Locally based CPA firm since 1956

The markets finished a tumultuous February in positive territory with the S&P +2.28%, the Dow +3.77% and the tech heavy NASDAQ +0.93%.

What we learned in February, is that the ‘board youth of Reddit” sees the market as entertainment.  They latch on to a hero like Elon Musk or Mark Cuban and a villain like a hedge fund or a wall street big name and want to support the heroes and punish their villains.  With Reddit they were able to get more organized and attack the villain in a way the retail investor has not been capable in the past, collectively wreaking havoc on Game Stop stock and attempting to do so with Silver and a couple of other stocks.  While I never react to short term headlines, it was entertaining to watch.

The longer-term story for more serious investors is a steepening yield curve and rising inflation expectations. It should be noted that these rates are rising for the right reasons – ongoing vaccinations, a declining number of coronavirus cases and easy monetary policy. Beyond this, investors also seem optimistic about a new batch of stimulus checks. We believe this will be a good year for stocks but acknowledge that the tension between better growth and an easy Fed will keep volatility elevated throughout 2021.

Speaking of volatility – volatility is normal; do not let it derail you.  With few exceptions, the markets experience a pull-back or correction around 10% virtually every year.  In fact, over the past 20 years the average market decline in any given year is -14.3%.  You must see through the noise and plan on volatility, pull-backs happen.   Markets have suffered declines of 10% or more in 22 of the past 40 years, yet still ended those years with positive returns 75% of the time.

The question is not whether we will see a correction, but when. In general, volatility tends to rise when investor expectations and reality become misaligned. Right now, investors are expecting that as the economy rebounds and corporate profitability improves, fiscal policy will continue to deliver, and monetary policy will remain accommodative. This suggests that the biggest risks are tied to policy outcomes and the trajectory of growth. In the near-term, adverse developments related to the virus that delay economic re-opening would threaten expectations for an improving macro environment. Later this year, disappointment on the fiscal front or a Federal Reserve that changes its tune sooner than expected would both undermine the consensus view.

Complicating things in the current environment is the fact that both investor sentiment and valuations are elevated; this means that even small shocks have the potential to undermine markets. 2021 has started out on a positive note, but there is still much road that needs to be traveled.

For us Texans, we worry about the fossil fuel industry.  Although Texas is a much more diversified economy than back in the 1980s, energy is still our largest single industry.  As a result of the pandemic, both West Texas Intermediate Crude and Natural gas experienced a supply glut, but last year’s shut down and supply disruptions this year have helped to resolve that issue.  Both oil and natural gas prices could matriculate North all year.  The risk is that there is still some spare capacity over in the Middle East and in Russia that can come back online any time to oversupply that market. Biden budding up with Iran will also get Iran back in business which will not be good for prices. However, once that works through the system and demand picks up, supply should be constrained to a point where we can see $75 oil again and I have seen some projections as high as $120.  Despite all that, there will never be the drilling we saw in the U.S. like we saw in the past 8-10 years no matter the price. Despite the boom, operators could not cash flow the shale wells. They were way too expensive, and reserves declined too quickly.  The boom was done on easy, plentiful capital. The money guys have figured that out and will be hard pressed to get back in that game.

This month we celebrate St. Patrick’s Day, a day that holds a special place in my heart.  My grandfather was born on St. Patrick’s Day, so while I may forget my own birthday, I never forget my grandfather’s.

Surprising Facts about St. Patrick’s Day – the celebration of the patron saint of Ireland:

  • St. Patrick was born in Britain, not Ireland
  • St. Patrick was said to have banished snakes from Ireland.  Snakes have never occupied Ireland.
  • The shamrock, a three-leaf clover, was said to have been a virtual guide for St. Patrick when explaining the Holy Trinity.
  • The first St. Patrick’s Day parade was held in America on March 17, 1601 in a Spanish colony in what is now St. Augustine, Florida.
  • In 1845, due to a devastating potato blight, nearly 2 million Irish immigrants came to the shores of the United States.  Once they arrived, the Irish refugees were looked down up on as disease-ridden, unskilled and a drain on welfare budgets…………HMM……that story has a familiar ring.
  • The meals that became a St. Patrick’s Day staple – corned beef and cabbage – was an American innovation.  It seems corned beef was much cheaper than ham, which is what was traditional in Ireland.

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Have a question? Let me know! Email me at kcompton@wcmtexas.com.