Analysts are focused on earning prospects and generally earning prospects appear favorable.
Stock prices however do not look favorable. We believe the power of the up trending market has ended. American stock market indices have produced a double top and recently have broken their 200 day moving averages. 60% of the stocks in the NASDAQ composite are in downtrends. A narrow group of stocks made new highs when the indexes hit their highs. History shows that stocks peak a year to a year and a half before earnings peak when a major top occurs.
To confuse matters identifying the trend only does not lead to effective results for a money manager.
We have been in pop and drop market environment for some time now. Even the great stocks have a powerful rise and then drop. The reverse is true also, a fast decline has led to a fast up move.
Leadership of the most powerful stocks will likely continue to make new highs as laggard stocks make new lows. Managing risk will become more difficult. Perhaps active managers will have their day in the sun. Just like in the 1970’s the nifty fifty stocks will out perform until most of the rest of the stock market has found its value.
Governments have been more active in attempting to stabilize markets and over the past ten or more years have been relatively successful. This type of activity aids in creating higher than normal and eventually unsustainable values. When the rate of change of a stock or index reaches extremely high values the asset price cannot be sustained. Just like an airplane stalls at a high angle of attack, only a foolish pilot would expect to continue to climb at the same angle.
Inflation, although not a major issue today, will in fact be one of the major issues of our future. In the past when this occurs stock valuations have become restrained. Certainly stock valuations would be much lower than today. This issue will lead to a strain on our consumers and on Government. Socialism may be an emerging force today, but in an inflationary environment it might be unstoppable.
What tact should we take? One example for us all has been Bridgewater Associates, LLC long known as an asset allocator. They managed the top performing hedge fund in 2018. Guess what? This manager is much more sophisticated than one would consider an asset allocator to be. Artificial Intelligence (AI) is a core contributor to Bridgewater’s success.
Risk management has always been a necessary part of money management, but a bull market hides a great many sins.
Advisor’s without a clear plan for risk control will not be successful in the years ahead. When the stock market has risen consistently it is difficult for a money manager to differentiate the firm’s track record from other large diversified portfolios and indexes. Thus the constant pressure to reduce fees.
In a declining market a manager with excellent risk management techniques and a focused portfolio stands out. The reverse of this is that a manager without risk management in place may expect a great deal of litigation costs in the years ahead as well as an intense migration of funds out of the firm. c