RGWM Market Thoughts - November 15, 2018

Now What?

The last few weeks have been tumultuous to say the least.  October closed one of the worst months in recent memory, followed by a strong rally following the elections, followed by renewed selling bringing the market averages to within shouting distance to recent lows.  Large swings in market sentiment tend to make nervous investors even more so, as every bit of new data is analyzed to see if it will portend future market trends.

Apple vs Market Perception

The recent price decline in Apple (AAPL) coincided with the slide in technology and the broader market as well, and many analysts point to the slowing iPhone sales as “proof” the best days are over for Apple, and by “logical” conclusion, the technology sector and the overall market.  While we can debate the merits of Apple going forward, it is interesting to note that these same concerns were voiced in 2015-16 when iPhone sales slipped for three quarters in a row as phone companies stopped subsidizing purchases.  The stock dropped 30% during that nine-month period, as traders doubted the management strategy.  Since then iPhone sales have declined as a percentage of total revenue, but service revenues have doubled, and interestingly, so has the share price – even factoring in the recent 17% decline.  Good management is able to adjust to changes in markets and cycles, and over the long-term, have a greater impact on performance than any other factor.

We see the overall market environment as somewhat similar in nature.  Much has been made recently of peak earnings, trade war, market valuation and rising interest rates.  All are valid concerns, and all have been present for much of the past year.  In fact, there is more clarity now on some of these issues than at the beginning of the year, but it has been only recently that the market dynamic has changed to a “shoot first – ask questions later” risk behavior.  At the end of the day, we still believe that the economic backdrop is conducive for positive market performance, but it will definitely be a bumpier ride going forward.

Election Implications

Even though results are still being contested via recount in certain races, the political landscape going forward is relatively clear.  With a divided Congress, changes will be slower to be implemented, but these are the areas that we believe may have specific investment implications:

Taxes: It is very likely that no additional tax relief will be forthcoming.  The Democratic controlled House will likely have little support for any type of stimulus plans, especially a populist one that the President would take credit for during election campaigning.

Infrastructure: Democrats might be willing to support more money for infrastructure spending, especially if it included improvements to the electrical grids.  However, there is the small question of how to pay for these improvements, and so it is more likely that any plans would be more moderate than previously expected.

Health Care:  The individual insurance mandate will disappear in 2019 and the dynamic changes in coverage options under the state sponsored insurance plans have made the Affordable Health Care Act less likely to be as important going forward.  Republicans may be willing to provide extra funding to support the exchanges, as exit polls suggest that health care is the most important issue for voters going into 2020.  However, a comprehensive solution to the health care issue is remote because it is unlikely that House Democrats would agree to any bill that would be supported by a Republican Senate.  There may be support across party lines to sponsor legislation that could limit prescription drugs pricing.

Trade Issues

The trade issue is clearly the wild card for both the global economy and investment markets.  Clearly, if we do not see a resolution in the trade conflict with China, and tensions escalate, it would be a significant negative for equities, both globally and in the US.  That being said, we believe that the market is currently pricing in more of a negative scenario already, so the actual effect on prices may not be as bad as some estimates.

If, however, the President cuts a deal with China, then the investment environment should be significantly better, along with the investment sentiment.  We would see a benefit to US markets but a bigger benefit to international markets in terms of growth.  We see this as the more likely scenario for a number of reasons.  The primary reason is that the trade issue is controlled by the President and not by a divided Congress.  There is a strong impetus for President Trump to change the narrative on a somewhat disappointing election result by taking charge of the process and putting together what would be considered the biggest trade agreement ever.  In truth, there has been progress behind the headlines and China needs the agreement more than the U.S.   A bold prediction would be to look for this Presidential “Christmas present” to be delivered before the end of the 2018.

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