The temperature in the stock market heated up again this month. Like a hot day at the beach, the Dow Jones Industrial Average stock index burned +542 points higher this month (+2.5%), while scorching +2,129 points ahead in 2017 (or +10.8%).

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Despite these impressive gains (see 2009-2017 chart below), overall, investors remain concerned. Rather than stock participants calmly enjoying the sun, breeze, and refreshingly cool waters of the current markets, many investors have been more concerned about getting sunburned to a geopolitical crisp; overwhelmed by an unexpected economic tsunami; and/or drowned by a global central bank-induced interest rate crisis.

Stock Market Concerns Rise

Stock market concerns rise, but so do stock prices.

The most recent cautionary warnings have come to the forefront by noted value investor Howard Marks, who grabbed headlines with last week’s forewarning memo, “Here They Go Again…Again.” The thoughtful, 23-page document is definitely worth reading, but like any prediction, it should be taken with a pound of salt, as I point out in my recent article Predictions – A Fool’s Errand. The reality is nobody has been able to consistently predict the future.

If you don’t believe my skepticism about crystal balls and palm readers, just listen to the author of the cautionary article himself. Like many other market soothsayers, Marks is forced to provide a mea culpa on the first page in which he admits his predictions have been wrong for the last six years. His dour but provocative position also faces another uphill battle, given that Marks’s conclusion flies in the face of value investing god, Warren Buffett, who was quoted this year as saying:

“Measured against interest rates, stocks actually are on the cheap side compared to historic valuations.”

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Rather than crucify him, Marks should not be singled out for this commonly cautious view. In fact, most value investors are born with the gloom gene in their DNA, given the value mandate to discover and exploit distressed assets. This value-based endeavor has become increasingly difficult as the economy gains steam in this slow but sustainably long economic recovery. As I’ve mentioned on numerous occasions, bull markets don’t die of old age, but rather they die from excesses. So far the key components of the economy, the banking system and consumers, have yet to participate in euphoric excesses like previous economic cycles due to risk aversion caused by the last financial crisis.

Making matters worse for value investors, the value style of investing has underperformed since 2006 alongside other apocalyptic predictions from revered value peers like Seth Klarman and Ray Dalio, who have also been proved wrong over recent years.

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However, worth stating, is experienced, long-term investors like Marks, Klarman, and Dalio deserve much more attention than the empty predictions spewed from the endless number of non-investing strategists and economists who I specifically reference in A Fool’s Errand.

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Beach Cleanup in Washington

While beach conditions may be sunny, and stock market geeks like me continue debating future market weather conditions, media broadcasters and bloggers have been focused elsewhere – primarily the nasty political mess littered broadly across our American shores.

Lack of Congressional legislation progress relating to healthcare, tax reform, and infrastructure, coupled with a nagging investigation into potential Russian interference into U.S. elections, have caused the White House to finally lose its patience. The end result? A swift cleanup of the political hierarchy. After deciding to tidy up the White House, President Trump’s first priority was to remove Sean Spicer, the former White House Press Secretary and add the controversial Wall Street executive Anthony Scaramucci as the new White House Communications Chief. Shortly thereafter, White House Chief of Staff Reince Priebus was pushed to resign, and he was replaced by Secretary of Homeland Security, John F. Kelly. If this was not enough drama, after Scaramucci conducted a vulgar-laced tirade against Priebus in a New Yorker magazine interview, newly minted Chief of Staff Kelly felt compelled to quickly fire Scaramucci.

While the political beach party and soap opera have been entertaining to watch from the sidelines, I continue to remind observers that politics have little, if any, impact on the long-term direction of the financial markets. There have been much more important factors contributing to the nine-year bull market advance other than politics. For example, interest rates, corporate profits, valuations, and investor sentiment have been much more impactful forces behind the new record stock market highs.

Federal Reserve Chair Janet Yellen may not wear a bikini at the beach, but nevertheless she has become quite the spectacle in Washington, as investors speculate on the future direction of interest rates and other Fed monetary policies (i.e., unwinding the $4.5 trillion Fed balance sheet). In the hopes of not exhausting your patience too heavily, let’s briefly review interest rates, so they can be placed in the proper context. Specifically, it’s worth noting the spotlighted Federal Funds Rate target is sitting at enormously depressed levels (1.00% – 1.25%), despite the fact the Fed has increased the target four times within the last two years. How low has the Fed Funds rate been historically? As you can see from the historical chart below (1970 – 2017), this key benchmark rate reached a level as high as 20.00% in the early 1980s – a far cry from today’s 1.00% – 1.25% rate.

Stock Market Concerns Rise

There are two crucial points to make here. First, even at 1.25%, interest rates are at extremely low levels, and this is significantly stimulative to our economy, even after considering the scenario of future interest rate hikes. The second main point is that that Federal Reserve Chair Janet Yellen has been exceedingly cautious about her careful, data-dependent intentions of increasing interest rates. As a matter of fact, the CME Fed Funds futures market currently indicates a 99% probability the Fed will maintain interest rates at this low level when the Federal Open Market Committee (FOMC) meets in September.

Responsibly Have Fun but Use Protection

It’s imperative to remain vigilantly prudent with your investments because weather conditions will not always remain calm in the financial markets. You do not want to get burned by overheated markets or caught off guard by an unexpected economic storm. Blindly buying tech stocks exclusively without a systematic disciplined approach to valuation is a sure-fire way to lose money over the long-run. Instead, protection must be implemented across multiple vectors.

From a broader perspective, at Sidoxia we believe it’s essential to follow a low-cost, diversified, tax-efficient, strategy with a long-term time horizon. Rebalancing your portfolio as markets continue to appreciate will keep your investment portfolio balanced as financial markets gyrate. These investment basics have produced a winning formula for many investors, including some very satisfying long-term results at Sidoxia, which is quickly approaching its 10-year anniversary. You can have fun at the beach, just remember to bring sunscreen and a windbreaker, in case conditions change.

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management

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