Thinking About 2020
Published On: November 21, 2019
Written by: Ben Atwater and Matt Malick
Nobel Laureate Economist and Yale University Professor Robert Shiller published a book this year about economics and narratives (Narrative Economics, How Stories Go Viral & Drive Major Events). A narrative can be a story or stories that people superimpose during various market stages and cycles. For investors, it’s important to step back and think about narratives and how they apply to the broader markets and to individual stocks.
In our view, the 2019 narrative surrounding markets went like this: A business-friendly administration whose policies support entrepreneurs and the wealthy drive confidence among consumers and businesses. Permanently low interest rates justify high valuations for stocks, private equity, real estate and any other imagined asset class. The inevitability of at least a cease fire in the China trade war will further smooth business sentiment. Continued U.S. economic growth and plentiful employment with no recession imminent will drive an increase in company earnings.
We are grateful for the 2019 narrative and, overall, we don’t take exception to it. But we are ever cautious amid what we believe is an increasing tendency to ignore some obvious risks, such as an increasing probability of a recession.
Our vigilance is part of our duty to be responsible stewards of your money. We can’t emphasize enough our overwhelming belief that long-term financial and investment success is about steadiness, consistency and not making big mistakes.
The market losses in 2018 seemed to temper investor enthusiasm and although we are back to all-time highs on U.S. large-cap stocks, it doesn’t feel to us that investors are filled with a sense of widespread euphoria. Using fund flows as a measure, investors are quite bearish on stocks, which is a positive contrarian indicator. Investors have pulled over $130 billion from stock funds and ETFs in 2019. It does feel, however, that investors don’t appreciate that markets are volatile, and another down year could occur in 2020.
Nobody can time the market or make predictions with any degree of proven and consistent accuracy. It is prudent to always be invested in the market because a positive narrative can send stocks and bonds higher and higher. That said, it’s vital to remain mentally prepared for what can happen to stocks (they can go down, by a lot, at any time).
Although we offer it only as a possibility with a new year, not to mention a new decade, a new narrative could emerge in 2020 particularly given what promises to be a brutal and divisive election year. For example, constant political attacks and fearmongering could dent consumer and business confidence.
A stage one China trade deal, if it happens, could ultimately prove anticlimactic and thereby drain confidence.
Markets could begin to price-in some probability of recession. After all, Vanguard economists are predicting a greater than 50% chance of a 2020 recession, which is an outlier compared to the rest of Wall Street which sees very little chance of recession. Amid lower economic growth, companies’ attempts to drive productivity gains could fail and companies may look to reduce headcount to maintain margins, thereby leading to a less robust labor market.
A litany of exogenous factors, which are even more unpredictable, could also change the market narrative quickly. Our point is that sentiment (via narrative) can change at any time and can change drastically. All we know for sure is that it will change, but we have no idea when.
We will maintain our investment discipline in 2020 by continuing to evaluate each client’s goals and matching them with the appropriate risk profile. We will have some percentage of money set aside in a safe place (shorter-term bonds) to put to work if the market were to substantially correct. We will miss some upside, but we will have dry powder for a rainy day. We will continue to own companies that have an intrinsic value (that pay a dividend and have positive free cash flow) which should provide a cushion if the market falters.