Sheila and I have had a very enjoyable holiday season this year. It has been a nice blend of relaxation, time with family and friends, and even an opportunity to see a couple of movies and read some books. Our son Joe has been home from New York, where he recently accepted a position with the Gemini Trust Company as Compliance Counsel. The firm is one of the largest clearing firms in the US for crypto currency exchange and custody. While chatting with him over the last week, I have learned more about the intricate nuances of Bitcoin and Ethereum technology and best practices.While we have not yet included crypto currencies in client portfolios, and are very concerned about the bubble nature of the rapid rise in the value of Bitcoin, we are studying it closely.
As is my custom, I prepared to write this first article of 2018, by reviewing the 2017 version. Since our client group, staff, partners and family span the US political spectrum, I don’t want to imply particular support of one party over another. However, since both the market and the economy are so strongly tied to national government policy at the moment, it is impossible to ignore politics when evaluating both. As I projected, the stock market rose on expectations of regulatory reform from the Trump Administration, as well as the prospect of lower corporate taxes, and the possible return of Trillions of dollars held by US based corporations in overseas accounts. The Trump Administration and Republicans have literally “bet The House (of Representatives)” that those actions will drive economic growth, and they will be rewarded in the midterm elections, rather than suffering the typical mid-term losses of most first term administrations. With GDP growth projected by many sources to be above 3% next year, (for the first time in more than a decade), that augers well for both the economy and the market.If Democrats and Republicans can reach bipartisan agreement on a major infrastructure bill, growth could be even higher.
Having said that, we still must recognize that March of 2018 will mark the tenth year of this bull market run. Historically, that would indicate that we are closer to the inevitable correction of 20% or more. While we have our models well positioned to participate in a continuing bull market run, we also have significant hedges for both the inflation and rising interest rates that typically accompany hotter growth in the economy, as well as hedges that will provide significant protection in the event of a major market correction in the 20% to 50% range. Last year, I projected solid growth in the market, but have been surprised at how robustly both the economy and the market have performed. Of the dozen economists I typically read, Brian Wesbury was the most optimistic when on January 1, 2017 his capital adjusted model predicted a Dow close of 23,500 on December 31, 2017, and Dow 30,000 by the end of 2019, assuming the Trump initiatives were successful.
I correctly predicted multiple rate hikes by the Federal Reserve for 2017, and I think that will continue in 2018. If the economy continues to grow at 3% or better, and unemployment stays below 5%, we can expect the Fed to accelerate reducing the debt they hold on their balance sheet, and continued hikes in short term interest rates. That will hurt the performance of fixed rate debt (most bonds), and our diversification into variable rate debt will be very helpful to all three AOG models.
As predicted last year, US energy production costs did plummet, and prices have begun to recover. In 2016, we did find investment opportunities to purchase distressed assets, in addition to our regular energy investments. With the most recent tenuous agreement by OPEC to limit production, oil prices have climbed back above $60 per barrel and natural gas prices the mid $3s per MCF.We expect continued incremental increases in energy prices, especially if worldwide growth moves above 3%.
At AOG, we have continued to refine our procedures to enhance our client experience. We have continued to review our real estate offerings, and moved to a combination of large institutional funds and smaller funds that can be nimbler as we progress into later “innings” of this real estate cycle. We now have enhanced both the number and quality of offerings for both private debt and private equity, and added a strong new offering in the Managed Futures/Hedge Fund asset class.