2016 — The Year of Careful

 In Strategy Updates

During the last 12 months, we experienced significant stock market volatility and almost all stock indexes are currently flat or negative for the year. Much of this volatility has been linked to the long awaited and highly anticipated rise in interest rates, and a significant slowdown in global economic growth. In other important news, we witnessed the emergence of ISIS terrorist acts both here and abroad. As we head into an election year here in the US, investors would be wise to consider the outlook for 2016 and the opportunities and pitfalls that lie ahead.

Though stocks struggled in 2015, looking ahead it is possible that the bull market in global stocks has some life left as we enter 2016. Simply based on price-to-earnings ratios, investor sentiment and some other key indicators we use, most stocks are not overpriced. However, as we have mentioned previously, this continues to be a bifurcated market where some sectors perform well while others decline significantly. This phenomenon may continue into 2016, though sector leadership may change during the year. For instance, energy stocks, which were the worst performing sector in 2015, may stage a comeback this coming year. We will be watching this closely. It will also most likely be a “stock pickers” market meaning individual stocks may have a much better chance of outperforming indexes. We look forward to achieving this goal through our current holdings as well as searching for new ideas as the year begins.

In a few months, the bull market and corresponding economic expansion will be eight years old, which by historical measure is late stage. Additionally, election years do not usually bode well for indexes. This should not, by itself, deter investors. However, given the age of this bull, we will continue to be cautious and very selective in our investment approach. Often during the first few interest rate hikes – which we expect in 2016 – stocks perform quite well and we would not want you to miss such an opportunity. However, after the third rise in rates, stocks often tumble and bear markets have a chance of presenting themselves. We want to be on the lookout for these changes and be ready to further protect your portfolio should this be the case.

As interest rates rise in 2016, bond prices will decline. However, at some point the phase of rising rates will begin to dissipate and this will hopefully provide an opportunity to buy bonds with attractive yields – something we haven’t seen in years!

Though we see opportunity in areas of the markets, we think stock investors should consider 2016 as the year to be “careful.” The age of this bull market, along with the election, Federal Reserve and potential terrorist activity here and abroad, could have the potential to create more volatility. In the event that one or any of these issues creates a more difficult market, we will continue to be mitigating the risk of significant downside through your portfolio’s asset allocation, sector management and the use of carefully placed stop loss orders – all of which are implemented to mitigate the risk of catastrophic decline.

All of us on the team wish you a happy, safe and productive New Year! If you have experienced any significant changes in your financial affairs or would like to discuss your portfolio, please let us know. Once again, thanks from all of us for your confidence in our work.

Sincerely,

Your Team at Main Street Research