We welcome your call or email if you have any thoughts you would like to discuss.
Byron, Lisa, Jerry and Darin
Well, here we go! The Federal Reserve raised interest rates for the first time in nearly a decade, another heated Presidential election year is upon us, and oil prices have staged a startling collapse. Welcome to the New Year. It is widely expected that the Fed will continue to raise rates gradually throughout 2016, although that forecast is subject to progress with tentative economic conditions in the U.S. and abroad. The race for the White House will soon winnow to a small number of candidates and issues that will likely dominate the news until November. Oil is a wild card. The enormous swings in oil prices in recent years are not easily explained with traditional supply and demand analysis. We expect some ambivalence in the capital markets as these topics unfold during the coming months, although there is potential upside for investors if economies around the globe can regain traction.
A nice recovery in the market during October essentially brought stock prices back to flat for 2015. It is a less-than-stellar result that was achieved with a lot of work and worry, although it certainly could have been worse. Economies around the globe showed notable signs of slowing. Terrorism resurfaced as a disturbing humanitarian concern and economic disruptor. Throughout the year, analysts trimmed their estimates of corporate profits as they worked out the math of a strengthening U.S. dollar and collapsing commodity prices. Energy companies struggled with the dramatic drop in the price of oil, sending shock waves through the high yield debt market that finances much of the industry. Slowing activity in China punished the emerging country economies that tend to ride the Chinese coattails. These posed serious headwinds for capital markets that made an investor’s job especially challenging in the past year.
The Fed finally broke the mesmerizing spell of zero percent interest rates by nudging their benchmark short-term rate up by a quarter-point at the December meeting. In our opinion, this is a positive development and a necessary step toward getting our nation’s economy back on solid footing. Even though a quarter-point is a small gesture, it signals the beginning of an expected phase of monetary tightening that should gradually lift rates over the next few years. It was perhaps the most widely anticipated rate increase in history, so the markets took the news pretty well. A return to higher yields will allow investors to finally earn more reasonable income from their fixed income holdings.
Oil prices are perplexing. In 2015, global demand rose by 1.2 percent over the prior year. Production grew just a smidge faster, at about 2.5 percent. It is hard to imagine such a modest differential can account for oil prices collapsing by nearly two-thirds and the industry urgently shutting off half the rigs in production. Falling oil prices wiped out profits for energy companies and raised suspicion that default rates for their debts could rise in the near future. Investors have seen this before. During the 2008 credit crisis, concerns for future oil demand caused a price collapse from $140 per barrel to under $40 per barrel in just six months. As the crisis abated, oil prices quickly scampered back up to more than $100 per barrel. It is hard to know whether today’s low prices are going to last, and it seems like the smallest change in sentiment can have an oversized impact.
Finally, investors know this is a big election year. The Presidential race will certainly attract a lot of attention, and we expect one of the more polarizing topics will be the debate over income inequality in the United States. From an economic perspective, it is a complex subject. Recent years have been difficult for middle class and lower income earners, as the recovery has yet to provide any significant wage growth for those households. However, our economy needs wealthy taxpayers. Our Federal government gets more than 80 percent of its tax receipts from personal income taxes and payroll taxes. Households in the top half of our nation’s income spectrum pay 97 percent of those taxes, while the bottom half pays only three percent. Families that comprise the controversial “one percent” pay about 24 percent of the taxes. Whether a liberal or conservative is occupying the White House, all government programs rely on the continued success of households at the top end. Those taxpayers are bearing a lot of risk. Rather than holding traditional jobs with predictable incomes, they are far more likely to be business owners and investors whose fortunes depend upon the capital markets and real estate. It is in our economy’s best interest, as well as the best interest of everyone who benefits from government policies, that our capital markets remain strong.
Much of the focus this year will be on Washington, as the Fed and Presidential election exert their influence on expectations for the economy. The capital markets tend to recoil from uncertainty, but they often rally as those uncertainties get resolved. We expect resolution on some of the important concerns that have proved challenging in recent months. This year will bring greater clarity on the Fed’s plans for monetary policy, as well as election results that will determine the direction of our Federal government’s important policy objectives. We look forward to talking with you as these topics unfold, and we wish you and your family a healthy, happy and productive 2016.
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