-year Treasury rate, which is the 1.7, 1.8 range, fall below 1% by the time this cycle is done. If that happens, bonds continue to make a lot of money.

We’re shifting now, let’s think real quickly. If we know all of this, if we know the economy is slowing, we know that it’s vulnerable, then a lot of other people know that as well. And how much of that’s priced in the market? So we have to take that in consideration and we have to take sentiment into consideration. What’s sentiment? It’s how people feel about lots of things, the economy, the stock market, the bond market. So are these crowded trades?

In other words, have people bought bonds in anticipation of all of this and it’s priced in? Could we get the Fed lowering rates? And yet, the bond market sells off. That could happen. So all of this needs to be taken in moderation, right? You can have a piece of chocolate cake, probably shouldn’t have one for breakfast, lunch, and dinner every day. Although, I could probably do it. I could pull that off, I’m telling you, but you probably shouldn’t do that. And that’s how it is right now.

Keep a diversified portfolio, keep the income coming in because as we move sideways, as we’ve been doing for a year and a half, almost two years, that’s where the income comes into play, whether you’re living off of it or just using it as a total return vehicle, income is really important. Whether it’s through lending, commercial real estate, residential real estate, high-quality bonds, treasuries, international bonds. There’s lots of ways to get income and that’s a really important factor in a market that’s been choppy and sideways since we’ve had tariffs.

Now, we are seeing positive developments out of trade. It’s taking a long time. Again, we’re going on two years now, but we have positive developments. We’ve got earnings coming in, which are going to be mediocre in terms of growth and we have some bright spots. When you think about housing, we’re seeing housing accelerating, which is a really good thing. So there are a lot of bright spots here and that’s why this does not look like if we go into a recession, this financial crisis.

And that’s something that many need to understand because again, if you haven’t been following markets but maybe 10 years or 12 years, you think every downturn looks like ’08, and that’s not the case. Many of us have been around the markets way before the ’08 financial crisis and we’ve studied markets going back to the Great Depression, the 30s, the 40s, the 50s, and there have been garden variety recessions, and there’ve been stock markets that have done very well at various times of the business cycle, as well.

So studying that is important when you’re coming up with an allocation. And remember, we still have stocks that are advancing versus declining, making all-time highs right now, so we can talk about the economy all we want. I like to study personally, Karl Eggerss likes to study, I like to look at the economy and make moves based on that. But I also like to look at the sentiment and what investors are doing, what are they doing? Because the market is a forward-looking indicator, and by the advanced decline line making new all time highs, we see a broadening out of the stock market.

Very important. Now do we see the characteristics that indicate a bull market becoming a bear market? The answer’s no. That’s why I’m not uber-bearish right now, but do we, again, have a little bit of protection on our side? Do we do things a little on the defensive side? Yes. Again, in moderation, we do these things and then we look for it for what I would call the low-hanging fruit. Things that are cheap in our opinion, and you go after those things and you buy them with conviction, but you also don’t flirt with things that are vulnerable if we do get more of a slow-down.

But it was a really interesting meeting because again, there’s a lot of stuff going on right now, and when you put it all in a blender, things are still slowing down. It’s how slow are they going to get? And nobody knows that. Nobody knows, because remember, these Federal Reserve interest rate cuts take time to trickle through. They don’t happen immediately, so that last hike in 2018 really did do some damage to the economy. Sounds silly, but it did, for many reasons.

And then, when they reverse course in a quick fashion, which they did, they didn’t quite do it fast enough, and so they’d been 25 basis points, 25 basis points and the market saying, “No, no, we want more.” How do I know that? Again, if you look at something called the yield curve, which is you take short-term interest rates, longer-term interest rates, and the longest interest rates, and you plot little points, and you connect the dots, what you will see is that everything else on the curve is already priced in, because remember, the markets controlling the longer interest rates by just buying and selling bonds, those are have already factored that in, it’s the short-term rates, which look high.

And that’s the part that probably needs to come down more, which is the Federal Reserve. So we think they will cut rates again and they probably should cut rates more. We don’t know that far out yet. But it’s interesting that the market is still holding up here, given some of this information. And that may tell you something, right? So that’s why we’re not uber-bullish or bearish, excuse me, because there’s a lot of positive things going on as well.

But this 3000 level on the S&P 500 has been kind of a … hitting your head on the ceiling, right? We’ve been bumping up against that. We need to kind of break through to the other side. They should write a song called … nevermind. So that’s where we sit right now, that is where we sit. Again, improving the quality of a portfolio, making sure your portfolio matches what you’re trying to accomplish for the longer term. Okay?

And also, being realistic about what do you expect for the markets going forward? What do you expect from the bond market going forward? What do you expect from emerging markets going forward? Domestic stocks, because once you kind of have some expectations on that, then you can build a portfolio that’s trying to match what you, specifically you, are trying to accomplish and that’s what we do every day at Covenant.

If you do need help 210-526-0057, and our website creatingricherlives.com. We’re getting a ton of good feedback on the new improved website, in addition to Covenant-U, which is a culmination of all of that distributed to your inbox on Monday afternoons, which is fantastic. If you don’t want to keep checking the website, you can simply go and get the information through Covenant-U on the email distribution on Mondays.

We also post this stuff on social media. We’re on Twitter, we’re on Facebook, all of that, so we enjoy putting it out there for you, we enjoy the feedback. If there’s topics you want us to cover, we’ve got a whole slew of things coming up in the next several weeks we’re excited about, and if you do want some different type of information or getting … if you have some feedback, send it our way. We always appreciate that.

And don’t forget also, in terms of the podcast, you can listen to the podcast on Spotify, on Apple Podcasts, on Overcast, all these podcasting services to where it’ll pop up for you immediately when we post it, and we post it, to let you know, on Saturday mornings. So if you want to listen to the podcast right when it comes out on Saturday mornings with your hot cup of coffee, which you’ll probably need this weekend, you can do that on Saturday mornings. If you want to wait for the email to come to you, comes on Monday afternoons.

All right folks, have a wonderful rest of your weekend. Take care.

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