Market Insight - January 2013

Global markets were captive in 2012 to the US political landscape, beginning with hotly contested primaries, two emotional conventions, three cliffhanger debates, the aftermath of the election and a last minute temporary fix to the “fiscal cliff.” Stocks rallied strongly from January until May, suffered through a summer slump set off by a flare up of the European debt crisis, saw gains return through the end of October, only to retreat in November, and then recover in December. Finally, the residential real estate market has begun to show slow but steady signs of recovery, especially in the hardest hit areas.  The unemployment rate has dropped to 7.7%, in part, though, as the result of a shrinking labor force.  For investors, 2012 has been in turns scary, frustrating and exhilarating; but ultimately, a good year for Bedminster clients.

The numbers

The Dow ended at 13,104, up 7.3% for the year, while the S&P 500, a broader market measure, gained 13.4%. Smaller stocks, measure by the S&P Small Cap 600, added 14.8%, while the Nasdaq composite gained 15.9%.  Global stock markets posted a strong recovery as fears of a European collapse were dialed down; both the MSCI Emerging Market index fund, EEM, and the Developed Market index fund, EFA, were up more than 17% for the year. The Cohen & Steers Realty Majors fund, ICF, added 15.26%.

Fixed income investments also contributed to this year’s gains. Municipal markets, represented by the Ishares S&P National AMT free bond fund, MUB, gained 6.14%, while US Government bonds, represented by the  Ishares 7-10 year US Treasury fund, IEF, added 4.06%. PFF, the IShares S&P US preferred stock index fund, gained 18.24%, while HYG, the IShares iBoxx High yield corporate bond fund, added 13.8%. Yields on the ten year benchmark US treasury fell to a low of 1.4% in the summer, and ended the year at 1.759%, fractionally lower than at the end of 2011.

And the Congress…

The revenue changes in the “fiscal cliff” compromise bill maintained tax rates on income, dividend income and capital gains for most investors earning under $400,000, although payroll taxes will go up. Unfortunately, the fight over entitlements, sequestration, and the debt ceiling has only been put off for a few months. We don’t need another cliffhanger, but odds are that we can’t avoid it, and markets will be roiled in 2013 as in 2012 by political maneuvering. Incredibly, some members of Congress have already stated that that defaulting on our Government obligations may not be such a bad idea. For most Americans 2014 elections can’t come a moment too soon.

The year ahead

Notes from the December meeting of the Federal Reserve opened up the window for an eventual winding down of the Fed’s bond buying program. The Fed has set targets of 6.5% for unemployment and 2-2 ½% inflation as a range in which they are comfortable continuing this stimulus.  If the economy continues to improve, bond markets may begin to react on the long end. The flow of funds into bonds from stocks, which has lasted more than 4 years, has begun to reverse itself; while this provides some support for equity markets, rising interest rates and inflation have become slightly more worrisome, and the fixed income market may have more risk as we move into 2014

Since we view the stock market as fairly valued based upon earnings expectations, we think corporate earnings will have very significant effect on stock markets in the coming months, more so than in 2012. Companies still have a great deal of cash on their balance sheets, higher than at any time since 2008. As uncertainty dials down and demand grows, this money will goes into plant and payroll, and should ignite GDP growth to a much more robust level than what we have been used to. The question is, how much of this has already been anticipated by financial markets?

Other items

We will be presenting an updated “Income Challenge” workshop on Thursday February 28th, at Hidden Cypress Club in Sun City from 9:00am-11:00am, with breakfast from 9:00-9:30. We plan to review various income strategies that work well in a low interest rate environment, but retain flexibility as well. If you haven’t been to this workshop (or even if you have) we would be happy to see you.


Steve Weber
The Bedminster Group

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