Prologue: I’ve been giving more up to date thoughts on twitter. If you’re interested, you can follow me here: https://twitter.com/ndwork.
It’s been a tough three months in the stock market. Whereas many observers thought this drop was unwarranted, I gave many reasons for it in my last blog post. After the recent correction, where do things stand now?
Many signs (except for the stock market) show that the U.S. economy is doing rather well. Applications for unemployment benefits dipped . The labor market is very near full employment . US factory output is high and growing .
We have several sets of good news coming for the market. The current government shutdown will eventually end. The last interest rate of the Federal Reserve will be (or has been) absorbed. Any negativity associated with the so-called trade wars will dissipate. Additionally, several of the results of recent trade negotiations have been good for the U.S. The USMCA (which replaced NAFTA) will increase production in the US, opens Canada’s milk market to US producers, and improves intellectual property protections . The steel and aluminum tariffs will increase local production of those goods. (It looks like it already has . I happened to get to speak to a steel worker who informed me that his relatively small company will be opening a third plant in the U.S.)
Trump has demonstrated that he is not concerned about the national debt at all, and he is extremely concerned about the behavior of the stock market. For the near term, then, it looks like our government will be very willing to spend its way to increasing stock prices. (I think this is HORRIBLE for our nation. However, I am writing this article to explain my thoughts on how to invest in the present. In doing so, I will attempt to take the stupid actions of our politicians into account and profit from them.) Additionally, in the same speech where chairman Powell (of the Federal Reserve) announced that the economy is doing well and that there is no reason not to continue rate hikes as previously planned, he dropped the number of rate hikes the Fed expects to conduct in 2019 from 3 to 2 .
However, there are signs that there are obstacles that our economy will have to overcome. Most notably, the major effect of a small interest rate hike by the Fed on the stock market is a very bad sign. (It is disconcerting that our economy struggles to absorb a quarter point interest rate hike with the interest rate less than 3%, a very low value over the last century.)
Additionally, several notable companies are in trouble. Sears is filing for bankruptcy, Toys R Us is gone, Circuit City is gone, Best Buy stays around magically, GM is closing plants, Du Pont is in extreme debt, and Ford has stopped making all cars except the Mustang. (These are the stories I have off the top of my head.) There has been a significant drop in consumer confidence . The global market is struggling. (China has announced that their economy has taken a hit since Trump imposed tariffs, but one can never tell if China is lying or not. European countries continue to struggle: Italy is increasing debt, Spain is becoming more and more socialist, and Brexit continues to plague the markets with uncertainty.) Our country’s citizens are in massive debt. The average American has credit card debt of approximately $6400 . We currently owe $1.5 T in student debt  (which cannot be forgiven through bankruptcy). And we have several other debts as well (again, see my last blog post).
Finally, there are toxic assets in our economy. Most pertinent, as previously discussed, are the leveraged loans. Our nation’s banks have issued sub-prime loans; rather than doing so to home buyers through mortgages, they have been issued loans to poorly performing companies.
In addition to the above, there are several technical indicators that suggest our economy is underperforming. The S&P 500 has made the “death cross” [8.5]. And the 2-year and 5-year treasury note yields have inverted [8.6].
So how is all of this going to play out? I will give my best guesses at a reasonable worst case and a reasonable best case for the next year or two.
Reasonable worst case: Increasing inflation continues to force the Federal Reserve to increase interest rates. Increasing interest rates will make companies with leveraged loans insolvent. Small companies that have never really produced and large companies like Du Pont and Ford close down. Unemployment drastically increases in a short time. Approximately 40% of Americans say that can’t produce $400 in an emergency without going into debt or selling something . So our debt increases, leaving less for spending. The federal government continues to try to spend our way out, leading to a reduction of credit rating and higher federal interest payments. This also leads to increased inflation. We enter a time of high unemployment with high inflation, a phenomenon known as stagflation; this has been predicted by Alan Greenspan  and Peter Schiff .
Reasonable best case: Partly fueled by the new trade restrictions, US employment remains high. Increasing interest rates force some companies to fail, but those workers are hired by better performing entities. The Federal government continues to spend massive amounts, leading to an apparent prosperity in the US and higher stock prices. The Federal Reserve continues to raise interest rates to fight the inflation, but those rates are absorbed by the economy without too much trouble.
Inflation is happening in all cases. Whereas the Federal Reserve has announced a 2% inflation rate , I think it is much higher. The metric that the Fed uses to measure inflation is the personal consumption expenditures (PCE) index . This metric has been hacked to heck for political gain. The IRS, which changes taxes based on inflation, has determined a significantly different number and is adjusting the tax deductions accordingly . Those on social security have lost 1/3 of their purchasing power since 2000 .
Given those outlooks, what does a balanced portfolio look like now? Here is what I’m doing:
- I’ve covered my short sells and have taken a small profit. I no longer have anything sold short.
- gold (20%) – with inflation, gold goes higher. I’m heavy in gold.
- cash (40%) – a guaranteed interest rate of approximately 3% is not bad; I’ll take it. I’m heavy in cash.
After the recent correction, several stock prices look appealing. I’ve recently purchased several, and here is something close to my current portfolio.
- S&P 500, SPY and POCT (10%)
- TSLA (7%) – recently went down to 295, I got it at 303 and it’s currently about 330. Does anyone really doubt that it will be 360 in March? I don’t.
(The remaining investments are relatively small, but I’m excited about them)
- CVS – though significantly in debt (they borrowed approximately $40 billion to acquire Aetna for about $70 billion ), I think they’re looking promising. I went down to my local CVS and asked the pharmacist technician if anything had changed; she told me that all the Aetna patients are having their prescriptions filled there now, which has increased the number of her customers. So it looks like it’s working in at least one store. CVS will be converting its stores into health care hubs . They plan to start an initiative for kidney care and dialysis . In particular, they are developing a home dialysis machine . Additionally, they give about 3% in dividends (and will be trying to increase this figure) This is all great, and I’m very happy to be a small part of it.
- AMZN – their stock price has dropped. I sold them about three months ago, and just bought some back. If the economy struggles, I think that Amazon will acquire additional market share. I don’t see them suffering significantly from rising interest rates. They continue to make extremely innovative products: AWS, Mechanical Turk.
- RY – they’ve taken a huge hit. I sold them about three months ago, and just bought some back. They survived the 2008 crisis without much issue since they never really invested in sub-prime mortgages. I think they’re backed by the Canadian government. Good stuff.
- MJ – an entire industry is initiating across the globe. ( I don’t use pot, I recommend that you avoid it unless it’s medically necessary, and don’t like drugs. I’ll be happy to profit off of this one as it explodes and then drop it 10-20 years from now.) And prices have taken a huge hit.
- NAC – federal and state tax free interest payments? Yes please. Though on an upswing, it’s on a relative low compared to the last year.
Over the next months, I’ll be monitoring the market closely. If things are going well, I’ll start converting my cash into assets. If not, I’ll probably just hang on like this for a while. I look forward to the days like those passed when I can just leave my money in the stock market and make a modest profit with little monitoring.