Elevated. But perhaps not overvalued.
We thought we’d provide our answer right away to the question on most everyone’s minds: Is the US market overvalued?
Looking out at 2018, we see continued growth in US equities but greater risk of drawdown. The market is always prone to a 5-10% correction, in any cycle, but after last year’s extended valuations we see greater risk this year. We appear to be late in the business cycle and so this is a difficult period to be a value investor. It favours the momentum or growth investor until the bulls stop running.
Here are some things to watch for this year, which could prevent the markets from advancing:
The Federal Reserve has started to unwind its balance sheet. The Fed will start to stop buying treasury and mortgage-backed securities and begin to gradually reduce its debt holdings. This reduction in liquidity may serve to have interest rates edge up and may depress stock and bond prices. This may then also serve to slow consumer and construction spending which could lead to a recession. Hopefully the Fed will engineer a slower rise providing bedrock for the economy. But anything is possible in the current US political environment.
On the positive side, several US economic indicators have strengthened over the recent months. Personal consumption has increased for 30 consecutive months and employment has increased for 83 consecutive months. 2nd quarter GDP was a robust 3% annualized growth.
Oil rebounded well the past month, moving up to touch $60 a barrel which should be a positive development for the economy and very positive for our own oil companies.
The rebuild efforts after the hurricanes in Puerto Rico, Texas and Florida could spur a slight bump in the economy driving up wages, particularly in those areas.
The housing and construction market has been solid this year, while the building supplies sector has been among the strongest segments of the retail sales market.
Globally, we expect European growth to continue its improvement – it’s been a long road. China should have solid growth, but with some fundamental risks due to past credit growth, and emerging market economies will continue to improve, we believe.
Although we are aware of some impediments to continued economic growth, we believe the risk of recession is diminished.