November 5, 2018

My Market Outlook

In the coming months, you will hear many pundits make year-end predictions on what the stock markets will do next year. I avoid making predictions because they tend to keep a money manager anchored to the prediction, and if the market moves in a different way this creates a psychological barrier for the manager. Any true money manager who makes predictions is a fool, in my opinion.

As an investment advisor I make my living by investing on behalf of my clients. The better the economy, the better the stock market usually performs. The better the stock market performance, the better off we all are as investors.

From a social aspect, the bigger the economy the more money there is for the Federal budget. Whatever your preferences may be – military spending, infrastructure, health care, trade, or maybe even paying down the deficit – you can have more of it in a growing economy. The more revenue generated through economic growth, the more we can accomplish as a nation.

Economic growth is stronger now than it has been in decades, and despite media warnings to the contrary, it shows signs of continued growth. Bull markets can end for a number of reasons, but growth is not one of them. Because of this growth the potential for a recession in the near future is remote.

Wherever your politics lie, as an investor I hope you have come to realize that following the media and their “bold” predictions is a poor way to invest. Usually headlines point in the opposite direction of what an investor should be doing.

There is much talk about trade wars but, with the exception of China, trade issues with Canada, Mexico and Europe are getting settled. China has a lot more to lose than us in a trade war because they export four times more to us than we export to them so they have four times the targets for tariffs. China’s stock market is down 28% since January, and they are feeling the heat, so I expect that issue will wind down, too.

What The Markets Are Doing

After a good start to the year, October’s stock market correction and the trend of rising interest rates hitting the bond markets have caused many investments to lose value.

The iShares Core US Aggregate Bond Index (Symbol: AGG) is considered representative of the US bond market, and it is down 4.53% YTD on a closing basis as of October 31st. Rising interest rates are beginning to make bond yields competitive with stock dividends for the first time in many years. It is my opinion that the risk of losing money owning bonds has risen and will stay high for many years, while the risk of owning stocks has stayed the same. If you are one of those investors considering moving money into bonds chasing higher yields, do so cautiously as these are treacherous times in the bond markets.

The stock market had a rough October with the S&P 500** Index losing 9.88% between September 20 and October 29, and giving up all of its 2018 gains in the process. October was the market’s worst month in 7 years and its worst October loss since the financial crisis in 2008. Both the Nasdaq** and small company indexes were down double digits during this same period.

Emerging markets and developed markets indexes (think foreign stocks) continue their slides that began in January and are also down over 10% since late September with emerging markets hit hardest. China’s large company index leads the retreat with a 28% loss since January.

Oil was up in September and back down in October, ending right about where it began this summer.

Gold finally jumped upward out of its multi-month doldrums, but gains have been small, so the long bear market in gold that began in 2011 looks to be intact.

What’s Happening in Your Portfolio

After a good start to the year, both the stock markets and the bond markets took pretty hard hits. As a result, most of our accounts are down a little for the year-to-date through October 31st.

Our Flexible Income* portfolios followed the bond indexes down but are bouncing back strongly after what appears to be a bottoming process. Still, Flexible Income* portfolios are being held back by the rising tide of interest rates that hurt bond prices and this is the reason that I am recommending some portfolio changes (below).

The stock market had a rough October with the S&P 500** Index losing 9.88% between September 20 and October 29, and giving up all of its 2018 gains in the process.

HCM Shock Absorber Growth* entered October with about 30% cash and as of this writing on November 4th holds about 50% cash in the stock side of our accounts. My hedging activity (buying funds that go up as a market goes down) also provided a cushion for the stronger stocks that I wanted to continue to hold. These two tactics kept our stock losses to one third of the stock index for Adaptive Balance* accounts and about 60% of the index’ loss in our Shock Absorber Growth* (100% growth) portfolios during the October slide.

The key to successful long-term investing is keeping losses to a minimum, and I have done that for you. If the markets were to continue down from here, we would be sitting pretty, but I expect the recent decline ended last week and I have begun to readjust the portfolios for growth.

The stock market will bounce back, and may already be in the process of doing so. My greater concern is the bond markets. The trend of rising interest rates is one that generally is very long, once it gets started. This means that bond market losses will become very common going forward and history suggests that this negative trend may last many years.

If you have an account managed with Flexible Income* (100% income) or Adaptive Balance* (at least 50% in income) I am going to recommend a portfolio change next time we speak to reduce your exposure to the bond markets.

The new portfolio may have a greater allocation to stocks, but my track record in my growth strategies shows that risk in my growth portfolios is only about 40% of the stock market indexes. I am a very low-risk growth manager. Because of the current high risk in the bond market, reducing exposure to that risk pretty much offsets any risk of increasing the stock allocation.

• • Shock Absorber Growth* is our 100% growth portfolio. 
  • Flexible Income* is our 100% income portfolio.  
  • Adaptive Growth Portfolios* are currently allocated with 80% Shock Absorber Growth* and 20% Flexible Income*. 
  • Adaptive Balance* is 50/50 between growth and income.

Mental Floss

The Handyman Husband

On a cold North Dakota winter morning, wife texts husband:

“WINDOWS FROZEN, WON’T OPEN”

Husband texts back:

“POUR SOME LUKEWARM WATER OVER IT AND TAP GENTLY ALONG THE EDGES WITH A HAMMER”

Five minutes later wife texts husband:

“COMPUTER REALLY SCREWED UP NOW”

A Thanksgiving Gift from Hepburn Capital

During the year, we at Hepburn Capital quietly go about our business worrying about your money so you don’t have to. Although we don’t always get to say it, we are thankful for your business, and here is a way that we can say “thank you”.

The post office just before Christmas can be especially frustrating as last-minute package mailings create long lines. If you share my frustration with long lines, Hepburn Capital can help by giving you the use of our UPS or USPS online accounts this holiday season.

Our office maintains a UPS and US Postal Service accounts, complete with the ability to weigh packages, pay for and print labels online. Bring your wrapped packages to Hepburn Capital’s Prescott office and in a few minutes our staff can weigh, process and take your payment for your shipping costs. The postal service picks up at the office, and there is no line at the UPS store for prepaid shipping.

This is just Hepburn Capital’s way of saying thank you at Thanksgiving and making the holidays a little brighter for those in our circle of clients and friends. Happy Thanksgiving!

And, while you are at the office, please pick up one of our letter openers that make cutting wrapping paper a breeze. 

Nov 6th at Las Fuentes

I have been asked to address Prescott’s Senior Connection and Las Fuentes residents on Tuesday, November 6th at 2:00 pm for a discussion of Why Bad Things Happen to Good Investments. We will be gathering in the Social Room at Las Fuentes, 1030 Scott Drive in Prescott (Off Ruth Street near the high school). Information & RSVP with Cindy Schubert at (928) 445-9300.

This will be a good time to get your autographed copy of my book, if you don’t already have one. 

Our Spotlight Strategy – Adaptive Balance

With our Adaptive Balance Strategy, we strive to provide high total return from a combination of investments in both the equity and income markets with an emphasis on the income markets.

Our proprietary indicators are used to determine a stock market exposure that adapts to both strength and weakness in the market, directing exposure to the HCM Shock Absorber Growth strategy from 0% to a maximum of 50% of the account value. The balance, 50% to 100% of the account value, is invested in the Flexible Income Strategy. The HCM Safety Net indicator is designed to warn of sudden potential declines in which case stock market exposure is quickly reduced.

Click here to read more about Adaptive Balance.

A Slice of Life…

We talk about the US being part of the New World, and that newness was driven home on a recent trip to Europe, visiting places like the Acropolis of Athens which was built sometime before 800 B.C. I did not know it was originally a hilltop fortress but it was obvious when I saw it in person.

An archaeological dig I visited at Akrotiri on the Greek island of Santorini, has exposed a 7,000-year-old city buried under 30 feet of volcanic ash. This ancient place had sewer systems and furniture that looks like it belongs in 18th century France. If that wasn’t amazing enough, in digging pilings to put a roof over the site, they discovered 2 more cities and a village buried further beneath Akrotiri. Who knows how old those cities will prove to be once they are finally excavated.

When we talk about historic places here, we are talking about something from 100-200 years ago. I now have a new perspective on “old.” It makes me feel downright young again.

* The model accounts mentioned in this article are hypothetical examples of how the strategy may work as designed. Performance and activity in client accounts may be different from that in the model in amount of each investment, specific timing of trades, and actual security used, which may vary from account to account. Not all trades are profitable. It should not be assumed that current or future holdings will be profitable. A list of all trades in these accounts for the past 12 months will be provided upon written request.

** Indexes are unmanaged lists of stocks considered representative of a broad stock market segment. Investors cannot invest directly in an Index.

This newsletter may contain forward-looking statements, including, but not limited to, statements as to future events that involve various risks and uncertainties. Forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause actual events or results to differ materially from those that were forecasted. Information in this newsletter may be derived from sources deemed to be reliable, however we cannot guarantee its accuracy. Please discuss any legal or tax matters with your advisors in those areas. Neither the information presented nor any opinions expressed herein constitute a solicitation for the purchase or sale of any security.

In all investing, past performance cannot assure future results, and as such, our efforts are not guaranteed. Losses can occur. All strategies offered by Hepburn Capital Management, LLC, adapt to changes in the markets by changing the investments they hold, therefore, comparisons to broad stock market indexes such as the unmanaged indexes mentioned may not be appropriate. Sometimes client accounts are invested in stocks or markets not included in these indexes. Past performance does not guarantee future results. Investment return and principal value will vary so that when redeemed, an investor’s account values may be worth more or less than when purchased. Mutual fund shares and other investments used in our managed accounts are not insured by the FDIC or any other agency, are not obligations of or guaranteed by any financial institution and involve investment risk, including possible loss of principal. Advisory services offered through Hepburn Capital Management, LLC, an Arizona Registered Investment Advisor. Adviser will not transact business unless properly registered and licensed in the potential client’s state of residence.

Copyright (C) 2018 William T. Hepburn. All rights reserved.