July 2011 Market Commentary

Market Commentary: July 2011

It feels great to be back in New England!  As usual, there are numerous topics about which I would like to write, and upon returning from my year away I am blessed with additional contacts and an enriched perspective to provide even more material.  Let me jump into the headlines: The sky is falling.  Or is it? 

The big stories in Washington are the debt ceiling with its August 2^nd deadline, and the new fiscal year budget with austerity measures beginning October 1^st, all in the face of high unemployment and a slow recovering economy.  Most folks close to the discussion believe that a deal on the debt ceiling will be made before the August deadline.  In the meantime, until the issue is resolved, the instability might hurt both the stock and bond markets.  [Any time government introduces more uncertainty, markets move further from their equilibrium, so we hope the problem is not kicked down the road causing shakiness in the markets even longer.]   

Looking a little larger, we acknowledge that while still in recovery mode, we are vulnerable to any type of shock that could tip the economy over into recession.  Many potential sources of a shock exist; however let me provide some context to one, the European debt crisis.  In economic terms, the global relationship between the U.S. and Europe is not equal.  In other words, a problem in the U.S. has a much larger impact on the world’s overall health than does Europe.  Two-thirds of the total EU trade is intra-EU, and only about 9% of all U.S. corporate profits come from the eurozone.  Put in perspective, the euro could decline by 30% relative to the U.S. dollar and the S&P 500 would lose only about 4%.  Without this context we might overstate in our minds the drama that is being played out in the headlines. 

If the scare over the debt ceiling and our vulnerability to a shock is not enough, some data from the 2010 census has revived discussion on the “3-D hurricane” (debt, deficit, demographics) that is coming to the shores of developed economies like the U.S.  This threatens to further weaken our economic recovery and to permanently alter growth to a “New Normal” with extended periods of lower economic expectations.  More positively, many emerging economies are painted as pictures of health with growing economies and young labor forces.  These are not the only global economic narratives of course, but they should remind us that the S&P 500 is not a diversified portfolio.  With all these headlines providing worry, the markets must be down, right?  Look at the chart below for the returns over the last quarter and year.

The positive returns over the past year do not diminish the concerns; they still persist.  And we remain vigilant to protect your investments and reduce the risk where possible.  As fiduciaries of your investments, we must understand the risks of

 a global market to properly structure your investments and provide a successful strategy.  A significant part of that strategy is often swimming against the current.

 Many years ago, behavioral science taught us that investors feel twice the pain over a loss than joy over a gain of equal value.  However, I believe globalization is helping to exaggerate that effect even more.  As Americans, increasingly we think of the global implications in everything from electing our President to how we recycle our trash.  However, it is clearer more than ever that though we enjoy and profit from having some technological and communication pieces of globalization (internet, email, Skype, text messaging, instant access to movies), most investors have not learned to cope with the global news that comes to us in a flurry each day.  And most of that news is scary, so they are left anxious and fearful.  The recent market action shows the value in adding to stock holdings during periods of heightened pessimism – swimming against the current.

We are cautiously optimistic that we will see gradual and yet uneven growth in the year ahead, despite the recent good numbers.  It is easy to speculate about gruesome outcomes of course, but it is important never to underestimate the ability of the world, especially the U.S., to recover from adversity, rejuvenate itself and get its house in order.  In sum, the economy is moving from recovery to expansion and that is harder to bring to a standstill.

Thanks to you, we are not standing still either.  Our business has grown because you have referred friends, family members, or businesses to us.  Every day we are grateful for that.  And every day we will continue to provide you the best advice and service that we can.  We look forward to our conversations and visits together and hope you have a wonderful summer. 

“Happiness depends on being free, and freedom depends on being courageous.” 

-Thucydides

Carl Amos Johnson, MBA, CFP®, AIF®

July 7, 2011