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Opening Statement from the July 2019 Intelligent Investor (part 1)

Originally published on July 11, 2019 (pre-market release)

Overview

The U.S. is now enjoying its longest economic expansion in history. As well, the U.S. stock market continues to make new record highs as it adds to the longest bull market in U.S. history. And even more upside is expected over the next several months. But much depends on the details of successful trade negotiations between Washington and Beijing.

A sustained period of record low interest rates has fueled the search for yield which has enabled the real estate market to post pre-crisis highs. Although interest rates have risen beyond record-low levels over the past few years, the real estate market remains quite strong along with consumer spending.

Finally, the stock market has also benefited from low rates. The post-crisis period has thus far been particularly good for dividend securities relative to net historical returns. Because we believe the upper limit for short-term interest rates is being approached, our expectation of a continued low interest rate environment bodes well for the real estate and stock markets. Adding a strong labor market to the mix ensures the continuation of strong consumer spending and sentiment.

On the surface the U.S. economy looks quite strong. The unemployment rate in the U.S. is the lowest it’s been in close to 70 years (1960s). However, such a low unemployment rate has led to a disproportionate low rate of wage growth. Although wages are rising, the rate of increase is below that expected given such a low unemployment rate. Thus, the exceptionally low unemployment rate alone should not be viewed to confirm the strength of the economy. Clearly there’s another side to the employment data that’s not being discussed openly by officials.

Although wage growth has been incommensurate with the low unemployment rate, consumer price inflation remains relatively subdued. Based on current economic data and forward projections, we believe there is no need for the Fed to raise interest rates much more than 25 to 50 basis points (most likely) over the next 12 months. Moreover, persistently low U.S. Treasury yields continue to slant the Fed with a more dovish bias.

Although solid, the U.S. economy is not nearly as strong as it appears on the surface. During a period when the fiscal stimulus is waning, trade uncertainty has caused variable damage to numerous sectors within the business world. Fortunately, consumer sentiment and spending remain very robust.

In addition to rising geopolitical risks as well as worrisome weakening in the Eurozone, we cannot forget about the numerous risks embedded within China’s financial system. Combined with risks from trade, China’s financial system has become much more fragile.

There are many other issues of concern, such as the persistently high...