2019 1st Quarter Outlook

Review of 2018

Last year felt bad, didn’t it? Without looking at the numbers, it seems like it was a horrible year. And yet, U.S. stocks did decline, but only by 4%. Bonds were flat for the year. All things considered, 2018 wasn’t that bad. Yes, international stocks did worse, declining by 14%, and emerging stocks fell by 15%, but the majority of most investors’ investments are in U.S. markets.*

We consider a “bad year” something like 2008, when stocks fell by 37%, or the popping of the “internet bubble” of 2000-2002, when stocks lost an aggregate of 37% over those three years. Let’s put last year in perspective – the loss of 4% means investors earned an average annual return in stocks over the past two years of 8%, and an average annual return over the past three years of 9%.

So, why did 2018 feel so bad? We think there are two reasons. Last year’s decline was the first in ten years, so it seems unusual. For perspective, a typical ten-year period incurs two or three annual declines. Second, all the decline was in the last quarter – we all suffer from recency bias, and we remember the last quarter more than the first quarter. By the end of 2016, most investors forgot that stocks lost 11% during the first six weeks of the year.

In October we said there were signs that volatility might be spiking upward – concern over trade policy, earnings, interest rates, and recent sharp market movements. While few analysts expected the level of the decline that occurred, it wasn’t a shock that stocks dropped in value.

State of U.S. Economy

Below is a table showing key economic and market indicators (as of December 31)**:

The data continue to show strength in the economy. Perhaps more importantly, according to Standard & Poor’s, stock analysts’ aggregate earnings forecasts predict a growth in earnings of 16% over the next 12 months

Stock Market Outlook

All the worries we mentioned three months ago – trade, interest rates, earnings – in addition to global growth (particularly in China), still persist today. However, putting things in perspective:

  • The Federal Reserve has suggested that the steady stream of interest rate increases may be coming to an end.

  • Analysts’ forecast data suggest that the fears of trade and slowing growth will not be severely impacting corporate profits, and it’s those profits that drive stock market valuations.

  • Compared to the average for the past 20 years, stock market valuations are relatively cheap.

It certainly does not seem like it’s a time to be panicking.

Bond Market

Unlike the recent few years, bonds were relatively volatile last year. To some extent they were the reverse of stocks – declining in value for the first three quarters but ending the year flat. Most of those fluctuations were caused by concerns about Fed policy, and those fears may have abated. Last year we suggested shorter maturities, and for now, that slight change in allocation policy makes sense.


Throughout the past few years, as stocks continued to increase in value, we warned of over-exuberance, and cautioned investors to maintain a consistent allocation policy. We now feel obligated to warn of over-pessimism. Large market declines happen – over six weeks (such as 2016), over a year (such as 2008), and over three years (such as 2000-2002). The one consistent lesson from the capital markets is markets recover, and consistency has always been rewarded.

* Source of returns is Morningstar, Inc. Past performance is not indicative of future results. ** Sources: Bureau of Economic Analysis, Bureau of Labor Statistics, JP Morgan, Federal Reserve Board


Featured Posts