To begin with the obvious and certainly the undisputed part of our quarterly forecast: We have crossed the halfway point to the 2017 year. We want to share a few thoughts relative to our original forecast in January of this year and provide some additional comments regarding how we anticipate the balance of the year will unfold from here. As you know, we focus on just three out of nearly countless economic statistical possibilities to focus on what seems most relevant and helpful as well as to eliminate publishing a book on a quarterly basis that would most likely only serve to cure insomnia
Gross National Product (GNP) is an attempt to measure the growth rate of the U.S. economy. The single GNP number is a composite of all economic activity in the U.S. and can provide some insight to the health and strength of the economy. As we began the 2017 year, we forecast a GNP growth rate of 2.5% for the year. The GNP is released on a quarterly basis and comes with several revisions as more date is accumulated and processed. The final GNP number for the first quarter of the year is 1.4%, more than a full percentage point below our full year estimate.
We are going to stick with our estimate of 2.5% growth for the year. We believe the critical part of our estimate is the direction and acceleration of the GNP number, or lack thereof, and less the absolute number. We anticipate that with the unemployment at very low numbers and with interest rates still low that we will see a pickup in economic growth as the year progresses.
Interest Rate for the U.S. Treasury 10-year Note
The Federal Reserve (Fed) has surprised us with their willingness to raise rates thus far this year. While the Fed signaled that it anticipated raising rates at least three times this year, we felt like one rate rise was a certainty; and two would be possible, we felt like three rate increases would be more than they would dare or the economy could handle. Well, here we are at the halfway point of the year and there have been two rate increases and it feels to us that the Fed will get in at least one more rate increase this year.
We have included a chart, provided by the Federal Reserve Bank of St. Louis that illustrates the relationship between the Fed Funds rate and the U.S. Treasury 10-year yield. The period covered in this chart is from July of 2012 through June 29, 2017. The graph simply subtracts the Fed Funds rate from the current yield on the 10 year U.S. Treasury Note. We are simply anticipating that the 10 year U.S. Treasury Note will have at least a 1.5% spread above the Fed Funds rate. So, if the Fed raises the Fed Funds rate by.25% prior to year end from the current 1.25% rate to 1.5% rate, we believe the 10 year U.S. Treasury yield will elevate to the 3.0% area. Again, we are sticking with our forecast of a 3.0% yield on the 10-year U.S Treasury Note by year end. We continue to have about 5% of our money allocated to bonds in the money market anticipating higher yields and lower prices as we move through the year.
S&P 500 Valuation
We were not too bold in our forecast for the S&P 500 for this year – we gave our year-end target for the index as 2388. Currently, (7-3-2017) the S&P 500 index stands at 2429.01. The stock market has been on a pretty good climb, with a total return, including dividends, of 9.34% for the first six months of this year and 17.9% for the last 12 months. We have chosen to stay fully invested in our stock positions despite the S&P 500 having exceeded our forecast. We believe we will see increased economic activity accompanied by an increase in productivity as the year progresses.
However, given the strong move up by the stock market over the past 12 months, that we will enter a digestive period over the next few months – a time in which the stock market moves sideways as it assimilates what has happened over the past year. As the year closes out, we anticipate stronger growth, increased productivity and an increase in earnings for companies. All of those factors suggest to us that we will see the S&P 500 close the year another two – four percent higher than our current valuation.
Political events, weather, rumors of wars and actual wars will come in to play with our forecast and have the capability to disrupt in both positively and negatively our forecast. For the time being, we are comfortable with our outlook as we have written it and look forward to reviewing things with you in person or through our monthly updates as we march through time.
Thank you for allowing us to work with you, we are so appreciative of your trust and confidence in us and expect our actions to earn those continued feelings. Have a great summer!