The year was 2007. I was a fresh, motivated young man. I was about a year and half away from finishing college and received a job offer with a super-regional bank, in their private banking group, that was going to push me towards my ultimate goal of becoming a Financial Planner. What could stop me, right? How about the entire financial world getting taken to its knees because of the mortgage crisis? The stock market making a nearly 50% drop, large national banks like Wachovia, Washington Mutual and Penny Mac becoming insolvent. Long standing Wall Street Firms Bear Stearns and Lehman Brothers collapsing. And here I was, 22 and trying to make sense of it all. There were so many positives and negatives to starting my career during such a tumultuous time, however the one thing that still sticks with me today is how one particular Advisor I worked with, seemed to always stay positive and his clients LOVED him for that. As a matter of fact, irrespective of the crisis they were living through, clients were referring their friends and family, to this gentleman at a breakneck pace. “Come invest and do your financial planning with my guy” they’d say, “the stock market isn’t good but he'll get you on the path to success when it rebounds.” And the great thing was – they believed and trusted him. And guess what – it did get better. Of course, I had to know his secret sauce and he was gracious to give me sage advice. It was simple: Faith and The Power of Positive Thinking by Norman Vincent Peale. This Advisor told me, “This book will help you to improve your personal and professional relationships, break the habit of worry and develop the power to reach your goals. These are all things your clients will appreciate in you.” He was right!
As I searched the Scriptures, I came to learn the mentality of positive thinking is Biblical. I’m not talking about prosperity gospel positive thinking, however the type of positive thinking that helps me to understand everything is going to be ok and not worry about the uncontrollable. Let’s dive into some positive, critical thinking below, regarding today’s markets.
First, I’ll set the table for where we’re at today. As I write this, May 9th 2022, the market has certainly taken a breather with Growth Stocks (Nasdaq) down 25.71%, Aggressive Growth Stocks (Russell 2500) down 18.64% and the S&P 500 (blend of Growth / Growth & Income) down 16.26%. Even the safer side of a retiree’s investment portfolio (Bonds / Fixed Income) has seen a 10.11% loss YTD. Much of this year’s pain has been brought, as a result of rapidly rising interest rates, which serve as competition to stocks. January 3rd, the 10-year treasury was trading at 1.52% and today it closed at 3.12%. This is a level we haven’t seen since November 5th, 2018, which interesting enough was the middle of another 20% drop (which subsequently recovered early in 2019). That’s a big move for interest rates in less than 5 months.
Despite the headwinds, I continue to believe that stocks provide our clients the best opportunity for long term returns for their retirement and non-retirement investment portfolios. Simultaneously, we believe for retired clients, stocks, along with a diversified fixed income portfolio and potentially real estate exposure (either through your primary residence, rental properties or commercial real estate REITS) provide you with a diversified basket of assets for long term planning. Much like the book, The Power of Positive Thinking, taught me your circumstance today does not define you indefinity, the stock market losses today do not negate its long-term wealth building power! Remember, it’s giving you the ability to invest in some of the greatest companies the world has ever seen! Let’s dive into a few pieces I found instructive regarding the forward-looking outlook.
First Trust: Reducing Our Stock Market Forecasts
Granted, I understand the title might scare you a bit. However, to start 2022 almost every investment firm had a positive price target on the S&P 500 for 2022. Early on, the market looked promising however that quickly faded. Now nearly 5 months into the year, firms are starting to reassess their 2022 Investment Outlooks. First Trust, to start the year, had a price target for the S&P 500 at 5,250, which seems extremely unlikely at this point, including in their own updated models. They use a Capitalized Profits Model which takes into account future expected corporate profits and current invest rates to put a fair value target on the market. They like many did not see The Federal Reserve, being so aggressive with interest rates in 2022 to combat ongoing inflation, and therefore have now updated their model to include a 10-year treasury at or around 3.13% which has given them a fair value on the S&P 500 at 4,100 (today it closed at 3,991). When their model says the stock market is fairly valued – as it is today, that means there is an equal chance it could go up or down from here. However, they point to a few reasons they feel it may outperform to end the year:
Recession: The market is pricing in a recession soon however employment is strong, wage growth is happening. There seems to be little consensus among experts there will be a recession in 2022. Most of the research I’m reading expects a recession in the neighborhood of summer 2024.
War: Investors are still concerned about World War III. It seems Russia has understood that invading Ukraine has cost them and their economy so much already, they won’t escalate their aggression into other countries, consequently triggering NATO’s call for mutual defense. As it becomes more clear Russian aggression will be contained within Ukraine the market should price that in.
Republican Sweep: First Trust expects the House to take 247 seats which would be near the post-World War II high water mark. Additionally, they expect the Republicans to take 53 Senate seats. They don’t mean to say here that just because Republicans win, the stock market will rise however, they realize this will create divided Government with a Democrat in the White House and the corporate tax agenda would become dead on arrival in the legislature, protecting the Job and Tax Act of 2017, including corporate tax cuts.
Add those three market positive events along with their Capitalized Profit Model and they currently expect an equity rally to end the year, perhaps reaching 4,900. That’d be a 25% increase from today’s closing price
JP Morgan Guide to the Markets Charts
Each month JP Morgan updates their Guide to the Market. It’s an extremely valuable tool, if you like to look at charts to understand where things are at economically or from a stock market point of view. For this month I’ll highlight three charts I found instructive:
Corporate Profits and Sources of Total Return
The chart can be seen here. We know the primary reason a stock will rise long term is the growth of the companies’ earnings. Just as your income, is what allows you to build wealth, a company’s earnings are what will move their stock price up or down, long term. You can see going into 2023 and 2024, currently the consensus of analysts is a fair amount of earnings growth, nearly reaching $275 / share by 2024. Additionally, you can see on the chart to the right, so far in 2022 we’ve seen 5.2% earnings growth, however a negative S&P 500 of 13.33% at that point, which is tied to the higher interest rates we spoke about above.
Sources of Earnings Per Share Growth
The chart can be seen here. To date in 2022, Earnings Per Share Growth has reached 8.8% primary driven by revenue growth and a slight bump because of share buybacks (share count). Improvement in profit margin, which was extremely high last year thanks to inflation allowing companies to pass along much more price increase than they actually had within their business, has taken a breather this year, but overall, earnings per share growth is within a historical norm.
Annual Returns and Intra-Year Declines
The chart can be seen here. As Dave Ramsey says, “if the material I’m presenting can make it from your head to your heart, your life will be changed.” That’s how I feel about this chart. The average intra-year decline, meaning how deep a negative got within any given year, over the last 42 years, was -14% (we are currently at -16%). The stock market was still positive in 32 of those 42 years. In 2010 the market dropped 16% only to end the year up 13%. In 2011 the market dropped 19% only to end the year flat. Point is, you don’t know where the market will end the year, but you do know over time, companies have proven their ability to drive growth and improve their earnings, which will make its way to their stock performance. The only guarantee, is the guarantee of a loss, if you were to sell today. Don’t jump off the roller coaster in the middle of the ride. Don’t make a decision you’ll regret in 10 years.
The market is dynamic and there are many things that are unknown in the future. However, what you can control is your mindset, just as I learned so early from a great mentor and wonderful book I try and read every year. Remember above when I mentioned positive thinking is Biblical? Let me explain why. Matthew 6:34, “Therefore do not be anxious about tomorrow, for tomorrow will be anxious for itself.” Matthew 6:26, “Look at the birds of the air, they neither sow nor reap nor gather into barns, and yet your heavenly Father feeds them. Are you not of more value than they? And which of you by being anxious can add a single hour to his span of life?
Author: John-Mark Young