The Next Year Is Going to Be Bumpy

Earnings season started off with a bang on Friday when megabank JPMorgan Chase (JPM) posted record profits and revenues for the first quarter of 2019, beating expectations.

This was a great sign for investors. JPMorgan is the largest U.S. bank (based on assets) and market watchers use its quarterly report as an indicator of the economy’s health.

According to JPM, the economy is thriving. Here’s what CEO Jamie Dimon had to say in a statement…

Even amid some global geopolitical uncertainty, the U.S. economy continues to grow, employment and wages are going up, inflation is moderate, financial markets are healthy, and consumer and business confidence remains strong.

Rising interest rates also played a part in the bank’s strong quarter. Most of the analyst expectations about first-quarter results were negative, so the market breathed a sigh of relief on Friday. The S&P 500 Index ended the day up.

But then on Monday, the market fell as other banks reported mixed results. Goldman Sachs (GS) dropped after it missed revenue expectations, mostly due to tougher market conditions for its trading and investing divisions.

Citigroup (C) was mixed as well. It posted solid earnings thanks to share buybacks, but revenues came up short as the company experienced a decline in equity trading.

As we get into the heart of earnings season, expect some bumps along the way. There will be up days for the market on strong earnings reports and down days as fears of slowing growth surface with every weak earnings report.

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It’s fun to try to predict the day-to-day movements of the market and to predict which companies will beat earnings expectations and which ones won’t… but it’s usually not worth the effort.

Most of us aren’t day traders. So daily market fluctuations don’t concern us. We are just trying to grow our portfolios for retirement, or we just want to protect the capital we have now.

We care about the big picture.

So the real question is… when is it time to prepare for the big drop?

The answer… stocks are still months away from peaking.

The chart below compares recent survey results from the National Federation of Independent Business (“NFIB”) with gross domestic product (“GDP”) growth. Each month, the NFIB surveys about 800 small businesses and asks each for its single most important business problem.

Historically, when a high number of businesses answer “the cost of labor” it’s a warning sign for an economic downturn…

As you can see, this indicator has been an extremely accurate predictor of upcoming recessions. When we see a spike in the percent of businesses citing the cost of labor as their single most important problem, a recession typically starts within a year or two. And the current percent of respondents who answered “the cost of labor” is at an all-time high of 10%.

We care about the cost of labor because wages are the single biggest driver of inflation. And inflation is a major cause of recessions.

Inflation is the general rise of the prices of goods and services over a period of time. As prices rise, the same amount of money buys you less. Businesses have to pay employees more and pay more for materials. That cuts into profits. Fewer profits mean companies have less money to invest in their business, buy back stock, pay dividends, and pay down debt… That’s when things start heading south.

The chart below shows the same NFIB survey compared to the S&P 500…

On average, over the last three big market drops, the S&P 500 hasn’t peaked until roughly 12 months after an extreme in the NFIB survey.

So according to this indicator, we are still a year away from a market top. That means there are likely higher gains to come. That also means we’re likely a year away from a bear market.

But, as longtime readers know, I don’t have a crystal ball. (I wish I did!)

So whether the bear market is six months away or a year out, my advice remains the same…

Hold quality companies in your portfolio – stocks that make products that will be around for the next several decades and stocks you can see yourself owning for the rest of your life. I also recommend having some of your portfolio in cash or cash-like investments and owning some “chaos hedges” like gold.

It’s likely going to be a bumpy ride over the next year… So expect some volatility. But if this indicator is correct, stocks still have time to rise.

What We’re Reading…

Here’s to our health, wealth, and a great retirement,

Dr. David Eifrig and the Health & Wealth Bulletin Research Team
April 17, 2019