Reasons For Optimism

By: Royce W. Medlin - Chief Investment Officer

Reasons For Optimism

Stocks have failed to surpass the highs set last year and have even broken down in some parts of the world.  So, where is the downward pressure coming from?

The most obvious recent pressure is political.  The surprise vote from the UK to leave the EU is a classic example.  Less obvious is the slowing of share buybacks.  Induced by artificially low interest rates, companies have borrowed heavily over the past few years to buy back their own shares, thus boosting earnings per share growth.  In other words, plain and simple financial engineering. However, there is a limit to how much debt companies are willing to assume and this trend appears to be subsiding.  In the context of elevated stock valuations, these pressures add to investor anxiety.

Conversely, there are factors that are supporting markets.  Economic growth has accelerated and tighter labor markets are supportive of wages, which should propel the economy and consumers.  Positive support is also coming from reduced pressure from the energy sector and the US Dollar.  Earnings in the energy industry are stabilizing, albeit at much lower levels.  And,  last year’s run in the US Dollar that hurt US exports is behind us.  Earnings growth for the second half of the year should be stronger and provide added support to stocks.

With global bond yields offering a paltry, if not negative return, the strongest argument for stocks is the lack of investment alternatives.  Dividend yields on stocks are higher than yields on investment grade bonds, especially in the UK and Europe where stocks are now yielding well over 4%.

At Clear Rock, we continue to manage portfolios consistent with our philosophy of generating the most attractive risk-adjusted rates of return for our client’s individual needs, after taxes, inflation and fees.