Year in Review
If we look back at 2011, it began on a high note and had a rough middle, but finished on a more positive tone. GDP for the first three quarters came in at an annualized figure of 1.2%.1 While the 3% fourth quarter estimate being widely predicted will help the year’s overall numbers, it will not be anywhere near the 3-3 1/2% economists widely forecast at the start of the year.
Due in part to the sluggish growth noted above and in part to worries over world events, the S&P 500 finished 2011 almost exactly where it began the year. The stock market moved positively during the first 4 months of the year, then reversed course. Strong tornados hit Alabama and Missouri. Japan was hit by a tsunami which significantly damaged a nuclear plant. The debt ceiling issue played out mid-year, after which Standard & Poor’s downgraded U.S. Treasury debt. Europe grappled with financial issues which impacted both their stock markets and ours. By mid-year, bearish news of a recession for the United States dominated the air waves. I would note that in the 26 years I have been in the investment business, I have noticed that bearish market calls appear to receive the heaviest press coverage. This year was no different.
I look at the investment environment like a scale – with positive items on one side and negative ones on the other. I do currently see more weight on the positive side than the negative. On the positive side, the U.S. is seeing a number of new oil and gas drilling techniques that have unlocked large amounts of natural gas. So much gas has hit the market that prices are now close to a 10-year low. The United States is now also a net exporter of oil-based fuels (gasoline, diesel, jet fuel, etc.)2 – a change of which most Americans are still unaware. Other positives include new technologies like the internet cloud, tablet computers, and smart phones – all of which are increasing productivity and output. The Federal Reserve is very accommodative, meaning they are keeping interest rates low and allowing for easy access to lent capital. Federal spending is actually declining as a percentage of GDP.3 The housing decline that started in 2006 seems to be closer to its final stages. Lower real estate prices have increased affordability. As with much in life, these positives do not stand alone.
The increased affordability of housing has come at the cost of equity loss for many homeowners. While government spending in relation to GDP is slowing, it is still too high. While an easy Federal Reserve boosts growth, it will cause inflation down the line once the stimulus is pulled back. Most economists do not foresee a return of the high inflation levels of the late 70’s and early 80’s, but an increase of a more moderate level once we see upside pressure on wages and real estate – which would seem to be a few years out.
I believe we will see 2012 come in with GDP growth in the 2 – 2 1/2% range, with gains in personal income and spending. I think stocks will move higher in 2012, based on an expectation of a durable U.S. economic expansion. It is being widely predicted that Europe will enter a recessionary phase. While this is likely, its impact on the U.S. economy is likely to be minimal. About 10% of the U.S. GDP is exports. Of our total exports, less than 20% go to Europe.4 Another way to look at this is that exports to Europe make up less than 2% of the U.S. economy. Some large banks do have exposure to European debt and have been reducing their exposure to European debt due to the changes seen over the past year. However, this debt exposure is concentrated to five giant bank/brokerage firms – Goldman Sachs, Citicorp, Bank of America, Morgan Stanley, and JP Morgan Chase. Exposure to European debt outside these companies is very limited within the U.S. banking sector.
The coming year is likely to look much like the previous – slow, but steady growth. While fears of a double dip recession have largely been forgotten and we are in a growth cycle, this is not robust growth. We are likely to see another year of positive, but incremental, change. Relatively high levels of stock market volatility are likely to remain as investors see slow growth and retain fears prompted by the recent recession. I expect to continue to focus on dividend-oriented businesses that do not rely on discretionary purchases as I search for appropriate investments for your portfolio. While 2012 is unlikely to be a banner year for the market, there are a number of underappreciated assets for the prudent investor to find.
1) We Were Too Optimistic, First Trust, 1/3/2012
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