As 2017 began, I published My Gut Feeling For 2017. Now that 2017 is in the books, I wanted to look back at how my expectations and predictions fared in 2017. Recall these predictions were made in the spirit of the old Wall Street Week with Louis Rukeyser show in that they were fixed a year ago and could not change. The original commentary is in lighter print and in bold italics are the comparison to actual results and explanation, as warranted. In the next few days I will be issuing My Gut Feeling For 2018.
- The SPX ended 2016 at 2,238.83, which using Bloomberg’s Standard & Poor’s 500 (SPX) earnings estimates of about 112, implies an index price/earnings multiple (PE) of 20.00. Standard & Poor’s own analysts estimate that SPX earnings for last year should come in at 108.95 implying a year-end index PE of 20.55. Bottoms up estimates for 2017 earnings as complied by Standard & Poor’s, for its SPX index, are expected to increase by about 16.37% to 126.79. Bloomberg’s estimates call for SPX EPS of 129.96. Both of those estimates seem within the realm of reasonable expectations. My confidence for that number is high given that energy and financial earnings will no longer be a drag on the market, but will in fact help to generate earnings growth. I am going to use a round number and say that the SPX will earn 130 in 2017. Applying an earnings multiple of 20, I am setting a year-end target for the S&P 500 at 2,600, about a 16.2% year-over-year increase. Preliminarily, I foresee the SPX eclipsing 3,000 by the end of 2018. – The SPX ended 2017 at 2,673.71, overshooting my original target of 2,600. On the back of an envelope, as we entered the 4th quarter, I nudged my expectations up unofficially to 2,650. Either way, you can check off this prediction as being correct. Unfortunately, many people – professionals and individuals – did not agree with or believe me and got defensive or held onto cash, creating the dreaded negative alpha.
- The Federal Reserve Open Market Committee (FOMC) raised short term rates for the second time in two years, both occurring in the monetary authority’s December meeting. The FOMC will raise rates twice by 25 basis points in 2017, to keep inflation in check on a controlled basis. The real mystery will surround Janet Yellen. Her current term is set to expire in early 2018. President-elect Donald Trump is not a big Yellen fan. The now seventy-year-old Yellen will likely decide to retire than face a public battle over her tenure. – The FOMC nudged rates higher by 25 basis points on three occasions in 2017. So, I was a little too dovish in my expectations. FOMC Chair, Janet Yellen, was not re-nominated by President Trump for a second term. Whether Yellen sent a message to the President that she decided to step aside or that he wanted a change is really a matter of speculation.
- As I mentioned this time last year, the thirty-five-year-old bull market in bonds appears to have begun its demise. Indeed, that is what occurred. What is interesting is that pension fund appetite for bonds remains insatiable. So, despite interest rates rising on the short end, there will be strong demand on the long end. While I expect the entire yield curve to shift up, the curve will also flatten slightly over the course of the year. By the end of 2017, I expect the US Treasury market will yield as follows: 5-year 2.5%; 10-year 2.9%; and, 30-year 3.55%. – At the end of the year, US Treasuries yielded as follows: 5-year 2.21%; 10-year 2.41%; and, 30-year 2.74%. The bond market refused to die as appetite for US Treasuries was insatiable, especially on the longer end of the curve. Despite the FOMC raising rates on the short end by 75 basis points, we experienced an unexpected flattening of the yield curve. I do not think that the flattening is a concern as economic growth is expanding while inflation remains under control.
- Trader attention will move from small and mid-caps to large cap growth. That means that you want to lighten up on the Russell 2000 (RUT) and increase exposure to the SPX, Dow Jones Industrials (DJIA), and NASDAQ 100 (NDX). Also, don’t get fooled by rising interest rates, stocks with above market average dividends will continue to power along. Also, focus on large multinationals with the capacity to repatriate foreign capital, should Congress pass tax reform. A few possibilities are Apple (AAPL), International Business Machines (IBM), Microsoft (MSFT) and Coca-Cola (KO). – I was spot on with this expectation. If you followed my lead, you would have outperformed the market by several percent in 2017. The tax bill was signed at the end of 2017 and capital repatriation will begin in 2018.
- The economic theme in the US will shift from monetary to fiscal. Simply put, the FOMC is in a tightening regimen and frankly has done all that it could to extricate the economy from the Great Recession and try to stimulate economic growth. However, we got to a point where monetary policy was just pushing on a string. It will now be up to Congress and fiscal policy to get the economy moving off its historically low rates of GDP growth. That will occur with tax reform and targeted government spending, i.e. put money to good use rebuilding our infrastructure and stop wasting it on unnecessary programs. The US Dollar will remain strong, especially if the tax reform becomes a reality, which I expect to happen with bipartisan support. The result will be that the US economy will finally be on a trajectory to reach escape velocity. I expect GDP in the US to grow by: 2.5% in 1q; 3.4% in 2q; 3.7% in 3q; and 4.0% in 4q. – GDP growth was still a paltry 1.2% in 1q but rose after the new administration took office to 3.1% in 2q and 3.2% in 3q. While the 4q results will not be reported for several weeks, I am expecting GDP growth over 3.0% in 4q. Hampering growth in 3q and 4q was the devastating hurricane season. Consumer confidence is on the rise, at multi-year highs and the tax bill was passed, likely adding to growth rates in 2018. The US Dollar weakened in 2017 as tax reform was deferred till the end of the year. Infrastructure legislation is on the 2018 agenda.
- Energy prices will continue to remain at historically low levels, yet at higher average levels than in 2016. Crude oil prices will trade between $50 and $60 for most of the year. Earnings for energy prices, as I mentioned above, will begin to grow at rates that will outpace the rest of the market’s sectors, with perhaps the exception of financial services. Oil services companies will begin to put capital back to work as rising energy prices will once again make it cost efficient to explore and drill for new energy sources. – West Texas Intermediate crude oil futures declined midyear to the mid-40s only to rebound thereafter to just over $60/bbl. Earnings for integrated oil and gas companies such as Exxon Mobil (XOM) and Chevron (CVX) rose dramatically, outpacing growth rates for other industries, while their stock prices languished and/or underperformed market benchmarks.
- In politics, the scene will shift from the US to Europe. Populism will continue to take hold around the world. We will likely see other EU-exit movements gain traction throughout Europe. German Chancellor Angela Merkel will lose her reelection bid. In France, Francoise Hollande, the nation’s Socialist President will not run for reelection. I expect the center-right Les Republicains party’s Francoise Fillon to be elected as France’s next President, bettering far right nationalist candidate Marine Le Pen – In France, Marine Le Pen lost the election to Emmanuel Macron. German Chancellor Angela Merkel won the national election but is failing in her effort to build a coalition government. As a result, a new election may be called in 2018.
- Media companies will experience turmoil. Fault lines between the faster growing filmed entertainment and the slow growing cable and broadcast segments will begin to fracture. Disney (DIS) will put in place a major restructuring plan whereby its studio, theme park and resorts business will be kept (in the Disney company) and the rest of its units, such as ESPN, ABC and other broadcast / cable ventures will spin off in a to-be-named company, probably ABC. Bob Iger will remain with the namesake Disney businesses. Sumner Redstone will pass away, further adding to uncertainty as to the future of CBS (CBS) and Viacom (VIA). Federal government will agencies nix the Time Warner (TWX) – AT&T (T) merger. – Time Warner’s (TWX) deal with AT&T (T) is on life support as federal regulators are pushing back on the deal. Disney (DIS) agreed to purchase Twenty-First Century Fox (FOXA). FOXA will spin off its broadcast networks prior to the deal into a new Fox branded company. The deal will close after FOXA closes its purchase of Sky PLC, a UK / Ireland based broadcast network. I still believe DIS should cast off ABC, ESPN, and other broadcast assets. Perhaps the deal with FOXA will be the necessary catalyst to do so.
- Mergers and acquisitions activity will continue to be strong as new announced deals top that of 2016. Some of the deals I would like to see (but can’t say they will come to fruition) are : 1) Pepsi (PEP), using some repatriated cash, acquiring Mondelez (MDLZ) to move further away from beverages and more into snacks; 2) As Amazon (AMZN) begins to dip its toes into bricks and mortar, the company buys Macy’s (M) and embarks on a complete transformation of that company; 3) McDonald’s (MCD), buys smaller up and coming, non-burger concepts such as El Pollo Loco (LOCO), Wingstop (WING), Chuy’s (CHUY), etc.; 4) Microsoft (MSFT) which cannot seem to turn down a big deal, now that the LinkedIn acquisition is complete, will start to go after cyber security firms. My best guess is that MSFT can easily swallow Palo Alto Networks (PANW), and finally; 5) Two large regional banks will merge; you pick ‘em. – It was a busy year for mergers and acquisitions with some very large deals being announced. However, none of my dream deals managed to materialize.
- After spending 2016 in financial Hades, the biotech sector will spring alive and breaks out of its trading range to the upside. Helping the index will be the introduction into the US of some new foreign disease. Markets will get rattled when the next Ebola comes ashore, but as we have experienced in the past, will fall in fear only to give you a nice buying opportunity. – The biotech sector did rebound and break out in 2017 but remains a tough sector to navigate.
Disclosure: At the time of this commentary Scott Rothbort, his family and/or clients of LakeView AssetManagement, LLC was long AAPL, IBM, LOCO, MCD, WING, DIA, DDM, SPY, SSO, SPXL, UDOW, IWM, UWM, QQQ, QLD & TQQQ — although positions can change at any time.
Scott Rothbort is the President & Founder of LakeView Asset Management, LLC, a registered investment advisor specializing in high net worth private wealth management. For more information on investing with LakeView Asset Management, LLC call us at 888-9LAKEVIEW or request more information by clicking on the contact button on the top right hand corner of the website. LakeView Management, LLC is a Nevada LLC, with its principal office located in Henderson, NV and branch office located in Millburn, NJ
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