Happy Holidays from The Ignorant Investor

Holiday cheer indeed! The S&P 500 continues to press on to historic levels

While the fundamentals driving the market appear solid, the rally is largely driven by optimism for US-China trade negotiations

Well, that was quick! November arrived and then disappeared, leaving many American investors with leftover roast turkey, cornbread dressing, and a few small pieces of pumpkin pie. And why shouldn’t American investors celebrate a bit? The November chart is quite beautiful outside of a few minor hiccups, with the S&P 500 moving steadily higher from the bottom-left at the beginning of the month to the top right of the chart by the end. This is the boring way that markets are supposed to work! For a few dry details, the S&P 500 is up about 3.4% for the month, lagging both the Russell 2000 (up 4.0%) and the Nasdaq (up 4.5%) for the same period. 

The steady advance of equities comes on the back of the same tailwinds that drove October’s rally (read a more detailed breakdown of the drivers and risks to the rally in the previous post). The drivers continue to be:

• Expectations of at least another trade détente between the US and China.
• Decent economic data coming out of the USA (US third quarter GDP estimates are solid; Black Friday sales look good at above $7 billion according to Adobe Analytics – they also have some fun charts and info on holiday shopping trends on their website).
• Relatively solid company earnings – as evidenced by recent third quarter results
• A more tempered approach to interest rates by the Fed.

Please note that not all stocks are benefiting equally from the recent market moves. Tech, Health Care, and Financials companies have outperformed the rest of the market by a wide margin, with Industrials and Communications following closely behind. Retail companies (part of the Discretionary sector) constantly find themselves caught in the powerful winds of US-China trade negotiation rumors, buffeted too and fro as the narrative of an upcoming détente or tranche of tariffs alternatively gains favor with investors.

Market Sensitivity and Complacency
While the rally drivers remain solid, markets have shown a remarkable willingness to react to market news, with the slightest rumor or report sending the intraday market sharply higher or lower. The Ignorant Investor simply has observed this in his daily routine of watching the markets. Never has the news cycle been more important for traders!

Equities have also marched higher with remarkable complacency on an assumed Phase 1 trade deal for which both the terms and the time at which the deal is struck remain nebulous at best (first the deal was to be signed in November, then moved to December). During that time, the US also put forward legislation supporting Hong Kong protestors. And throughout all this time, that arbitrary deadline of December 15th after which new US tariffs are scheduled to hit Chinese goods is still fast approaching.

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Other Stories of Note

The Saudi-led Organization of the Petroleum Exporting Countries (OPEC) is set to meet in the upcoming week to discuss the extension or elimination of oil production cuts. Russia is again set to join in the talks (making the "+" in OPEC+) and rumors are bouncing around that while Saudi wishes to extend production output cuts, Russia is less interested in participating this time around. Even if an output cut is extended and in some way enforced on OPEC members, the actual result for oil markets is less bearish but still relatively unclear.

Brazil had the disappointing experience of attempting to auction off drilling rights to huge oil fields in the country and failing to attract any bids by Big Oil. Only Chinese companies agreed to bid on several fields as part of a JV with the state oil company. Perhaps it has been the extended downturn in oil prices that have turned off the supermajors to developing potentially expensive projects. Perhaps it is a lesson to the Brazilian government of policies that make bidding on these projects too expensive. Regardless, the event is possibly of interest for investors active in the energy space.

The champagne is ready but don't party just yet! Stormclouds linger on the horizon.

The S&P 500 sails off into uncharted territory. While the waters appear calm, distant clouds indicate the very real possibility of either sunshine or storms ahead

October has been a no good, downright bad month. Oh wait- scratch that. That’s just how the month started. Now, coming into November, markets have once again risen to near-historic levels! The S&P 500 advanced no less than 2.0% for the month, but actually trailed in performance the tech-heavy Nasdaq (up +3.7%) and even the small cap Russell 2000’s 2.6% gain. Oh yes, the Dow rose about half a percent for the same period.

We’ll get to the “why” in a few minutes, but first, let’s just revel in what a month it was. Traders – not investors, mind you, who sleep well at night with their diversified, well-positioned portfolios – started the month getting tossed about as the market tried to gain traction on mixed messages and random, yet tangentially-related flare ups (hello, Daryl Morey! Yes, this refers to you, and the NBA, and… of all places, Hong Kong?) and flare downs (Saudi Arabia managed to bring 5.7M bpd of oil production back online at the end of September after just two weeks of downtime following the September 15th attack on Abqaiq).

While the S&P 500 did initially break below the 50-day and 100-day moving averages (two key technical levels), markets soon began to gain traction throughout the month on the back of solid third quarter earnings and improving trade rhetoric. And yes, the Fed did help by cutting rate targets for the third time this year. In other words, investor sentiment, better-than-expected earnings, the Fed rate cut, and the hope for a November or December US-China interim trade deal set the stage for current market optimism.

Tailwinds for November

Growing US-China Trade Optimism
Since the US and China negotiations teams met, rhetoric has improved from both countries and discussions for a preliminary “Phase 1” interim could come as early as this month (or next, since November’s meeting location was just canceled). On an ideological level, the US government is seeking what is basically a level playing field with China through the concept of “reciprocity”. What exactly that looks like and how this will function between a capitalist and communist government and economic system remains to be seen. Any breakdown in talks will have a negative effect on trade-sensitive sectors, so The Ignorant Investor views continues to advise investors to watch ongoing discussions with cautious optimism. As always, consult with your investment professionals before making any investment decisions!

Solid US Third Quarter Earnings
Analysts entered Q3’19 with a dismal view of how companies were going to perform on the top and the bottom lines. For the most part, companies – once again – put on a performance that exceeded expectations. The vast majority of S&P 500 companies proved to be more resilient to headwinds than initially feared, with relatively solid to strong results across many industries.

Note that this assessment doesn’t include the many ugly unicorns out there that continuously hemorrhage dollars while promising future profitability (*cough* WeWork *cough*).

Relatively Accommodative Federal Reserve Policy.
On October 29th, the US Federal Reserve voted on a third rate cut for 2019. The Federal Funds rate target is now set for the 1.5 – 1.75% range, now down three quarters of a percent since the last rate hike in 2018. Fed Chairman Powell indicated in his speech that this will likely be the last rate cut for 2019, with the Fed adopted a “wait and see” attitude (granted, despite all of Trump’s criticism, the stock market is near all-time highs and economic data outside of manufacturing appears solid; let’s wait to see that jobs report!). Read more details about the Fed rate cut at CNN.

Perhaps unrelated yet of note, since the attack on Saudi’s oil facility in September, the Fed has been forced to occasionally step into markets and inject liquidity to bring the Federal funds rate back into the target range amid several overnight liquidity crunches.

Lingering October Clouds (Grey Swans)

Brittle US-China Trade Negotiations
While both leaders arguably need their respective teams involved in negotiations, a number of ideological and logistical issues could arise with the potential to derail talks. A short list that is by no means comprehensive is below.

• The intentions of China for trade negotiations remains unknown. An interim US-China trade pact may be signed in November (or December), but with 2020 elections fast approaching, the question remains whether China will simply play its role and hope for a new US president to negotiate with following the next election.
• A second divergence can occur as a result of differing trade goals. China remains committed to the state being heavily involved with industry and may be willing to make only superficial changes for the appearance of an open economy. To this end, trade agreement enforcement mechanisms could again become sticking points.
• A third conflict can arise from Trump and his allies seeking to limit investment in China. The Trump administration has been actively discussing methods for blocking US investment in China. One method could bar government pension funds from investing in Chinese firms (read about Senator Marco Rubio’s legislative plan at Bloomberg). Another method could bar Chinese firms from listing on US exchanges (think Nasdaq) or exclude them from indexes.
• A fourth issue can arise from outside factors. China is increasingly flexing its image on the international stage, carefully choreographing how it is presented and becoming incensed at any perceived form of criticism- often punishing the source of that criticism wherever it may be found. The US has recently blocked twenty-eight Chinese firms from doing business with US companies for helping the Chinese government in Xinjiang. Similar actions around more sensitive topics could affect trade negotiations.

US-EU Trade Negotiations
While the US-China trade negotiations take center stage, there are developments on the US-EU front that could lay the groundwork for fresh disputes. The World Trade Organization finally ruled on a US-EU trade dispute around subsidies for Airbus (a separate dispute before the WTO on Boeing continues). As part of the ruling, the WTO allowed the US to impose tariffs on up to $7.5 billion of European goods. The Trump administration immediately came up with a list of products from “France, Germany, Spain, and the United Kingdom” that will be targeted by tariffs (read more at the Office of the US Trade Representative here). Retaliation by Europe for these WTO-authorized tariffs could induce another trade conflict that could affect global economic growth.

Impeachment Proceedings
While Republicans continue to hold the Senate, investors are adopting a wait and see approach to the House of Representatives’ impeachment proceedings. Until a smoking gun is found, the status quo appears to be assumed into 2020 elections.

Hong Kong Protest
Hong Kong risks to the US financial system remain slight, but flare ups of temperament could potentially blow back on multinationals, industries, or – in an extreme case – US-China trade negotiations.  Houston Rocket’s GM Daryl Morey’s tweet regarding Hong Kong threw the NBA into the unenviable position of defending free speech against an angry China and then walking back mixed messages in the face of a subsequently indignant US public.

Multinational companies operating in the region are increasingly thrown into similarly complicated predicaments as the protests continue. Should China choose to take a less measured approach to the protests, these situations for companies operating the region – and perhaps for Western governments – will become more complicated.

What happened to September?

Yes, yes. The Ignorant Investor pleads guilty to missing a September update. My apologies. Family and work obligations piled up fast and thick amid a heavy travel schedule towards the end of the month and a brief sketch for a writeup never made it onto the website. The silver lining is that now The Ignorant Investor has learned how to schedule posts and will do so in the future to avoid this conundrum.


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With markets reaching historic levels, The Ignorant Investor again urges caution. It's never fun to chase a rally you're not already participating in! This seems like a good place to end with a Warren Buffet quote, where he compares baseball to investing: "...the most important thing – for a batter – is to wait for the right pitch. And that’s exactly the philosophy I have about investing - wait for the right pitch, and wait for the right deal. And it will come."

August Vacation! Or the Great Escape from Volatility

Coconut groves set in a valley against the backdrop of mountains near the city of Coimbatore

August has been a month filled with stomach-churning swings, with markets alternating between strong rally days and dismal down days- with events largely data-driven (Treasury yield curve) or by trade commentary or actions (Twitter, Chinese media outlets, and Trump's sudden decision to raise tariffs on Chinese goods towards the beginning of the month).

During such turbulent times, The Ignorant Investor tends to lock in his long trades, ensuring their stories aren't upset by the changing times, and focus his efforts on short-term trading. After all, inefficiencies in the market often result in wild swings in response to news. When that swing becomes too exaggerated, a deft series of trades can results in decent short-term return.

After a busy start and middle of the month, The Ignorant Investor now finds himself among friends in far away India, taking a quick break from the volatility in the equity markets and never ending trade drama. As emphasized month after month in 2019, a cautious stance towards the markets is warranted, choosing quality names with compelling stories from sectors that are not immediately affected by trade tensions. And remember to be patient! Stock market investing is similar to baseball, where the batter is the investor and the balls the pitcher is throwing to you are potential investments in the market. Don't be afraid to just sit back and wait for that perfect pitch before you dig your heels in and take a swing (as always, consult your coach too - your investment professional for this analogy - before taking that swing!).

Keep climbing! Onwards and upwards?!

July was all about the Fed and second quarter earnings. Sure, the trade war détente reached between US President Trump and Chinese President Xi set the stage for the market to look beyond trade tensions in July, but investment entities are primarily concerned with potentials slowdowns in economic growth and some loosely correlated equity market pullback. For the month, the S&P 500 and Nasdaq advanced slightly with decent performance from the Communications, Industrials, and Financials sectors.

Markets ended July 31st with a sudden 1% drop in the S&P 500, closing lower several short hours ago after the Federal Reserve announced their decision to cut interest rates by 25 basis points. For those not closely following these developments, the market had expected the Fed to cut interest rates, but had also hoped for a blueprint to further rate cuts. A decently strong jobs report earlier this month elicited a similar negative reaction, placing the market into that old mindset that “good news is bad news.” Basically, investors are watching the Fed and hoping for an increase in the money supply (by stepping back some of last year’s interest rate hikes), which – all else equal – would force liquid assets to move further out on the risk curve in search of yield (this means more money moves into stocks).

Strangely enough, this time US equity markets are sitting near record highs with a backdrop of solid (domestic) economic data.  The Fed's “midcycle adjustment” therefore seems to be the most prudent course of action, ceteris paribus (read more about the Federal Reserve’s decision to cut rates at the Financial Times). President Trump had recently been weighing in on the Fed’s decision-making process, publicly pressing for rate cuts. Federal Reserve Chairman Powell, conversely, has been facing the unenviable prospect of making necessary monetary policy decisions while maintaining the optics of an independent Fed.

But the Fed meeting and July is now ending, with August approaching in a few short hours. Below are some highlights that investors may want to keep an eye on for the coming month.

Earnings

Second-quarter earning season is now in full-swing and more than half of the S&P 500 component companies have reported their own results. Now that the tailwinds from the December 2017 tax cuts have long since exhausted themselves, peak earnings have again become a real concern amid relatively tame wage growth, high levels of employment, and elevated trade tensions. However, a large majority of S&P 500 companies have managed to once again beat analysts’ low expectations for the quarter.

Investors are now digesting how well various companies are dealing with trade and other headwinds and whether recent strength seen in some quality names can continue going forward. As Warren Buffett is quoted as saying, “You only find out who is swimming naked when the tide goes out.” As several sectors continue to experience weakness, underperforming companies in these sectors have sold off (energy and retail contain many good examples here). The converse to this statement is also true, and The Ignorant Investor himself has identified several companies that have been performing well despite falling under the retail category- an area that should still be generally avoided for now because of widespread exposure to US-China trade tensions (ie many retail items are manufactured in China).

Trade

The détente following a meeting between US President Trump and Chinese President Xi on the sidelines of the G-20 summit in Osaka, Japan, at the end of June set the stage for the market to look beyond trade tensions. Hopeful but wary optimism resulted from that meeting. Wariness since President Trump has demonstrated a willingness to use tariffs as a very blunt instrument, perhaps as an instrument of policy, or perhaps for gamesmanship at the negotiating table. Wariness also since investors aren’t sure which game China is playing- wait out the next US presidential election cycle while using delaying tactics, or negotiate a quick and fair end to the trade disputes.

In early July, the Trump administration threatened to impose tariffs for European goods over aircraft subsidy disagreements. Then, several weeks later and after reaching a trade tension détente with President Xi, President Trump (again) openly mused about placing tariffs on all Chinese imports to the USA. Just yesterday, President Trump accused China of not honoring its agreement to buy more US agriculture products.

Until a concrete agreement is reached, investment exposure to sectors and companies affected by US-China trade disputed should remain limited. Please note that the performance of the Energy Sector is increasingly affected by US-China trade tensions through oil prices and global economic growth fears.

Health Care: Rising Political Risks

While mostly shielded from both trade tensions and economic growth fears, Health Care’s political risks are fast rising. The cost for health care in America has come under heavy public criticism in recent years and has become a political football for all US presidential candidates, including the incumbent, President Trump (read about how the Democratic contenders differ on health care at ABC). As the US presidential election fast approaches, investors widely expect for public scrutiny to increase on this sector as debates intensify.

Drug prices, which affect biotechnology and pharmaceutical names within the Health Care sector, have also received heavy criticism. In July, President Trump’s administration proposed several additional approaches to lowering drug prices in the USA and walked back on another in favor of a legislative solution that is currently making its way through a bipartisan Congress (read more about the bill's details at CNBC). Please note that The Ignorant Investor lists President Trump's proposals here since the sitting US President may push for these changes before the upcoming presidential election.

• Peg US drug prices to international drug prices.
• Allow US consumers to import drugs to the USA from Canada.
• Require hospitals to reveal drug prices to patients.
• Require drug companies to list prices in TV advertisements.
• Prohibit Medicare from paying certain rebates on drugs [Walked back, temporarily].

Any of these solutions have ramifications for drug company business models and could potentially affect biotechnology companies involved in drug discovery. Safety can still be found in some of these areas and certain quality names, but investors should also keep a close eye on political developments.

Technology: Rising Political and Regulatory Risk

Technology is another relative safe haven that is under distant yet looming pressure. Some US politicians and presidential candidates have openly discussed “breaking up” large technology companies like Amazon, Google, and Facebook, with critics citing everything from the platform’s ability to influence politics to potentially harming consumers by limiting competition.

This month, the House Judiciary Committee questioned Apple, Amazon, Google, and Facebook as part of an antitrust probe (read about the potential case to be made against each of these companies at USA Today). Separately, the US Department of Justice is conducting antitrust investigations of several big tech companies while the Federal Trade Commission also reached a $5 billion settlement with Facebook (a small amount for the tech giant, to be sure, which rallied in the aftermath of the announcement before falling in the days after sounding the alarm on potential growth slowdown in its second quarter earnings report).


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As stated many times before, The Ignorant Investor advocates a cautious approach towards equities in 2019. Solid names in sectors that remain relatively safe from the prevailing risks that are outside of the control of the individual investor.

A Month of Political Pageantry and US Equities

2019 has been a crazy year for the stock market, shifting almost monthly between manic enthusiasm and numbing uncertainty. Now we find ourselves more than halfway through the calendar year, and this month we are once again reaching for new highs as the S&P 500 continues with unsteady steps upwards. June stock market strength was driven by positive sentiment around US-China trade negotiations and growing likelihood of the Federal Reserve moving towards an easy monetary policy. The S&P 500 rose 6.9% and the Nasdaq rose 7.4% for the month, basically erasing May’s steep declines with some to spare in order to reach new record highs.

Yesterday, US President Trump and Chinese President Xi met on the sidelines of the G-20 and basically agreed to maintaining the current status quo on tariffs and proceed with trade negotiations (read an in-depth article on the meeting by the New York Times). Trump also indicated that he will potentially throw Chinese giant Huawei a lifeline by lifting sanctions on the company. This is a positive for the market since negotiations are always better than more hostile dialogue (ie tariffs and threats), but the announcement lacked specific details on exactly what would happen. A small stock market rally may be expected since the G-20 meeting did take place and a nominal agreement to renew trade negotiations reached. However, in coming months, the retail investor should continue to approach the broader stock market with an elevated degree of caution until demonstrated progress can be seen in US-China trade negotiations.

June Stories of Note

The Fed may lower interest rates. Relatively weak inflation and a very disappointing jobs report amid broader economic data with mixed outlook has caused the FOMC to adopt a more dovish stance towards interest rates for 2019. The US administration has also been pressuring the central bank to do just that, which could complicate the Fed’s decision-making process as it strives to demonstrate its independence. Read about the FOMC statement at Bloomberg.

Oil price movement partially correlates to US-China trade discussion sentiment. Oil prices moved into a bear market briefly on June 12th, before moving sharply higher as US-China trade optimism rose. Also of note, several bombing attacks on oil tankers in the Middle East occurred on June 13th, when oil prices were near five-month lows. A large portion of US crude’s 9% rise in June can be attributed to optimism on the demand side of the equation, which benefits from greater global economic growth.

Caution may be warranted towards big technology names. In the first days of June, companies like Alphabet, Google, Amazon and Facebook all fell sharply after news broke that the US Justice Department is considering antitrust probes for the companies and the FTC may examine Facebook’s business practices. Note that tech has been a relatively safe defensive play for investors in the face of elevated trade tensions and economic growth concerns. The Wall Street Journal focuses on how the FTC may examine Facebook in this article.

Pageantry plays a role in trade negotiation gamesmanship
Let’s review recent stock market performance. March performed well. Equity markets experienced strong gains in April. May saw stocks plunge, with the S&P 500 down 6.6%. Then, in June, the S&P 500 rose 6.9%, erasing May’s losses and building off April’s gains to reach new historic levels.

What has been driving these wild swings in the broader equity markets? Why this shift from the tranquility of recent years? Movements in various asset classes may be largely attributed to pageantry related to trade negotiations and the anticipated outcome’s effect on global economic growth. Trade tensions between the US and China manifest on multiple levels:

• Meaningful dialogue behind closed doors between negotiation teams.
• Information supplied by the US and Chinese governments through press conferences and announcements (some delivered by Twitter for Trump, state-controlled news articles for China), with messages directed at both their own people and the global audience.
• Threatened actions - which may deviate from actual actions - against the interests of the rival nation (think Huawei sanctions by the USA, visits to rare earth production facilities by Chinese officials).
• The consensus mindset of the actual decision makers directing either nation (President Trump and President Xi likely have outsized influence here).

In many ways, each country puts on various acts in this theatrical production that the world is watching. Many individuals grow concerned by stories told around Huawei, 5-G technology, Chinese production of rare earth elements, and Chinese purchases of US energy. The Ignorant Investor would suggest that all of these recent headline-grabbing events should be examined in the context of the trade deal negotiation, and that many of them could be argued are calculated rather than random actions. Let’s look at some chronological events.

April’s strong rally to then-record highs had been on the back of an anticipated US-China trade deal that never materialized. In early May, US negotiators accused China of backtracking on a number of key points that had been hashed out in previous meetings. After this, US President Trump announced heavy tariffs on a portion of Chinese goods and China retaliated. Then the US declared a national emergency, banning US firms from doing business with Huawei. Also around the same time, Japan and the EU faced potential tariffs on auto imports before Trump later postponed them by six months. There was also that seemingly random time at the end of last month when President Trump decided to threaten Mexico with tariffs over an immigration dispute, which had the potential to derail the recent trade pact negotiated between the United States, Mexico, and Canada.

Within the context of the negotiation table, President Trump’s actions can make sense by injecting unpredictability into the equation and potentially keeping Chinese negotiators off-balance. Trump could be sending the message that he is not beholden to the performance of the stock market and he remains strong enough to throw away everything without a second thought, regardless of upcoming presidential elections. This message may have been deemed necessary if Chinese negotiators did renege on previous agreements (something the Chinese side disputes). If this is the case, it’s a dangerous game - a very high stakes game - to be sure.

Trump’s negotiating tactics.
An in-depth article outlining arguments and a rough timeline of events for US and Chinese trade negotiations. A high stakes game with hardball tactics could result in either a decent deal for both countries or a bitter, protracted trade war. Read the details at Forbes.

Ultimately, market movements are based on data, and right now everyone is very much focused on economic growth. Trade deal uncertainty and trade tensions threaten already-challenged growth in the US, China, and the rest of the world. The Ignorant Investor posits that many recent actions taken by both the US and China may be attributed to positioning around the trade negotiation table. Regardless of the rationale behind recent drama, a best-case scenario for the average investor going forward is if this theatrical production is near its final act.

Batten down the hatches! There be uncertainty ahead.

The old adage around Wall Street has long been “Sell in May, and go away” with the expectation that nothing much happens during the May to October period. This year, that would have proven to be great market-timing advice just about now! May was a no good month for many asset classes, with investors scrambling to buy up safe haven defensive sectors and assets (think Treasuries) and selling off the riskier ones (among which are equities). The S&P 500 itself fell 6.58% while the tech-heavy Nasdaq fell still further, down 7.93%. For trading, however, the month of May was another wonderful opportunity to take advantage of erratic short-term price movements in 2019.

What Happened in May
Just as a quick recap, we now find ourselves contending with some old fears that have risen up, once again, to face off against market optimism in 2019.

Trade War. Markets and asset classes have been thrown into a whirlpool of uncertainty following increasingly hardline posturing that eventually led to the breakdown in trade negotiations between the US and China. This cascaded with negative effect into economic forecasts (long-term effects on the US economy, worrying numbers indicating a potential slowdown for the Chinese economy), which resulted in inverted yield curves as investors fled into treasuries and other so-called low-risk safe havens. Beyond pundits discussing economic slowdowns, the scary R-word lifted its ugly head once again: could there be recession ahead? For reference, the 10-year treasury yield traded around the 2.13% level earlier today, down from 2.50% at the end of April. The plunge in yields closely tracking the rise in trade uncertainty as equities sold off.

Energy markets. Oil prices responded to the breakdown in trade with an equally spectacular decline as realized economic fears would have a very real impact on the demand side of the energy equation. US crude (WTI) fell 16.3% for the month, with the international benchmark (Brent) fell 10.5%. As the trade war seems to ever-expand (hello Mexico!), the fragile US oil demand-supply balance – already threatened by US energy producers hitting ever higher historic levels of output – may be upset as exports are affected to the detriment of upstream E&P companies.

What can be expected from trade negotiations?
Did the Chinese really backtrack on previous promises? Did President Trump’s team, headed by the trade hardliner Robert Lighthizer, negotiate in bad faith? To be honest, neither of these questions are relevant to the investor wondering how to position themselves around recent events. Should rationality win, then a pragmatic viewpoint is that these disturbances are merely positioning around the proverbial poker table; bluffs being called as other players (in this case, the other player) raise their bets yet higher. And the stakes continue to grow.

In this context, Trump’s Mexican tariff play may be a masterful move, meant to throw Chinese calculations off by inserting yet more uncertainty into the game. On the other hand, one scary thought is that President Trump may simply have realized that tariffs are a blunt but effective tool to quickly achieve some desired effect. In this case, the game is now dangerous and unpredictable- a situation that does NOT benefit the average long-term investor.

That is the US side of the equation. Across the pond, in a worst-case scenario, China may take a long stance – which they managed to do in the past quite effectively – and simply try to wait out Trump, while half-heartedly engaging in some level of negotiations so that the situation doesn't become too bleak for financial markets at home and abroad.

What should retail investors do?
A reasonable question! The Ignorant Investor sees current trade negotiations to be something of a coin flip, a gamble rather than an investment. A complex situation with unknowable outcomes since there are so many uncertain, unpredictable factors involved with these extended trade negotiations. In such circumstances, a cautious approach to the market is warranted and careful consultation with financial professionals a prerequisite before taking new, meaningful positions.

This doesn’t mean, however, that a passive approach to the market is best. Caution is advised, but when fear is moving the markets and when financial news programs are filled with angst over the future, that is when irrational moves are also being made in the equity markets. Irrational moves that can be adeptly exploited by attentive investors. Following the recent steep declines for equities, some “diamonds in the rough” may have already been unearthed and unceremoniously cast aside. Quality, as The Ignorant Investor seems to be saying month after month, is the name of the game for 2019. Quality in sectors that are relatively unaffected by trade tensions, trade wars, and tariffs - and sectors that will be least affected in the event of an economic slowdown - may be the safest place to be. Quality companies with compelling stories and pristine balance sheets.

Reaching for New Heights

The S&P 500 Continues to Thrive

The S&P 500 continues to move higher. But how did we get here? Let’s oversimply things and take a quick walk through recent months. In December, recession fears dominated US stock market movements amid a lingering US-China trade war. January was all about the government shutdown and questions around the target Federal Funds rate; meanwhile, US-China trade tensions were easing. February saw global growth concerns rise even as the market adjusted to a more accommodative Fed (which chose to leave target rates unchanged for 2019) and potential political fallout from the much-anticipated Mueller report. In March, uncertainty rose as the flattening yield curve inverted again. April revolved around predicted first quarter 2019 earnings growth declines, which were proved inaccurate as corporate America, through a Herculean effort, managed to keep blended earnings growth in positive territory, if close to the flatline.

The US equity market moved through all this uncertainty to again reach ever higher, hitting historic levels, with the S&P 500 gaining a whopping 25% from December 24th lows through today’s close. Tell anyone this would be the case back in December and they would have called you crazy. There continue to be questions around the sustainability of this rally, however, since the move higher has not been broad-based, but very concentrated in the Tech, Discretionary, and Communications sectors.

FAANG is dead, all hail FAAN
Those who stuck with the tried and the true by looking to these old favorites in 2019 have been very handsomely rewarded. Facebook is the leader, up a massive 47% year-to-date. This is followed by Netflix (38%), Amazon (28%), and Apple (27%). Alphabet, Google’s parent, has sadly lagged, up a solid but meager-in-comparison 14% following its ad sales growth stumble earlier today.

Beleaguered Health Care

While the S&P 500 continues to test historic levels, market participation has decreased and rotations have occurred, differentiating this high from the last high of early October 2018. While every component index of the S&P 500 has advanced, Health Care has severely lagged the recent rally and has only advanced 3.2% year-to-date (this up from a sharp decline seen earlier in April that briefly brought the subindex to a negative 2019 return). Indeed, between April 10th and April 17th, the entire Health Care component of the S&P 500 fell more than six percentage points.

For those of us familiar with the biotech drug discovery area of the Health Care sector, we are well accustomed to such sharp moves in individual names depending on the development status of various experimental treatments for diseases. However, this April selloff was broad-based, hitting the entire sector and moving everything lower. In this particular case, the cause of the selloff originated in Congress (CNBC has a quick summary of what was happening in Congress at the time). The Health Care sector frequently becomes the fall guy during political discourse, and in this case, many senators and potential candidates had begun to push for various health care plans and rail against the pricing strategies of American pharmaceutical companies. Health Care reform is very important for the American people, but what that reform looks like and how it is done can significantly affect investments.

The Ignorant Investor will simply note here that the Health Care index was oversold and mostly recovered its losses, although some specific names have continued to show weakness. As in any investment, quality is ultimately the name of the game. There are always opportunities, overlooked companies with compelling stories. However, as the political landscape continues to take shape in the months ahead of the 2020 United States Presidential Elections, sharp, broad-based market moves in the Health Care sector may be expected to become more commonplace.

Rumblings in the Oil Markets

One would think after all the drama the oil markets have encountered over the last five years that somebody would get it right. But no! The so-called “smart money” was mostly behaving in way not represented by its name, selling off long positions in the commodity in January right as the bottom was forming in the most recent price arc. Now, we sit nicely near 2019 highs with the potential of an even tighter oil market ahead of us (yes, we can thank the perfect storm created by OPEC+ production cuts, instability in Venezuela and Libya, and the full implementation of US oil sanctions against Iran- as promised, but delivered later-than-promised by President Trump).

There is sanity among the supermajors, after all
Chevron was wise enough to make the first move, bidding approximately $33 billion ($50B including debt according to Chevron) for one of US shale’s “best” performers and Permian darling, Anadarko Petroleum Corporation on April 12th. This was, astoundingly, more than a 35% premium to Anadarko’s closing price the day before. Oil production companies' stock prices have been very subdued relative to crude oil’s sharp gains over the last four months. Indeed, it seems as if in this case (along with several other high-quality names that The Ignorant Investor will allow to remain unnamed) the baby had indeed been thrown out with the bathwater. But this tale does not end here.

Suddenly, on April 24th, larger shale oil rival Occidental Petroleum launched a hostile $38 billion for Anadarko Petroleum, topping Chevron’s bid, to the cheers of Anadarko’s existing shareholders. Also surprisingly, Warren Buffet’s name came up as it became known that Berkshire Hathaway was joining Occidental’s bid by providing $10 billion in financing (in a very sweet deal - perhaps too sweet - for Buffett too). Anadarko Petroleum’s board has most recently announced it plans to accept Occidental's bid (read about the announcement at CNN). As a quick evaluation, The Ignorant Investor will simply note that amid sharp, unpredictable, and unknowable moves in oil prices, debt can quickly become first a trap and then a tomb for debt-laden shale oil companies in the event of an extended downturn. Chevron could counter-bid at this juncture, and may indeed be the superior choice in this situation as a much larger and much more liquid long-term partner. However, as an investor, one must simply note that sharks are currently on the prowl, and that raises the question: who’s next?

Filling in the Blanks

Unicorns and IPOs
Lyft Inc (LYFT is the Nasdaq ticker) went public on the final day of March and it has seemingly been all downhill from there: the stock has fallen more than 23% on a closing basis from the end of March until closing earlier today. The ride-hailing company's IPO has seemingly disappointed many enthusiastic retail investors, including millennials, who bought into the company in the initial days after it went public. Next up, Pinterest Inc (NYSE PINS) went public on April 18th, but unlike Lyft has continued to rise: up nearly 27% through closing earlier today. Totally different business model, The Ignorant Investor does realize. It is, however, another example of a large unicorn with a multi-billion-dollar valuation. Finally, we come to the elephant in the room. Uber, a so-called once-in-a-generation company, is going public with a valuation that could be north of $80 billion (for reference, this is similar in size to the industrial equipment giant Caterpillar or the drugstore chain parent CVS Holdings Inc). However, after “rival” Lyft’s unflattering post-IPO performance, this could change (WSJ has a good article on Uber lowering its valuation targets, which occured after the Lyft IPO). While not interested in investing in these companies, The Ignorant Investor is watching with some interest, even hope. Perhaps a decent performance from some higher-quality names among these IPOs could help entice millennials, scarred by the so-called “Great Recession” (read more about the event at Entrepreneur), back into the stock market.

In any case, the day of reckoning has finally arrived: are large unicorns worth the hype, as an investment? There seems to be no shortage of disruptive companies which, although promising, almost literally burn through cash hand over fist and yet have many multiple-billion-dollar valuations. These have also typically opted to remain private for many years. The ultimate proof is in the pudding, and one-by-one these companies are going public, preparing carefully for the accompanying transparency and extra scrutiny that accompanies large IPOs (thankfully, the alleged fraud at the infamous Theranos was exposed before the company had the chance to also fleece ordinary retail investors in a public offering, read more about the debacle here at Forbes). Beyond further examination of financials plans and business metrics, only time will tell which of these companies are good investments.

Cash is King
Saudi Aramco is indeed the most profitable company in the world, dethroning Apple and debunking some lingering financial questions, as the country reveals many details about the national oil company ahead of a massive debt sale and, further afield, a potential IPO. However, while massively profitable at current oil prices, Aramco doesn’t appear to be as efficiently run as Big Oil. The Financial Times has a great article based on knowledge gleaned from the Saudi Aramco Prospectus that was distributed earlier this month.


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As always, The Ignorant Investor advocates a cautious approach towards investing in equities in 2019. Quality is the name of the game: solid companies with compelling stories and pristine balance sheets. And remember: “Be fearful when others are greedy and greedy when others are fearful" - Warren Buffett

Déjà Vu: Revisiting the Inverted Yield Curve

The sky is falling! The sky is falling! Or is it? The Fed made the unexpected decision last week to leave rates unchanged for the remainder of 2019, a far cry from the very hawkish Fed that predicted multiple rate hikes for this year in December of 2018. This resulted in sharp market movements, with the broader market outside of Financials considering this a tailwind for the stock market. After all, when there is more cash available, where does it go? If you’re searching for yield, the answer has been stocks for many years now.

Then, last Friday on March 22, the stock market moved sharply lower after the already-flattening yield curve inverted as the 3-month Treasury yield fell below the 2-year. And this, ladies and gentlemen, is where we find ourselves today: another yield curve inversion, last experienced in December of 2018.

What is a yield curve inversion
On March 22, 2019, last Friday, yield curves inverted when the 3-month Treasury yield fell below the 2-year yield. For quick understanding, the yield moves inverse to the price of a bond. When yields fall, that means the prices have risen with higher demand. Investors typically want a better return if their money is locked up for a longer time. When the yield curve is inverted, however, this means that the shorter investment now has a higher return (the interest rate is higher even though the longer-dated Treasury should carry more interest rate risk).

This can be interpreted in different ways, but typically (although not necessarily) this yield situation means bad events may be ahead. The last time this occurred was with the 5-year and 2-and-3-year treasuries back on December 3, 2018. At that time, markets sold off viciously on recession fears. This time, market reaction has been more subdued, but the S&P 500 still fell 1.90% by the close on March 22.

Recently, the broader market (S&P 500) has been supported on an upwards trajectory on relatively solid earnings data and optimism around a US-China trade deal. Most investors seem to expect some sort of a trade deal with certain enforcement mechanisms to be reached. Meanwhile, outside the United States, economic data has been less promising, with Beijing and then the ECB announcing stimulus measures to deal with potential economic slowdowns. Additionally, in the United States, nonfarm payrolls severely disappointed expectations by nearly 8x, with only 20,000 jobs created in February.

Global economic conditions, coupled with the recent inversion of the yield curve, does warrant some attention and wariness when it comes to equities, but this doesn’t mean the bull run is over by any means. The Fed could lighten up on interest rates, perhaps lower rates by a bit, and the situation would change. Regardless, a considerable amount of money remains on the sidelines since the December declines, and investor may become more comfortable with lower earnings growth (note, earnings are still growing, just not as at fast a rate) going forward. This doesn’t change The Ignorant Investor’s mantra, however. Quality is the name of the game- quality, a compelling story, and a pristine balance sheet. Quality companies that are in the game for the long run don’t need to be concerned by the daily fluctuations of the market; these are the types of investments that allow investors to sleep deeply and securely at night.

Energy Markets
Oil prices have recovered well since the beginning of the year, now up more than 30% at yesterday’s close. This price movement is well-supported by relatively stable demand and OPEC+ production cuts.  Additionally, sanctions on Venezuela and their continued decline in oil production capabilities have also helped support prices. On the flip side of this, US oil production has risen sharply and exports have continued to rise as the US begins to take market share from OPEC.

Consolidated Audit Trail: Improved market transparency and accountability leads to greater credibility
Let’s take a walk through recent history. Back in 2010, something occurred on May 6 that caused major indexes in the US stock markets to drop nearly 10% within minutes, only to recover all of the losses by the end of the week. Some fortunate traders made hundreds of thousands of dollars, if not millions, within a ten-minute window. Other unlucky traders missed out when the regulator arbitrarily decided to invalidate some trades (based on the percentage gained from the artificial drop). Some called foul. Many market participants were confused and perplexed. What happened? Everyone was guessing. Finally, in 2015, the US charged a single trader from London with manipulating markets and unknowingly causing that flash crash. Good for them- but notice the time stamp. The entire process took FIVE YEARS to complete.

This was a big problem. Regulators couldn’t immediately piece together the positions around the time of the crash and it took years to process all the data. Going forward, this was not a good situation. As a result, the Consolidated Audit Trail was formed to create greater transparency for US equity markets. This repository will track orders in real time and maintain a database of positions in the US stock market- a very powerful tool for regulators to examine market activity and irregularities going forward. After many delays, the buildout of this tool is nearly complete and slated to be ready for operation sometime next year.

The Wall Street Journal reported that the SEC decided to eliminate some personally identifiable information from the Consolidated Audit Trail repository in the name of cybersecurity; all in all, some very good news. Once open for business, this tool will also be the veritable Fort Knox of stock market information, containing positions of all market participants at any given point in time. Read about it here.

What markets? India is incredible!

Greetings from Incredible India! The Ignorant Investor is currently attending a wedding near the ancient city of Jaipur, India. The Pink City is a beautiful place with many historical landmarks to visit; and the food, full of spices, is absolutely delicious. The festivities result in less time for posting, so please excuse the quick look at the market today.

Equity markets have continued to make solid gains this month, with the S&P 500 rising more than 3% for February through yesterday’s close. Granted, news from the USA has been mostly good; maybe not always great, but good. Most recently, Trump chose to delay re-imposing tariffs (extending the current détente) on Chinese goods next month, citing progress in US-China trade talks. Questions do remain about whether the current rally is sustainable, however, since we’ve come quite far since December lows. And once a trade deal is reached between the US and China, will markets treat this as a “sell the news’ event? Will the terms be favorable or enforceable? After all, a considerable amount of meaningful economic data coming from outside the USA (think China, Europe) has been disappointing. And on the political front, the spectre of a “hard” Brexit rises again next month.

Going forward, The Ignorant Investor would postulate that cautious optimism, with investments focusing on solid companies with compelling stories and pristine balance sheets, is still the safest path forward here. Note that sectors matter too! Getting caught in indirect crossfire from trade or policy events is never fun.

January 2019: A Month in Review

The stock market is a tricky place. Investors spend their whole lives studying the theories behind how market machinations work, only to struggle to keep pace with – let alone beat – the benchmark S&P 500 index. Even as the financial world has grown much more complicated (advanced or experienced is probably the preferred word on the street), inexplicable stock market moves that look nonsensical, unless attributed to panic, can still occur. The Ignorant Investor has found his time around and after the holidays quite busy; not a panicked sort of busy, but more of a careful perusing of quality companies carelessly discarded in the late-December selloff. Clearly, in hindsight, careful positioning around the holidays would have yielded fantastic results.

Today let’s adopt a cautiously optimistic stance towards equity performance in 2019 and take a balanced look on what happened this last month and what dark clouds may loom on the horizon.

The US Equity Market

Since the beginning of 2019, up through the close on January 30th, equities have performed very strongly following one of the weakest December performances on record. The S&P 500 has recouped all 2018 calendar year declines and then some, while the larger collection of smaller companies in the Russell 2000 have made good progress on nearly recouping all of their losses. Note that we are talking about calendar year results here. The S&P 500 and Russell 2000 are still far below record highs hit during 2018.

Taking a closer look at the internals, we see that two out of the three biggest sector outperformers in 2019 are the biggest decliner from 2018 (energy), and another big decliner from 2018 (Industrials). The performance of Energy is easily attributed to changing forecasts and prices in oil (US sanctions on Venezuela, OPEC+ reducing oil production levels, etc). And Health Care has underperformed its peers in January (although still advancing) but was also the sole outperformer worth mentioning for 2018. There is therefore a continuity here that demonstrates that the December selloff was severely overdone in anticipation of negative events that never materialized. Markets therefore recovered as perceived risks subsided.

What changed
Recession fears abated. The sentiment grew that the recent equity market downturn could portend a recession in the face of what had been fast economic growth coupled with very low unemployment (granted, the steepest December declines were only seen once seasoned traders were on holiday). Also, Treasury yields had begun flashing warning signs of a potential economic slowdown ahead. Quarterly earnings growth (see below) put this fear to rest with the idea that economic growth will support earnings going forward.

Quarterly earnings were mostly good. S&P 500 fourth quarter 2018 earnings mostly beat both earnings and revenue expectations, with results from large multinationals mixed but indicating some weakness overseas. Corporate earnings and guidance are always fundamental to the performance of the stock market and, in the absence of economic data due to the US government shutdown that began on December 22 and ended on January 25th, this information became even more important to determine exactly what was happening in the US.

The Fed calmed the markets. Market participants had begun to fear that a constant rise in interest rates coupled with a constant reduction in the Fed’s balance sheet could cause potential liquidity problems. Treasury rates had also been relentlessly rising in recent months. In response, as January came around, the Fed became more communicative (the Chairman will now be speaking after every meeting) and indicated that both rate increases and the pace at which the balance sheet is reduced will be more flexible going forward (read an in-depth article on the most recent FOMC meeting by the NY Times here)

Optimism grew over US-China trade negotiations. Trade negotiations appear to be advancing well, ceteris paribus, which investors are taking as a big positive despite recent weakness in Chinese economic data. The sooner the trade war is resolved, the better for everyone involved in equities and other "risk-on" asset classes.

Clouds that could rain on the parade
This list is hardly comprehensive, but highlights a few very likely possibilities that could negatively affect US equity performance in 2019.

Political tensions remain elevated. Will the Mueller probe cause any difficulties for President Trump? Can Congress really bridge the gap between their ideological positions in the next two weeks and stave off another government shutdown (VOA covers the background to budget discussions here)? Investors typically sell on news and buy on rumor, and any potential for negative news here could lead to some stock market weakness (although, please note, it is typically prudent to take refuge in the fundamentals before making informed investment decisions).

Geopolitical tensions remain elevated. The divorce between the EU and England has become quite acrimonious (read about the most recent developments at CNN). Debt concerns over budgets passed by the Italian government continue to linger. Potential flashpoints for difficulties around Iran and North Korea remain problematic. Stability is always preferred to uncertainty.

Potential for corporate margins decline and slowing earnings growth. Strong economic growth coupled with very low unemployment typically results in upwards pressure on wages. So far, this effect has been muted, but eventually wage growth must occur. This will pressure company margins. Also, the idea of peak earnings was a hot topic widely discussed earlier this month.

Potential for global economic slowdown. The US economy is intricately connected to the global economy. The US cannot continue to climb if the rest of the world stumbles. Weak economic data out of China amid the lingering-but-paused trade war remains a concern (Marketwatch discusses how a slowdown in China could affect global economic growth).


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Cautious optimism may be the best approach for equities in 2019. Solid companies with pristine balance sheets and compelling stories have become more expensive since recent market lows, but opportunities still abound!