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Byron, Lisa, Jerry, Tony, Darin and Ian
The year is off to a strong start for investors. Stock prices in the U.S. and around the globe generated notable gains for the quarter. Employment data indicate that optimism for an improving business climate is translating into increased hiring and better wages. Expectations remain high for robust, double-digit corporate profit growth this year. All of this upbeat news has helped provide sufficient cover for the Federal Reserve to finally raise interest rates with virtually no disruption to capital markets. However, there is one important caveat to this cheery forecast. A lot is riding on the new administration’s ability to reduce regulatory burdens, implement capital spending on infrastructure projects and pass meaningful tax reform. As the stalled healthcare bill revealed, getting things done in Washington is far from certain.
If you want to spark a lively debate at your local coffee shop, just make a reference to President Trump and let the games begin. Donald Trump ran for office as a Republican, but, as we saw during the primaries of last year’s Presidential race, he does not always toe the party line. As an outsider to entrenched interests inside the beltway, he is running into resistance from both political parties that will put his renown negotiating skills to the test. An initial effort to reform Obamacare fell short of the support needed to advance the bill, and was widely viewed as a set-back to President Trump’s agenda.
With healthcare sidelined for now, the priorities shift to tax reform. Both sides of the aisle see advantages to reducing corporate tax rates and encouraging companies to repatriate funds currently held overseas. The administration has promised meaningful progress prior to Congress adjourning for summer recess. It will be interesting to see if they separate corporate tax reform from individual tax reform for the sake of securing a deal. Reforming taxes is integral to budget negotiations that will take place in coming weeks. Those negotiations are expected to include a prominent trillion-dollar infrastructure spending initiative. This is likely to get dramatic. The current agreement to fund the U.S. government expires on April 28, so a new budget must be passed by then to avert another embarrassing “government shutdown.”
Outside the labyrinth of DC, people continue to work and spend, the economy is growing and companies are adding to payrolls in anticipation of better economic conditions. The most recent employment report for February showed that 235,000 new jobs were created. The official unemployment rate stands at only 4.7 percent, which would normally indicate a tight labor market. It is debatable how much wiggle room is in the figures as a result of part-time employment and people who might be coaxed back into the workforce if conditions became more attractive. The labor force participation rate has seen a notable decline in the recent decade. Rising wages could potentially motivate some people to return to work. The job picture is central to estimates for consumer spending, which makes up roughly two-thirds of our gross domestic product. Surging payrolls are also the lifeblood for municipalities that rely on income taxes, sales taxes and property taxes to fund their activities, pension plans and public services each year.
The Federal Reserve took advantage of the improving labor reports and rising stock market to nudge interest rates upward. After years of watching the Fed with bated breath, the capital markets simply shrugged off March’s rate hike. The yield on the bellwether 10-year Treasury remained roughly unchanged at roughly 2.4 percent after the announcement. We are expecting two additional rate hikes this year, as the Fed has indicated, assuming the economy’s expansion remains intact.
Overseas, Brexit is now officially underway, as Britain formally filed paperwork necessary to begin its divorce from the European Union. That, too, did not overtly rile the stock market. This month’s Presidential election in France is another critical milestone for the European Union and the euro currency. Analysts have noted that a French exit from the European Union (“Frexit”) would likely have more profound impact than Brexit. Polls indicate Frexit is unlikely, but polls have been wrong on a number of surprising political events in the recent year.
Central to improved forecasts for global growth is a resurgent U.S. economy. Our nation is the world’s largest customer. Since November’s surprising election results, a lot of the upswing in growth forecasts seems to be predicated on fiscal stimulus, especially corporate tax reform. Jobs are counting on it. Municipal governments are counting on it. The Fed is counting on it. In our opinion, tax reform appears to be at the heart of optimism rippling through capital markets since the election. Much of that optimism could be undermined if Washington fails to deliver.
Attention remains focused on politics. Expectations are high that meaningful fiscal stimulus can promote economic growth for our economy. As investors, we count on the companies we own to generate healthy profits that support dividend payments and rising stock prices. Current market valuations appear fine, as long as companies can deliver on the robust increase in profits that are baked in to analysts’ forecasts for the year. The drama in DC appears pivotal to these topics right now, and the next few months should bring some clarity on how much of the growth agenda will be realized.
Past performance is not indicative of future results. The information contained in this report is based on internal research derived from various sources and does not purport to be statements of all material facts relating to the items mentioned. The information, while not guaranteed as accuracy or completeness, has been obtained from sources we believe to be reliable. Opinions expressed herein are subject to change without notice.
West Oak Capital, LLC
2801 Townsgate Road, Suite 112
Westlake Village, California 91361
Ph. 805.230.8282, Fax 805.230.8283