Following a strong Republican showing in Tuesday’s elections and the Federal Reserve’s unveiling of further easing measures, the markets have responded in a very positive way. In fact, since the end of September the S&P 500 has put in a nice showing, rising a total of 4.91% through Wednesday’s close. Today’s strong market action is especially encouraging, with broad rallies in all at-risk market segments we track. This includes domestic equities, emerging foreign markets, U.S. real estate, commodities and high yield fixed income segments, all of which are currently ahead by more than 1% for the day. While a couple of days certainly doesn’t constitute an bona fide trend, the overall supportive market environment has been welcome and helpful to all of our private clients and their portfolios.
Our current asset allocation currently reflects an assertive posture, with all portfolios currently exposed to the maximum amount of equities, real estate and other growth assets. Several of these market segments have been particularly helpful over the past several months, especially U.S. Real Estate, Foreign Emerging Markets (such as India, China, etc.) and High Yield Fixed Income. All of these areas are now demonstrating either strong sustained trends or early-stage emerging trends. The summer months had been a bit bumpy for several of these market segments; however, the overall environment for many is now significantly stronger.
Until such time as these existing market trends wane, it is our intention to continue to hold these growth segments with the expectation that the favorable trend will continue. Inevitably, the current favorable market environment will run its course. This could be tomorrow, or three years from tomorrow. The true duration is impossible to know. Any existing trend will last only as long as market participants continue to allocate assets to these market segments, figuratively adding additional fuel to the fire. Doing so will likely come at the expense of other non-growth assets, such as cash and bonds.
As I’ve written about extensively over the past two years, the Fed has been intent on generating a reasonable and measured amount of inflation – and with good reason. An inflating economy produces higher asset levels, which in turn can produce higher spending, higher consumption and higher standards of living. It also can make the ratio of debt to equity much more favorable, enabling individuals (and corporation and governments for that matter) to borrow to further fuel development. That’s the game. When the Fed eventually finds success in generating inflation investors will certainly want to have minimal exposure to cash and bonds and overweight in growth assets (I used to belief this was really best seen as an “if the Fed is successful” statement; but the Fed has been clear that they’re going to keep stoking the fire until they spark inflation.)
Looking ahead, the changing dynamics in Congress will certainly put the brakes on much of President Obama’s domestic agenda and may relegate him to affairs of foreign policy. Balance of power is certainly what the framers of the constitution had in mind, and history has demonstrated consistently that power-sharing can often be a recipe for significant market and economic gains. Time will tell…