The stock market rebounded in the 4th quarter to finish up 1.4% for the year.
4th quarter results:
After falling in the third quarter, stocks rebounded at the end of the year. For the last thirteen weeks of the year, the market rose about 6%. However, this was not enough for the majority of mutual funds. All asset classes were negative for 2015 except the large growth sector. Companies such as Facebook, Amazon, Netflix, and Alphabet (Google) pushed the growth area higher. For the year, large-cap did better than mid-cap which did better than small-cap funds. In addition, growth funds did better than blend funds which did better than value funds.
There were large differentials in stock sector performance. The healthcare sector performed the best for the year, while energy and basic materials were terrible. The energy fall was obviously connected to the continued decline in oil and other commodity prices. Oil has fallen from over $100bbl. in 2014 to the low $30bbl. range at the end of the year. The market is still worried that rising supply from U.S. fracking and signs that OPEC won’t cut production are swamping demand in a slowing global economy.
The big story in the fixed income area was in junk bonds. They are called junk for a reason and this past quarter showed why. The high yield bond category was down 2% in the quarter and more than 4% for the year. Concerns about the energy sector put pressure on this category as oil prices plunged.
Outlook for 1st quarter 2016:
Tumult in China triggered the worst opening week for U.S. stocks in history. The second week was not much better as profits are expected to drop at U.S. companies. Again. earnings for companies in the Standard and Poor’s 500 index are forecast to drop for the second straight quarter, a rare occurrence outside a recession. Despite a rebounding jobs market, the U.S. did grow fast enough to boost profits, and once surging developing economies that helped lift foreign sales slowed dramatically. However, excluding energy, earnings were up about 7% for 2015.
The Chinese stock market soared 120% in eight months from November 2014 through mid-June 2015. It has fallen about 50% since then. It was up 9% in 2015, but it is down 18% so far in 2016. The big worry is that a contagion from stock market losses could further trammel the country’s slowing economy. Chinese officials have stepped in almost every day to support the falling market. These moves have included lowering interest rates, change margin requirements for investors, and even providing liquidity for certain companies to buy stocks. None of these measures have stemmed the selling.
The main concern is that it could hinder long-term growth prospects for China. Large stock market losses could force millions of Chinese investors to rein in personal consumption. China represents 15% of world GDP. Reduction in Chinese growth and consumption could impact companies that sell their products to China and cause declines in production in other countries around the globe. China sells the most of its production to Japan. The E.U. is second and the U.S. is third. The U.S., however, exports only 1% of GDP to China.
Nevertheless, worldwide markets are being affected by the Chinese decline. The U.S market is down about 8% so far this year. China is a wild card. It borrowed huge amounts to stimulate its economy, leading to serious overcapacity in everything from factories to luxury apartments. The unwinding of this binge is one of the causes of the current market turmoil. The more serious problem for the U.S. economy is probably how stress-induced weakness in overseas economies might ripple. With a strong U.S. dollar, declines in import prices will further cool inflation the Fed already deems too low.
Interest rate increases have been a financial concern for several years now. Near zero interest rates have been in existence since 2009. Easy money has spurred the stock market to make its extraordinary recovery from the sharp fall in 2008. The Federal Reserve raised rates in December as a way to slow anticipated inflation. As of yet there is no inflation, however, and the Fed has indicated that it will raise rates slowly and cautiously through 2016.
When rates move up, bond prices fall, and bond yields will move up from their historically low levels. In return, bonds were mostly negative for the fourth quarter. Bond prices have risen so far in 2016 as a result of the Chinese situation and investors desire to move into the safety of fixed income. Either way bonds go we are not overly concerned with your bond position. You have limited bonds with short durations (maturity) and rises in interest rates should be pretty much offset by higher returns from the bond yields.
So what will really happen in 2016? Since 1921, the average return for the S&P 500 has been 10.4% per year. Many feel that “Main Street” is doing better than “Wall Street”. The broadest gauges of the economy look fundamentally sound. GDP likely expanded 2.4% in 2015. It is expected to rise 2.8% in 2016. This is not spectacular but decent, especially when many industrialized economies are struggling to grow at all.
The job market appears to be doing well. Employers added an average of 221,000 jobs a month during 2015 and 284,000 a month from October through December. The unemployment rate has shrunk to 5% from 10% in 2009, a level associated with an healthy economy. Lower energy prices hurt oil companies but help the consumer. Lower gas prices mean more dollars to spend. Consumer spending represents 70% of the economy so this continues to bode well.
Since the March 2009 equity market low, the S&P has returned an incredible 250% on a total return basis. A combination of improving fundamentals, notably corporate profits up 120% since 2009, and central bank liquidity provided meaningful support to the strong rally in asset prices.
We believe we will have modest equity gains this coming year, fueled by positive earnings growth. 2016 could be an important inflection point as both the economy and the stock market begin to transition away from central bank stimulus (the Fed), and underlying fundamentals take on a larger role. The U.S. stock markets tend to trade in 13-15 year secular cycles which we believe still have years to play out. Nothing goes straight up but we believe we will have a more prosperous year in 2016 than 2015.
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