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The Brave Report: Market Commentary for December 2019

Click here for the .pdf version of this report: The Brave Report-December 2019

And this porridge was just right…. In what only can be described as a Goldilocks month the markets continued to rally, extending their run to all-time highs.  The end of earnings season, no surprises from the Fed, alleviation of recession fears and minimal negative news on the trade front led to the best month for the major indices since June. While there weren’t a lot of positive catalysts driving markets higher the reduction in uncertainties resulted in money flowing into equities.  While this Goldilocks environment has been nice, we have learned during the drawn-out trade dispute with China that things can all change with one tweet.  With an upcoming tariff deadline and trade negotiations ongoing I wouldn’t be surprised if we see an uptick in volatility in the coming weeks.

Market Overview

All major indices again powered higher during the month of November, logging the best month since June and the 3rd best month of the year. The S&P 500 and the DOW Industrials were up 3.5% and 3.7% respectively while the NASDAQ again outperformed, gaining 4.5%. This again extended the all-time highs we saw to end October.  If the year were to end today this would mark the 2nd best yearly return since the financial crisis and the 3rd best in the last 20 years.  Now we will have to wait and see if a Santa Clause rally pushes us even higher or some consolidation and profit-taking into year-end puts the breaks on the rally.

On the fixed-income side, we saw a sharp jump in rates early in the month only to see them settle back to close the month out only slightly higher than their October close.  After starting the month yielding just below 1.7%, the 10-year treasury spiked to its highest level since early August only to end the month in the mid 1.70s. With little to no action expected from the Fed, I think we could see some range-bound trading in the coming months unless another catalyst disrupts things.

Market Euphoria:  With the markets having such a historic year there is always the question of whether we have run too far too fast.  Historically, we also often see a last euphoric jump in the markets just before a market pullback.  With that said, I think it is important to put this year’s performance into perspective.  While we are up over 25% YTD, we are only about 7% above last year’s mid-year high.  We must also remember where we were starting the year.  We saw around a 20% pullback in the 4th quarter last year, bottoming right around year-end.  This means our starting point for this year was the lowest level the markets had seen since early 2017. This means that this year’s returns represent all the returns we have seen for almost 3 years. So, while the returns this year have been great, we really just got back to the longer-term trend line we have been on since the financial crisis.

I am not saying that we won’t see some consolidation and profit-taking at some point because we have run quite a bit in the short term, but I do not think this is some euphoric pop before a larger downturn. I think it is more a realization of positive fundamentals that we have seen over the past 3 years.  I talked a lot about this last year when the market was correcting in the 4th quarter.  Pullbacks are healthy for the markets because they provide entry points for the patient investor.  Fundamentals haven’t changed drastically from Q4 2018 but those patient investors that didn’t panic have been rewarded.

Trade Deadline: On the trade front we now have a looming deadline that could add some volatility to the markets.  New tariffs on Chinese goods are set to go into effect on December 15th unless they are delayed, or some sort of trade deal is reached.  We have heard a lot of speculation on both sides as to what will happen, but I think too much emphasis is being put on this date. Even if new tariffs get added on the 15th that doesn’t mean they can’t be reversed days later. I’m not saying markets won’t react on the short term to any news, positive or negative. For the long-term investor, this again provides a time to remain disciplined.  I think it is also important to discount any short-term news and only make investment decisions based on concrete developments.  If a trade deal falls apart, we can then reassess what that means for investors. On the other side, if an actual agreement is reached, we can then invest accordingly. Investing on speculation or unsubstantiated reports can become very dangerous at these times.

Year-End Strategies:  As we approach year-end it is always important to asses any opportunities to make sure you are best positioned from a tax standpoint and take advantage of any opportunities that might be out there.  Last year, with the pullback we saw, we had a great opportunity to harvest losses to help balance any gains we might have been sitting on.  This year is the opposite.  I expect most investors are sitting on unrealized gains, so it is important to understand your tax consequences if you sell or take any profits.

Additionally, with the markets rallying so much this year it is important to revisit your longer-term allocation.  Some sectors or strategies have vastly outperformed others, and this can lead to portfolios being out of balance which can increase risk exposure.  I am not talking about making wide-sweeping changes to your portfolio but to make sure your exposure to some areas hasn’t gotten to large or too small.

Strategy Commentary

I have continued to add to some equity positions over the past month but am holding off on more purchases until we get concrete progress on a trade agreement. While the markets have continued to hit new highs, the risks of new tariffs going into effect on December 15th and a deterioration in trade negotiations make a full overweight to equities unwise.  Add to that the run we have been on this year and I am comfortable waiting for some consolidation or a profit-taking dip to add back to other positions.

Domestically, I have maintained the same allocation as last month.  I have stayed overweight to technology and have increased exposure to financials and industrials.  With the fears of a global growth slowdown seemingly overdone and the potential of some sort of trade agreement (no matter how watered down) these sectors should be able to outperform.

I have also maintained my international exposure, favoring Japan and some select other Asian markets to any European exposure.  Internationally, I am still underweight as a whole but will look to increase my allocation if some sort of trade agreement is reached.  I think any agreement will push trade fears from the forefront and could help to prop up Asian Markets.

I am maintaining my neutral stance on fixed income.  With little action expected from the Fed, we shouldn’t see any major shocks to the fixed income space.  However, if trade negotiations do deteriorate, we could see a short-term rush to safety that would put some downward pressure on rates. I am still favoring the short end of the curve but am not looking to add to any positions right now.