Category Archives: Quarterly

What a Long Strange Trip It’s Been

Fortis 4th Quarter Letter 2019

What a Long Strange Trip It’s Been 

Sometimes the light’s all shinin’ on me
Other times, I can barely see
Lately, it occurs to me
What a long, strange trip it’s been

By the Grateful Dead


I am not a Dead fan but it’s the first song that came into my head while reviewing the decade of charts and data that we experienced in the past 10 years.  After surviving the biggest economic downturn since 1929, the market and the economy went on a historical 10 year run that now registers as the longest economic expansion in history.  It did this with most of the U.S. public still shell shocked from the Great Recession and reluctant to believe or go all in.  It was a decade of historical firsts including the S&P earnings on record, the only decade in history without a recession, and these feats were pulled off with corporate and consumer spending being below average.

It’s a great time to be alive in America.  Since the 1980’s auto fatalities have been cut in half, homicides have been cut in half, the amount of people dying on commercial flights have been cut in half, the number of people dying from heart disease has been cut in half, and dementia rates have dropped 44%.  Some of these statistics will play into the second half of my letter around the new normal for retirement in America.
Click here for source

As the new decade starts, we have many reasons for optimism but there are reasons for caution regarding your investment portfolios.  We are facing massive optimistic outcomes around the Fourth Industrial Revolution: mobile supercomputing, intelligent robots, self-driving cars, genetic editing, and neuro-technological brain enhancements are just some of the things to come.  Contrary to some perma-bears these new technologies have not caused mass unemployment.  For 250 years, pundits have been predicting new technology would destroy the job market by replacing the need for people but here we are in 2020 sitting at 3.5% unemployment.  We have more jobs available in the U.S. right now than people to fill them.

The issue with the coming decade is what Larry Swedroe of Buckingham Research refers to as “The Four Horseman of the Apocalypse.”  People planning for retirement face historically high equity valuations, historically low bond yields, record high private equity/ private company valuations and increased longevity as the number of Americans living into their 90’s hockey sticks upwards leaving them at risk of long-term care costs.

Congress is presently approving sweeping overhauls to the retirement system because they believe Americans between 35 and 64 face a retirements savings shortfall of $3.83 trillion, with 41% of households projected to run short of money in later life, according to the non-profit Employee Benefit Research Institute. 
Source: The Wall Street Journal “Congress Passes Sweeping Overhaul of Retirement System” Updated December 19, 2019

No generation in history has faced these issues, no reason to panic or stress, it’s a time to prepare and plan.  We are not storming the beaches of Normandy here; this can be handled through proper advisement.  More to come later in letter.
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The Post Great Recession Decade

2010 Decade Had Highest Earnings Growth on Record. “So what do the numbers reveal about the last decade? Of the S&P 500’s 13.3% annual return since 2010, 2.3% came from dividends, 10.2% from earnings growth and 0.8% from the change in the market’s valuation, as measured by the 12-month trailing price-to-earnings ratio. In other words the vast majority of the gains can be attributed to a spike in earnings rather than investors’ willingness to pay more for stocks. In fact, the decade’s earnings growth was the highest on record.”

Don’t Expect the Roaring ’10s for Stocks to Repeat in the ’20s

By Nir Kaissar
Click here for full article

The logical question is can we keep growing earnings at the same double-digit rate of the past decade.  In my 25 years studying markets on truism I’ve learned  that all things prove cyclical, it would seem a low probability bet that we can keep growing earnings at these levels.  We are at full employment and after a long period of muted wage growth, we are now seeing a pick-up in paychecks.  I believe eventually the increased costs of that labor will show up in earnings.  However later in this article, we will touch on the well-being of consumers balance sheets that could help prolong this bull market.

Also, none of the 5 recession indicators that we watch at Fortis are flashing red.  I started off my Q1 2019 letter with a chart showing the inverted yield curve but pointing out that the bear does not start until one year after the inversion and no other recession signals were at hand.  A few months later the yield curve had un-inverted as the FED started cutting rates and the market was off to the races.

2010’s Only Decade Going Back to 1850 Without a Recession.

Ben Carlson

This will be the first decade in modern economic history (since 1850) that the US won’t experience a single recession. Would you bet that we will see the next 10 years’ experience the same thing?  I am bullish on America, but we will eventually have to self-correct before moving on to new highs.

It is not unheard of for countries to run 20+ years without a recession as Australia and England have pulled it off in the past.  Keep in mind we can have a bear market (-20% correction) without a recession.

Found on Barry Ritholtz The Big Picture Blog

Click here for full blog post

If there was ever a time for a bear market without a recession the early 2020’s could be the time.  Even with record earnings and no recessions, companies and individuals remained cautious with spending.  As mentioned in previous letters, 2008 left the biggest investing hangover since 1929 leading to the most hated bull market of all-time.  Even with the S&P +30% in 2019, more money flowed to bonds than stocks as people built up stockpiles of cash.  The savings rate has skyrocketed since 2008 and consumers have cut debt.

Ten Years into Expansion Discretionary Spending for Consumers and Corporates is Still Below Historical Average

Torsten Slok

This expansion has been characterized by an extreme degree of caution among consumers and corporations. In a research note, Torsten Slok, Ph.D., Chief International Economist of Deutsche Bank Securities indicated that both households and companies remain skittish about spending and taking on risk more than a decade after the global financial crisis of 2008-2009. Slok shared a chart (see below) that shows how unusual this situation is compared to previous cycles. Slok said the lack of willingness to spend on consumer durables (automobiles, household goods (home appliances, consumer electronics, furniture, tools, etc.), sports equipment, jewelry, medical equipment, firearms, and toys) and corporate CapEx (capital expenditures) is also the reason why this expansion has been so weak. Slok said it’s also the reason why this expansion could continue for many more years. Why? Because we are simply less vulnerable to shocks in 2020 than we were before because there are fewer imbalances in the economy.

Mr. Slok discusses consumer durables and corporate capex.  Examples of consumer durable goods include automobiles, household goods (home appliances, consumer electronics, furniture, tools, etc.), sports equipment, jewelry, medical equipment, firearms, and toys.    Capital expenditures, commonly known as CapEx, are funds used by a company to acquire, upgrade, and maintain physical assets such as property, buildings, an industrial plant, technology, or equipment.  CapEx is often used to undertake new projects or investments by the firm.

In simple terms, we experienced this massive decade without companies and people buying big ticket items.  What a long strange trip it’s been to have no recessions during this anomaly in spending.

Household Balance Sheets

I have referred to the 2008 Great Recession as the longest investment hangover ever, so consumers elected to cut debt.  Household debt service is currently at a 40-year low as a result of low unemployment, low interest rates and muted consumer borrowing for big ticket items.

The most vivid comparison is looking back to where this long strange trip got its start, the 2008 crisis.  The following image tells the story on how we kicked off this record decade, U.S. household liabilities as a % of disposable income has fallen off a cliff over the past decades as everyone dug out of the trenches from 2008 leverage predicament. 

The U.S. Household Total Liabilities as a % of Disposable Personal Income

(DPI), 1990-2019
The 2010s in Review
BY BENJAMIN HARDEEPh.D. Silicon Hills Wealth Management 

Click here for full article

What does the American Investor Face in the Next Decade and Beyond?

Referring back to Larry Swedroe’s four horseman: historically high equity valuations, historically low bond yields, record high private equity valuations and increasing longevity for investors.  No generation has ever faced this situation.

Stock Market-High Valuations

The stock market is not in a bubble, but it is at the high end of historical valuation metrics.  Don’t get bogged down in the details of chart below, this is a good measure of stock market valuations-the Case Shiller PE Ratio.  When it’s high, stock market valuations are expensive, as you can see we were only higher than today in the 1999 bubble.  In 150 years, no bull market has ever started with the Case Shiller above 30.

No Bull Market Has Ever Started with Case Shiller Above 30

Click here for source

Bond Market-Low Bond Yields

The best measure of a bond’s future return is its coupon, right now bond yields are historically low pointing to muted future returns.  Remember our previous webinars and letters, the primary reason to hold bonds right now is for lowering the overall volatility of your portfolio.  As you can see in the image below, coming out of previous crisis situations like 2008, bond yields stay low for long periods of time.

Historically Low Bond Yields

The best measure of a bond’s future return is its coupon.  From 1926-2017, the five-year Treasury bond returned 5.1%.  the current yield on these two Treasury securities is 1.62% and 2.06%.  Those relying on historical bond returns could be disappointed.

Private Equity Market-Record High Valuations and Cash

Money is pouring into private equity funds as investors are sold on the longer-term returns versus the stock market.  The problem is that valuation[DM5]  gap between private companies and public companies has narrowed as too much money is chasing too few companies.  See image below with huge valuation gaps back in 1990’s and early 2000’s now narrowed to de minimis.  Private equity is now sitting on over $1 trillion in cash to deploy in a marketplace with few bargains.   Some would even say we are in a private equity bubble as the second image points out from Barrons.

Graph below showing that valuations between public and private companies has narrowed.

By Larry Swedroe
November 7th, 2019 – Research Insights, Larry Swedroe, Behavioral Finance

Click here for full article

Historically High Private Equity Valuations

5 Signs We’re in a Private-Equity Bubble

1) Too much capital chasing too few deals.

The first nine months of 2018 saw private-equity firms raise an average of $192 billion globally each quarter, more than in any previous year except 2017, according to Preqin. In July, Carlyle Group (CG) closed its seventh fund at $18.5 billion, which was 42% larger than its predecessor and the biggest in the firm’s history. Private equity deals now account for 33.3% of global M&A activity, up from 30.3% during the first three quarters of 2017, according to data from PitchBook.

2) Prices at record highs.

Buyout groups are now paying an average of almost 17 times earnings before interest, tax, depreciation, and amortization, or Ebitda, for their targets, compared with 14 times Ebitda in 2017, according to data from Dealogic.

3) Secondaries soaring.

The secondary market—where investors buy and sell stakes in existing private-equity funds often at a discount—reached a record deal volume of $27 billion in the first six months of 2018, outpacing the $22 billion raised during the same period in 2017, according to analysis by independent investment bank Greenhill.

4) Deal debt rising.

Leverage for buyouts increased to 6.94 times Ebitda in the third quarter, the highest level since the same three-month period in 2014, according to data from Refinitiv. That stretches the leverage ratio cap of six times Ebitda suggested by U.S. regulators.

5) Talent wars.

Headhunters and recruiters are reporting unprecedented levels of hiring in the industry, which is pushing up pay packages

By Lina Saigol, Financial NewsNov. 29, 2018

Longevity-Hockey Stick Higher of Americans Living to 100

We are facing lower returns for the next decade as Baby Boomers retire and Gen X is facing the backend of their careers but it’s happening just as life expectancy skyrockets needing our money to last longer.  Not to mention the fact that Millennial balance sheets are not nearly as healthy as their parents were in early adulthood leading to a high number of parents who may continue to support children and grandchildren for years to come.

Click here for full article


In a 24/7 news world financial pundits are omnipresent leading you to obsess about investment returns.  Reality is financial plans fail for non-investment reasons such as premature death of family’s main income earner, forced early retirement, lack of sufficient personal liability insurance, poor estate planning or lack of long-term care insurance.

This should be the decade of planning for smart investors.  The key is viewing all your buckets as interactive-cash flow planning, tax mitigation, transferring wealth to next generation effectively, insurance, and charitable giving.  Smart planners such as Fortis can help you connect all these buckets giving you a fully integrated estate, tax, investment and risk management plan for your family.

A market recession is not worth obsessing over as the  Blackrock chart below clearly points out.  The planning issues facing Americans for the first time in history are much more important.   In our experience at Fortis very few citizens are prepared for the coming crisis so act now to be ahead of the pack to live richly without worrying about running out of money.

For What It’s Worth – These 2 will Not Cause the End of the Bull Market

Fortis Wealth Q3 2019 Firm Letter

“For What It Is Worth”

Buffalo Springfield

Paranoia strikes deep
Into your life it will creep
It starts when you’re always afraid
You step out of line,

the man come and take you away

We better stop, hey, what’s that sound
Everybody look what’s going down
Stop, hey, what’s that sound
Everybody look what’s going down
Stop, now, what’s that sound
Everybody look what’s going down
Stop, children, what’s that sound
Everybody look what’s going down

Written by: Stephen Stills
Lyrics © Warner Chappell Music, Inc

The U.S. Political Landscape is Leading Concern Among Investors – SCHWAB

The U.S political landscape is overwhelmingly the leading concern about investing among clients.

Click here for source and full document

he paranoia around presidential elections is hitting record levels, we better stop and listen to what’s going down.  We spend a big portion of our life listening to storytelling.  As kids, parents and teachers tell us stories.  As adults the news media is about storytelling, investing is about storytelling, and nothing paints a better story than politics.  I may be early with this letter as the presidential election is more than a year away but it’s possibly shaping up to be the ultimate scary story for investors.

As I write this letter, it is increasingly looking like a Trump vs. Warren election and a Trump impeachment investigation, which may be the ultimate binary event for American voters.  Never in history has an election been so important except for every other election in history.  Most of my conservative friends thought the world would end if Obama got elected and most of my liberal friends thought the world would end if Trump got elected.

If you made either of those investing bets based on politics, your wallet is probably lighter.  The chart below shows that Obama obviously did a better job with the economy.  Actually this would be a false assumption, as Obama took office when the S&P was trading at generational low valuations.  The single best predictor of future returns is where valuations are today, the next President will not have the luxury of beginning his or her term with low valuations.

click here for source

I write a daily blog, a weekly newsletter, quarterly letters and occasional white papers, none of which mention politics as that is not my expertise plus the last thing people need in today’s connected world is another political pundit.  I am also a registered independent so although I do not worship at a partisan political church, I do worship at the altar of behavioral investing.  Many of you who have read my letters in the past know the mantra of Fortis is “investing is a psychology game not an IQ game.”  Our emotions are the enemy, and nothing agitates the emotions like politics.  For a perfect example of knee jerk emotional reaction see the bottom left of previous image marked “inauguration,” on Obama’s inauguration day the S&P, Nasdaq and Dow all dropped over 5% in a spontaneous short-term reaction to the thought that America could indeed become communist.

Every investor I speak with today goes right to politics and the presidential election; I believe that would make you normal.  All issues are political issues, so keeping out of politics is an impossible human folly but I think keeping them out of your investment portfolio is a necessity.  As humans, we are full of personal biases, it’s best not to let them creep into your retirement portfolio because the result could be permanently toxic.

Why is it so toxic?  When the chips are down, we would rather be wrong and still belong to our tribe.

Let me quote from a Financial Times article that, in my assessment, goes to the core of human behavior:

“We humans are social creatures. Given a choice between being right on a partisan question (abortion, guns, Brexit, globalisation, climate change) and having mistaken views that our friends and neighbours support, we would rather be wrong and stay in the tribe. … in surveys of views on climate change: college-educated Republicans and Democrats are further apart on the topic than those who are less educated.”

Click here for source

Sticking with your tribe may be fine for social purposes as we all need a community to achieve a sense of happiness but leave your tribes behind when it comes to investing.  Investing based on political party in office can get you broke in a hurry as the following chart depicts staying fully invested versus riding only your tribe’s donkey or elephant.

Inevitably when friends and clients see this chart, they flat out don’t believe it.  It’s simple math but the political tribe pull is so strong that it seems for many it’s hard to  comprehend the truth.  In very few sports rivalries as vicious as politics does a 150-year game end in a tie but Republican versus Democrat stock returns delivered a dead tie from 1853-2015.

Click here for image source and full document

Keep in mind, you should definitely care in a passionate manner about your political beliefs and always participate in the political process, but you should probably turn off the dashboard of your investment portfolio when you do it.  Treat investments and politics as church and state, two completely separate silos of thinking within your household.

Raymond James surveyed 1,000 US investors with at least $75,000 in the markets in August. Forty percent said that politics were either “extremely or very important.”  What’s more, 70% said that news headlines in general influence their investment decisions.

Click here for source

In my opinion, don’t make changes to your long-term portfolio based off elections but do get ready for short-term volatility from political storms especially an impeachment.  Thankfully, we don’t have much history on impeachment hearings, but my friend Bill Stone at Avalon does a good job of summarizing the stock market returns under Nixon and Clinton impeachments.  It’s tough to flesh out much from these statistics because the economic cycle was in massively different stages during these presidencies.  The Nixon 1970’s saw inflation, stagnation and high employment while the Clinton 1990’s saw low inflation, booming economic growth and full employment. 

S&P Returns Around Impeachment Hearings.

From Bill Stone Avalon

Click here for source

Right now, the American investor is obsessed with a slowdown and recession, every CPA, banker, investment professional and lawyer I speak with uses the same term “late in the cycle.”  Every investor I speak with asks when is the stock market going to crash, as you can see in the below image, Google searches on the word recession took a hockey stick spike as we enter possible impeachment hearings and a heated election season, this obsession could be exacerbated.

Google searches show recession fears have spiked dramatically since the end of July, when the Federal Reserve cut interest rates for the first time since the financial crisis.

It would appear this negative obsession heading into election season is not grounded in the history of the stock markets as the following images illustrate.  As you can see below, the years prior to a presidential election, and the election year itself, tend to be good for stocks as candidates make promises for a new tomorrow.

Click here for source

5 Investing Topics to Think About Seriously

1. The Fortis Q2/2019 Firm Letter Pointed Out Inverted Yield Curve.

Read in the letter below how this is a serious recession signal but not a timing mechanism

CLICK TO READ FORTIS Q2 2019 LETTER: Every Time It Gets Cloudy This Bull Market Finds a Way to Shine Until Tomorrow by Matt Topley

In a 1986 dissertation, economist Campbell Harvey identified an economic indicator that would precede the next seven recessions that indicator is known as “a yield curve inversion”

Courtesy of Campbell Harvey

Click here for source

2. Vanguard Updated 10 Year Projected Returns.

Vanguard returns appear to be telling investors to temper expectations after a great 10 year run and we may see a rotation in leadership for the next decade.

These probabilistic return assumptions depend on current market conditions and, as such, may change over time.
IMPORTANT: The projections and other information generated by the Vanguard Capital Markets Model regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results. Distribution of return outcomes from the VCMM are derived from 10,000 simulations for each modeled asset class. Simulations are as of March 31, 2019.  Results from the model may vary with each use and over time.

Click here for full article from Vanguard

3. The Unemployment Rate Can’t Go Much Lower So Wages Have to Go Higher. 

Unemployment Rate Slightly Higher than Post WW II Record Lows.

Click here for source

4. This Feels Like the Biggest Bull Market Ever. In Reality the Last One Was a Lot Bigger.

1987-2000 Bull Market +600%

Click here for source

5. After a Demographic Lull, American Prime Age Spenders may be About to Hit a Growth Spurt.

Click here for source


If you built an investment portfolio based off politics or geopolitical events, it could permanently sit in cash because the world is such a scary place.  As pointed out in previous letters, reality is that the S&P 500 is up 15,000% in the last 70 years surviving an endless amount of doomsday scenarios that never fully pan out. 

Now as we are about to move to the forefront of our news cycle political theatre is at its highest level, but the end of the bull market will likely not be about presidential election combat.  Bull markets historically end due to higher inflation, rising interest rates, war, overvaluations or recessions.  This bull is likely to fall under traditional recession with overvaluations but timing it, as always, will be impossible.   An inverted yield curve is certainly a first shot across the bow of this bull but the average time before a recession starts after inversion is one year out.

If the bull market was to end quickly in the next couple quarters, it would certainly be a strange set-up with the Fed lowering interest rates, money pouring into bonds, and positive election cycle seasonality kicking in.

As hard as it may be, we should separate our political passions from our investment passions.  In my view invest based off your goals not your political affiliation, if you don’t need to live off your investments in the near term, embrace any political sparked stock market volatility as an opportunity to buy lower priced stocks.

At some point America will have a crisis but I expect we will survive and thrive because that’s what Americans do.  When the crisis hits just don’t make things worse by getting emotional and making irrational decisions.  You don’t have to be super smart, just keep it simple and don’t be foolish.  Do you think the next crisis will be worse than the 6 on the following graph?  We survived them all.

Every Time it Gets Cloudy This Bull Market Finds a Way to Shine Until Tomorrow

2nd Quarter 2019 Letter

Let It BeThe Beatles

And when the night is cloudy there is still a light that shines on me
Shine until tomorrow, let it be
I wake up to the sound of music, Mother Mary comes to me
Speaking words of wisdom, let it be

Let it be, let it be, let it be, yeah, let it be
There will be an answer, let it be
Let it be, let it be, let it be, yeah, let it be
There will be an answer, let it be
Let it be, let it be, let it be, yeah, let it be
Whisper words of wisdom, let it be

Source: LyricFind
Songwriters: John Lennon / Paul McCartney
Let It Be lyrics © Sony/ATV Music Publishing LLC


It’s official. July 1st marked the date of the longest economic expansion in U.S. history. As the Beatles sang in their iconic anthem, “Let It Be,” every time the night gets cloudy for this bull market there is still a light that manages to shine through. Will this record-setting expansion shine until tomorrow?  Should you just sit by patiently and let it be?  These are questions that have been vexing economists and financial advisors for quite some time, so let’s try to bring some clarity.

Yes, the U.S. economy is in the midst of its longest expansion on record—121 months and counting–but some other milestones are being surpassed that could change the dynamic of this market. Take interest rates. As mentioned in my letter to you last quarter, the U.S. yield curve has inverted for the first time since 2007. True, the curve initially corrected itself after inverting earlier this year, but it quickly inverted again and has remained that way for over 30 days. Again, an inverted yield curve means investors are being paid more for holding very short term debt than they are for holding long-term debt. It’s counter-intuitive and usually means investors are very nervous about the future.

Longest Economic Expansion Since WWII.

Another eye-catching statistic is that the performance spread between growth stocks and value stocks is at its fourth highest level in a century.

As BlackRock’s Andrew Angle noted, “The value drawdown that started at the beginning of 2017 is one of the worst investors have faced.” 

Yield curve update and global interest rates

As mentioned in last quarter’s letter, the yield curve inversion is not a timing mechanism, since the market historically performs pretty well another 12 to 18 months post-inversion. We also saw yields on the 10-year Treasury bond break below 2 percent in Q2 of this year—a time when $12 trillion of international bonds are trading at negative interest rates in the midst of a global move downward. That could be a massive amount of money essentially being parked in shoeboxes under investors’ beds!

Source : Torsten Sløk, Ph.D.Chief Economist Managing Director Deutsche Bank Securities

Everyone is talking about the end of the long-running bull market in U.S. equities, but in the second quarter of 2019, the most crowded trade in the world became U.S. Treasuries. Even though rates are abnormally low, the Fed Funds futures market is now signaling a 100 percent chance that the central bank coule ease its monetary policy next month. Incredible!

Here are some excerpts of the notes coming across my radar recently:

For the first time ever, being long US Treasuries was considered the most-crowded trade according to the June global fund manager survey conducted by Bank of America Merrill Lynch.

The bet on government bonds beat out popular crowded trades such as tech, high-quality and emerging markets, each of which has occupied the list’s top spot since 2013.

The study was released Tuesday during a week in which traders were watching multiple events that could set the course for global growth going forward: the Federal Reserve meeting Wednesday, and the G20 summit later in the month.

Historically, when equity bull markets end money pours almost exclusively into stocks. But today, we have seen government bonds beat tech stocks as the most crowed trade in the market and bond ETF assets have doubled over the past year alone.  I don’t know anyone who is bulled up on stocks–, it’s the single biggest anomaly I have witnessed in my 20-plus year career in finance. As mentioned in previous letters, the Great Recession of 2008-09 caused the massive equities risk hangover we haven’t seen since the Great Depression of 1929.

Bond ETFs double assets in one year

As shown above, bond ETFs are booming. According to Dave Lutz (Jones Trading), essentially every category has recorded double-digit growth in average weekly volumes between last year and 2019.

With the inverted yield curve being in place as the first serious sign of a recession in the near future, could the American investing public be right?  After hundreds of years of market flows proving the American public and professional investors as horrific market timers, could this time be different?

As I discussed in my Q1 letter, it’s important to be sure that an inverted yield curve is not just a temporary anomaly:

“First, it’s important to remember that not everyone uses the same definition of ’inversion.’ Like the San Francisco Fed, I consider an inversion to be a situation in which the yield on 3-month Treasuries is higher than the yield on 10-year Treasuries. According to the Cleveland Fed, inversions of that 3-month/10-year spread have preceded each of the past seven recessions, including the 2007-2009 contraction. The Cleveland Fed acknowledged there have been two ‘false positives’ — an inversion in late 1966 and a ’very flat’ curve in late 1998.

First crack in the bull market, but don’t get fooled again

Refer to last quarter’s letter for details about historical returns post-yield curve inversion. Again, the important piece of new data this quarter is that the inverted yield curve has remained inverted—it’s not a temporary blip.

Why aren’t oil prices spiking—another key recession indicator?

Most finance textbooks and market historians argue that recessions are caused by the Fed raising rates and/or oil prices spiking. As Moody’s chief economist Mark Zandi told CNBC, “Quickly rising oil prices have been a contributing factor to every recession since World War II.”   

The first 17 years of my finance career were spent on a trading desk. If you ever had a situation in which Iran attacked oil tankers in the Strait of Hormuz and shot down a U.S. military drone in the same month, you can bet your butt that oil prices would skyrocket!  But today it’s different. Sure, Iran’s recent actions put us on the brink of a hostile U.S. military response, but the price of oil barely budged. Further, the oil volatility index was rolling over just a few days later. Which is hard to believe!

It’s almost unthinkable that President Trump was within hours of a military response against Iran and oil only moved 2 percent higher. But the next several charts help explain why:  

Crude oil production exploded after the 2008 Great Recession

Ed Yardeni


As domestic oil supply expanded to the point that the U.S. become a net oil exporter, our reliance on Persian Gulf crude evaporated. In late June, President Trump said the U.S. may lessen its role in the Strait of Hormuz as domestic oil and gas output grows and our energy imports from the Middle East decline.
Combine massive oil supply and demand changes with climate change and shifting attitudes toward clean energy technology and you have an impetus for massive economic transformation in the Middle East. United States imports of Persian Gulf crude are down by nearly 70 percent over the 10 years. As a result, a number of Middle Eastern countries will need to adjust their economies substantially.

4 major themes dominating global markets

Theme 1-passive management fund flows continue to crush active management

So far this year, about $39 billion has shifted into passive funds and $90 billion has shifted out of active funds. Many think that 80 percent of the market is now on autopilot. Passive investments control about 60 percent of equity assets, while quantitative funds — those relying on trend-following models instead of on fundamental research — now account for 20 percent of market share, according to estimates from J.P. Morgan.

“The pace of outflows from active is at a cycle high while the pace of passive equity inflows has bottomed and [is] beginning to reaccelerate,” Dubravko Lakos-Bujas, J.P. Morgan’s chief U.S. equity strategist, said in a note on late in June.

Theme 2-Large -cap growth stocks and S&P 500 stocks continues to dominate performance

In past letters I have talked about the widening spread in performance and valuations between large cap U.S. stocks and international markets. Large cap growth stocks now trade at close to 9x price to book (P/B) value compared to 1.5x P/B for emerging market stocks and 2.5x P/B for developed market stocks. 

The entire outperformance of emerging market stocks since 2003 has been erased

This might explain why the sell-off at the end of last year functioned as a correction to drawn-out U.S. outperformance, while this latest moment has seen emerging markets lag behind the S&P 500 even more. At this point, all the outperformance by emerging markets since 2003 has been canceled out – an extraordinary statistic given the speed of growth in much of the emerging world. 

(placeholder Vanguard growth vs. EEM emerging markets 5 year)

Theme 3 -Growth investing is crushing value investing

  1. S&P growth stock vs. value stock rallies above 1999 record spread
  2. I started my trading career in 1997 in the early innings of the Internet bubble. I never thought we would witness such a large spread between growth and value stocks again. I was wrong. Not only are we seeing a spread of historical proportions – but we are hearing many of the same themes that we heard in 1999. Twenty years ago, Goldman Sachs published an ill-timed piece about the death of value stocks and a Forbes article suggested for Warren Buffett should call it quits after 10 years of under-performance.

On December 7th, 1999, Barron’s published the infamous “What’s Wrong,Warren” cover eerily before the Nasdaq crashed 50% and Berkshire recovered years’ worth of underperformance.

The below graph plots the time period 6/30/98 through 2/29/00 for the Nasdaq where many dot-com and technology stocks traded, and the price of Berkshire Hathaway, Warren Buffett’s holding company, which consisted of value stocks:

S&P 500 Growth vs Value gets over the 2000 peak, twits notes.

S&P 500 Growth vs Value gets over the 2000 peak, twits note

20 years later “The Big Guy” is back on the cover of Barron’s as “CEO of the Year.”

Take a minute to review the chart below. How many Millennials are familiar with this chart? In my experience, Amazon means just two things to them–(1) that’s where they order almost everything in their lives and (2) the stock only goes up. 

1999-2000 Nasdaq and Amazon chart.

Theme 4-Demographics is destiny

Speaking of Millennials, we tend to be passionate believers in the power of demographic trends.  Consider these facts:

  • By the year 2020, eight of the top ten demographic cohorts will be under age 40 (Boomers will be fading away).
  • By the year 2030 the top 11 cohorts will be the youngest 11 cohorts.

There will be plenty of “gray hairs” walking around in 2020 and 2030, but the key for the economy is that the number of Americans in their prime working years is now increasing. If nothing else, this should be a positive trend for housing and the economy.

U.S. Demographics: Largest 5-year cohorts, and Ten most Common Ages in 2018

by Calculated Risk on 6/11/2019 11:59:00 AM


As shown above, the U.S. has the largest demographic group in history hitting its prime spending years. That makes me believe the next recession–like all previous economic slowdowns–will present great buying opportunity for stock investors. But make no mistake – I believe we will have a recession before reaping the full benefits of Millennial spending power.  If you doubt this macro trend, just scan some of the charts about student loan growth and urban apartment expansion. The “pig through the python” is coming and it may have a profound impact on our economy over the next two decades. There will be more on this trend in a future letter focused on demographics.

Beyond U.S. demographics, we have global population projections predicting the rise of Africa as Asian hyper-growth rolls over.

Future Population Growth.


After being historically bullish about stock pullbacks–including hosting a webinar at the beginning of this year [LINK] that the end of 2018 was a buying opportunity, not the start of recession, I believe we are now in a more precarious situation. The inverted yield curve should not be ignored, and our economy appears to be running out of qualified workers as the jobless rate settles below 4 percent. Amazingly we have not experienced inflation despite such a historically low unemployment rate, so the stock market continues to rise.

Sure, stocks are on the pricey side, but I don’t believe it means the market is on the brink of crashing. I wouldn’t consider this to be a bubble when you consider how low interest rates and low inflation are. Now is not the time to give up on a diversified portfolio. The S&P is expensive versus other options and we should temper our expectations for equity returns over the next half decade as stocks will likely face new headwinds.

Final thoughts: Prepare for the years ahead

I’d like to reiterate the advice from my Q1 letter:

• Stick to your plan. Investing is a psychology game, not an IQ game. Do not get emotional, have a plan.

• Prepare for lower but acceptable returns.

• Mentally prepare for a recession size drawdown in equities, possibly 30-40%

• Get aggressive when stocks are on sale.

• Ignore the headlines and doomsayers.

 • Ignore politics as elections approach.

• Don’t leverage up now. Opportunities will likely present themselves in the near future to use your debt/margin in a more efficient manner.