Market Outlook, H2, Part 2: Goldilocks — Or is it Go-Go-ldilocks?

In a “Stock Talk Only” exclusive, CIO Chris Perras covers Part Two of Oak Harvest’s H2 2019 outlook for the markets! Listen in and find out our view on whether “Goldilocks” is going to return to the markets.

Chris: Good afternoon, I’m Chris Perras, Chief Investment Officer at Oak Harvest Financial Group, and welcome to the June 21st edition of our weekly Stock Talk podcast: Keeping You Connected To Your Money. This week’s episode is the second part of a two-part series addressing our second half 2019 outlook. For next week, our outlook can only be found on these audio podcasts by way of an email, or directly on our website. Go ahead and Google Oak Harvest 2019 second-half outlook if you want to direct others to listen to what we have to say.

Broadly speaking, I’m calling our second-half outlook, Goldilocks returns, and she kicks the three bears out of the party. Today’s episode, addressing the second part of our outlook is entitled, Did You Say Goldilocks, or Was It GoGo-dilocks? As we have repeatedly said throughout the second half of last year and the first half of this year, we see in an almost perfect analogy in the economy, in both the bond and stock markets to 2015 through 2016 for the period 2018 through 2019.

Our first-half outlook for this year can still be found on our website at oakharvestfg.com/2019-first-half-outlook/. This week’s stock market rebound was based on a more dovish Federal Reserve, driving the S&P 500 right back to new all-time highs. Pessimistic hedge funds were forced to cover shorts, and investors who sold calls against their long positions were forced to buy back those positions in front of today’s option expiration. For the third time in six months, the Federal Reserve said they would act to stimulate the economy if the data continued to slow.

We said it last week, and we will say it again, the number one most sacred rule for macro investing is, do not fight the Federal Reserve. Repeat after us, don’t fight the Fed, or DFF for short. There is a reason why the stock market went nowhere for 18 months from January 2018 through June of this year. The Federal Reserve was tightening monetary conditions. It is now said they will provide liquidity to the markets if needed. This same type of move happened in mid to late June of 2016.

Beyond the potential for a quarter-end, three to four-day panic sell-off to start of July caused, once again, by hedge fund miscalculations, we see the following trends emerging in the second half. In early July, we expect two major trends to surface. First, companies will exit the dead zone and blackout window and re-enter the stock buyback period. This brings back a big buyer of stocks into the market.

Perhaps even more importantly, we see a second behind-the-scenes dynamic beginning. With a sharp sustained bond market rally and stocks going nowhere since January of 2018, large pension funds find their portfolios dramatically overweight fixed income exposure. The team at Oak Harvest believes that come the third quarter of this year, those pension funds will start reallocating money away from bonds and into stocks just as they did in late December of last year and early January of this year. They were the first buyers of stocks in the 2018 downturn, and they will be the first buyer of stocks this summer.

Finally, as we look out to the second half of 2019, we see inflation expectations up ticking from currently depressed levels. Why do we see that? We see that because the Federal Reserve wants higher trending inflation, and two, tariffs lead to price increases, which ultimately become inflationary. Moreover, the Fed easing playbook cycle says that inflation first ticks up for one or two quarters after the Fed first signals easing. This is good for stocks and bad for bonds. A little farther down the road, say, two to three-quarters out, growth then picks up due to looser monetary policy.

Moreover, we expect President Trump to pivot back to focusing on domestic growth as he refocuses on getting reelected in November of 2020. This duality of rising inflation and rising growth causing long bonds to sell-off is that dynamic necessary for Goldilocks to return to the stock markets. As we said we would do all year, we were buyers of stocks during the recent May pullback. We bought more growth and cyclically tilted stocks for the second half of 2019 and 2020.

For now, our initial outlook for the second half of 2019, as well as 2020 is Goldilocks returns. An economy that has, one, the Federal Reserve accommodative, two, both higher training inflation, and growth in the second half of 2019, and three, accelerating economic growth in the second half of 2020 is Goldilocks. Under the stable than accelerating economic scenario, the following assets outperform.

Small-capitalization stocks do, value in cyclical stocks do, and stable growth stocks do. Under this stable than accelerating economic scenario with the following sectors outperform. Technology stocks, industrial stocks, financial stocks, and consumer discretionary stocks. What doesn’t outperform under this scenario? Utility stocks, staple stocks, healthcare, and safety investments like US Treasury bonds. What do those assets all have in common? They are the low volatility safety sectors that investors have flocked to and have outperformed since the economy peak in January of 2018.

Given that the broad stock market has gone nowhere for 18 months, we wanted to give our readers a glimpse into our outlook beyond 2019, or early first look upside gaze into our 2020 Crystal Ball follows. I have to remind you, listeners, this is subject to change. The dynamic of both higher trending inflation combined with higher growth is something I want to call GoGo-dilocks. The combination of these elements in an easier Federal Reserve, which lowers market volatility, would lead to significant positive earnings revision, combined with PE evaluation expansion upwards throughout 2020.

This dynamic could generate an S&P 500 of around 3,550 to 3,600 into a business-friendly Trump re-election in late November 2020. That would be GoGo-dilocks. Should he win convincingly, Oak Harvest would expect a true melt-up move from there in late November 2020 through January 2021 inaugural ball. It would be similar inside to the Trump tax plan melt-up move that was experienced in December of 2017 through late January 2018.

A similar blow-off move in the fourth quarter of 2020 would project an S&P 500 of close to 4,000 in late January 2021. That would be Goldilocks, followed by GoGo-dilocks, punctuated with a melt-up exclamation point. This optimistic upside outcome is by no means guaranteed, nor is it conventional wisdom. However, we wanted to present it as a potential optimistic outcome wholly opposite the guess, the next recession, the sky is falling, that we’re going to crash 50% crowd that has been helpless and futile in preaching and selling a fear-based investing the past 10 years.

I do want to lay out the logic behind the ultra bear negative, the sky is falling scenario. I’m going to call that one the no Goldilocks, and this is how it could, and I emphasize, could play out in 2020. Its logic is as follows. The global economy is already in recession due to a combination of Federal Reserve interest rate increases in 2018 and Trump tariffs, which are tax hikes. The world has too much debt, and the global easing policy of central banks, while they just have begun, will have little to no effect on stimulating the global economy for the second half of 2019 and 2020. In other words, the four most dangerous words in investing will finally ring true. Those are, this time it’s different.

After that, in the 2020 presidential election period, we would see the far-left side of the Democratic Party, the progressive arm, which somehow has become today’s politically correct term for a liberal, or worse yet, the socialist wing gaining ground in the upcoming election. At that point, capital investment and consumer spending would grind to a halt in 2020 in front of the election. If President Trump were woefully behind in the polls in the first half of 2020, and he got really desperate, maybe throws he in the towel, and maybe relaunches tariffs against China, or an attack on the Middle East.

If these extreme outcomes become more likely, the economy would sniff out a recession coming in 2021, the stock market could fall 30% from this summer’s high over the next 18 months. This negative 30% is the normal recession peak to trough stock market return. Ironically, that would put the markets back to a level almost exactly at the levels that President Trump was elected in 2016. Those levels being between 2,100, 2,200 on the S&P 500. I want to note that this is about 10% below the market lows in December Christmas Eve of 2018. That’s the negative case for the stock market the next 18 months.

At this time, the team at Oak Harvest believes that this ultra bear case has a very remote and barely slight chance of happening. I want to remind our readers, the investment team at Oak Harvest is constantly evaluating our economic outlook and adjusting your portfolios as we see opportunity and valuation anomalies. Regardless of what we might feel or what we might think should happen, we manage your money for your financial goals and needs, and we adjust the portfolio by what is actually happening in the economy and the markets. We look for value when others are fearful, and we accelerate investments when other investor’s emotions and panic causes short-term volatility.

This concludes the second part of our two-part series on our second-half outlook of 2019. If you find this content helpful, please forward it to friends, or have them give us a call at 281-822-1350. Go browse our website at oakharvestfg.com. You’ll be able to find this podcast on our website for the next week. After that, we will be publishing and distributing a hard copy version no later than July 1st. You shared your vision for your money with us during our meetings, and we are here for you. Our main job at Oak Harvest is to have you retire only once in your life with a customized retirement planning. Many blessings. This is Chris Paris, chief investment officer at Oak Harvest Financial Group.

Operator: The preceding content expresses the views of the speaker and is for informational purposes only. It is based on information believed to be reliable when created, but any cited data, statistics, and sources are not guaranteed. Content, ideas, and strategies discussed may not be right for your personal situation and should not be considered as personalized investment, tax, or legal advice, or an offer or solicitation to buy or sell securities. Investing involves the risk of loss, and past performance does not guarantee future results.