October Quarter cast
Economy – GDP
Last quarter we reduced our economic growth outlook for the US from 2.8% for the year to a range of 2.2 – 2.5%. We aren’t going to establish a new range of lower growth at this time; but we do anticipate that we will finish the year closer to the low point than even to the mid-point of our range.
World growth is slowing – primarily driven by trade wars or threats of trade wars. The slow down may just be a temporary phase; however, we are getting close to that point where the effort to create a positive change in momentum will take extra effort and more time than anticipated. We do not see a recession in the US happening at this time; yet our fears of very low growth are mounting. While our outlook can change in a hurry, we think the biggest factor in sustaining a positive economic outlook is a function of how soon tariff issues on a global basis are able to be resolved. For now, we are more cautious about the economic outlook than we have been in a few years.
During the third quarter we have made some adjustments to the allocation of our equity or stock portfolio positions. Our investment exposure to companies headquartered outside of the United States, the international sector, was 23%; consisting of 13% allocated to the more mature parts of the world, primarily Western Europe and Japan, with an additional 10% invested in the emerging markets: China, Brazil, India, Russia, etc. During the quarter we initially reduced our exposure to the international sector by 13%, leaving us evenly split between the mature and emerging markets. By the end of the quarter we sold our five percent position in the mature international sector, leaving us with a five percent holding in the emerging markets. While the emerging market sector is more volatile, it also represents a higher upside to any positive developments in the US – China trade war; for that reason, we have kept our exposure to this international group. We have moved the money raised by selling the international investments to a money market position for the time being.
As you read this update, we hope you are asking yourselves “Why did we make the change to our international investment posture?”. Let us share with you our line of reasoning that led us to make the change. The crux of our move has been driven by a high degree of uncertainty that we see in both the global political and economic outlook. Uncertainty is one of the biggest causes for markets unraveling and we find our biggest level of angst regarding uncertainty in the international area.
For example, Europe is facing several issues that have uncertain outcomes. The one most often talked about is the move out of the European Union (EU) by the British government, commonly referred to as Brexit. The British are now on their third governmental leadership change since the vote to leave the EU occurred on June 23, 2016. In addition to the Brexit issue, we anticipate a change in not only leadership in Germany; but, also potentially a different coalition for the ruling party. Two of the largest economies and influential political forces in Europe have been and look to continue to be in a state of change with uncertain time frames and direction.
Turning our attention to the Middle East, it is not difficult to see that tensions continue to rachet higher. The latest turnabout with respect to our Kurdish allies located in between Turkey and Syria complicates an uneasy environment. Relations between Iran and the US seem to have hardened with each side pointing more than a handful of fingers at each other. Israel has its own political leadership vacuum and the Saudis are working through a power transition of their own.
China and the US have both brandished and on occasion fired off their heavy artillery in their trade war. While the tariffs are now beginning to cause initial economic pain on both sides of this trade war, at this point the best we seem to be able to hope for is a partial truce while we settle in for a prolonged dug in siege.
The result is that we see enough uncertainty in our view of the current state of affairs to reduce our investment exposure where we have the greatest amount of discomfort and uncertainty. We have chosen to keep our investment positions in our US based companies in their current invested positions. We will let some of the proverbial dust settle and determine when and where we will reinvest the money that was in the international sector.
Interest rates have fallen considerably over the past few months. The Federal Reserve has reluctantly been cutting interest rates in hopes of softening the uncertainty surrounding tariff wars while at the same time trying to allow the economy to stand on its own two wobbly feet.
We believe the direction of interest rates will mirror any progress on the trade front – rates moving higher with encouraging signs from trade talks with China and other countries and moving lower with hints of prolonged or even higher tariffs.
We are maintaining a very short maturity structure to our fixed income investments. We believe we will see lower prices and higher yields over the next 12months and are willing to wait for a better opportunity to stretch out our fixed income maturities.
We hope you enjoy the autumn season and cooler weather. We are extremely grateful for the opportunity to work with you.