Our two-year-old economic recovery gets no
respect. The media tells us that it’s in a slump, it’s sluggish, feeble,
anemic, weak, and lackluster. Wordplay aside, the recovery is typical vis-à-vis
our more recent recessions. Though, when we compare it to the post-recession
recoveries before the 1990s, this one does seem somewhat listless. Before the
1990’s gross domestic product (GDP) growth shot back at a 5 to 6 percent
pace. Currently, the recovery is
averaging less than 2 percent GDP growth and the stock market swoons weekly
worrying if economic growth will vanish right before its eyes. A healthy GDP
growth rate is 3 percent+, which would go a long way towards pushing
unemployment numbers down. Yet,
our analysis of the data implies that the patient is fine with no serious setbacks
expected.
The stock market has rebounded from the
recession quite vigorously in the face of obscene national debt levels, a shaky
housing market, and too many folks still in search of jobs. Stocks are up 40
percent over the last two years; a breather now and again should be expected,
especially in the face of government default threats if the debt ceiling isn’t
raised.
Profound debt burdens weigh heavy on the
United States and Greece and both countries are reaching for the political will
to pull up their respective bootstraps and embrace austerity. For the US, in
the next few weeks we expect to see a multi-year package of spending cuts and perhaps
tax increases followed by bipartisan agreement to raise the debt ceiling and
prevent disruption from debt payment defaults. Whether the fix is permanent or
temporary is irrelevant at this point, the goal is to get bipartisan support on
something and then lift the debt ceiling.
We also expect to see Greece finalize an
austerity driven debt-restructuring plan; the country has no choice, despite
the fury of protesters. That doesn’t mean that Greece is out of the woods, the
probability is low that they can grow out of their problems.
Given current macro economic conditions, it’s
unrealistic to expect strong growth any time soon. Yet, we also don’t expect a
descent back into recession. Recovery is a long-term story and it takes time to
get through the deleveraging process and for the housing market to improve.
We are now thinking more seriously about
inflation. Up until recently we have been complacent about it. Over the last
few years as many have pointed to our national debt, the outsized Federal
Reserve balance sheet, agricultural commodity prices, and gold prices to
explain the inevitability of the lurking inflation monster, we held back and
said not yet. We believed that the forces keeping inflation in check were
stronger than the forces fueling inflation. We now think differently two years into the recovery. That
doesn’t mean that we expect prices across the board to jump tomorrow, next
week, or next month. We just think the timeline for high single-digit or low
double-digit inflation is within rather than beyond the next couple of years. The
current “stated” annual inflation rate is 3.6 percent.
There is no easy answer to the question of
where on the horizon inflation may lurk. These past two years of our recovery
have not been strong or long enough to trigger inflation. Layoffs, excess
manufacturing capacity, and weak housing have trumped the inflationary effects
of emerging market growth, fiscal and monetary policies, and a weak
dollar. We anticipate a
strengthening economy that embraces a stabilizing housing market, job creation,
and more vigorous consumer demand.
If growth is moderate we may experience stagflation (low growth with
rising prices) and sidestep a hyper-inflationary environment. As such, a timely
fix to our fiscal and monetary ills may not be possible, and once the lending
spigot opens up, all bets are off.
What’s our best defense against inflation?
Commodities or commodity producing stocks may
be a logical place to invest for certain investors. Commodity prices tend to
increase when inflation kicks in and the dollar weakens. Other than energy
stocks, we tend to avoid the area due to the cyclical nature of commodity
assets and their often excessive price volatility.
Equity Real Estate Investment Trusts (REITs)
are another area to consider. When
inflation takes hold, tangible assets seem preferable. Studies have shown that real estate is
a great hedge when inflation is rising at a steady (less than 5 percent
annually) but not rapid pace. We favor apartment REITs in an inflationary
environment because they can increase rents.
Treasury-inflation protected securities may
be another logical investment. TIPs adjust their principal and coupon payments
with changes in the Consumer Price Index (CPI). TIPs, like all investments,
have a value to them that may or may not be correctly displayed in their price.
Inflation expectations can drive up prices on TIPs beyond their intrinsic
value. Also, because TIPs are bonds, their prices are sensitive to changes in
real interest rates. We use TIPs carefully in portfolios.
Emerging market stocks are a good way to
participate in the growth of emerging economies as well as other currencies. We
have stayed consistently invested in the area.
Large multi-national companies are the best
investments to combat inflation; companies that have the ability to pass
through their increased commodity costs in the form of higher prices where
possible. We call these types of companies “wide-moat” companies since they are
better capitalized than their peers.
They typically have the best brands and people are willing to pay more
for their products and services. Also, wide-moat companies can consistently
increase shareholder dividends.
No matter how risk averse investors try to
be, volatility still rules the day. There are too many domestic and global
uncertainties to contend with. Though we invest for the long-term, it may be
comforting to share with you the fact that July has historically been a very
strong month for the market. The Spring and Summer months from May through
September have historically been a weak time for the markets, but July bucks
the trend and usually trades higher.
And, the traditionally best performing months of the year, November and
December, are just around the corner.
* Ellen Le is the
founder and president of Ascend Investment Management (www.ascendinvmgt.com).
She has been a financial planner and investment adviser for more than 20 years.
I look forward to receiving your
questions about anything related to investments, retirement planning, or the
economy. Send them to: ellen@ascendinvmgt.com and write “Chadds Ford Live” in
the subject line.
Ellen is the Founder and President of Ascend Investment Management. She was born in Philadelphia and has lived in the Delaware Valley for most of her life. When she is not researching investments and managing portfolios, she pursues her interests in tennis, bridge, hiking and art. Beginning her investment career in 1981 as a stockbroker at E.F. Hutton and Co., Ellen now has over 20 years of investment management experience. Prior to founding Ascend in 2006, she managed high net worth assets for many years at Bank of America, Mellon Bank, and most recently at Davidson Capital Management. At Davidson Capital Management, Ellen served as a Senior Vice President and Senior Portfolio Manager of the firm. She managed assets for more than 50 family relationships and was a core member of the firm’s Investment Committee.Ellen earned a BA in History from Brown University and a MBA in Finance & Investments from The George Washington University. She is a member in good standing of the Chartered Financial Analyst (CFA) Institute, which is a global organization dedicated to setting a high ethical standard for the investment profession. Her professional memberships include the Delaware County Estate Planning Council, Women Enhancing Business (WEB), and the Chadds Ford Business Association. She is a docent with the Delaware Art Museum and an active volunteer with the Brown University Alumni Association.
