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By Michael Liss - February 6, 2019
The calendar isn't like a TV show. The stories that dominate the news cycle don't just magically wrap-up at the end of the year.
I raise this point because many of the same geo-political and economic dramas that hung over investors' heads in 2018 are still with us as we enter 2019: tariffs, interest rate hikes, and falling oil prices among them.
For me, the big story is the "value versus growth" debate. For the first time in a long time, value stocks started to outperform the market darlings of growth in the fourth quarter of 2018. You might recall that over the past year or so, I've predicted a rotation back into value since. Why? Because in my opinion, the valuations on FAANG (Facebook, Apple, Amazon, Netflix, Google) stocks (and those like them) were so out of whack from the fundamentals.
Will the rotation into value continue in 2019? I hope so. But here's what I do know: we're optimistic about value this year. Click on my latest video to find out why I'm especially intrigued by energy and financial companies in 2019.
We're very excited about 2019. We see some very good risk rewards for our clients in energy and in financials.
The end of 2018 was pretty rocky. A lot of things were weighing on the market. I think quite a bit of it goes over into the beginning of 2019. The trade war with China—that's going to be hanging over our heads for quite a while. We don't know what's going to happen over the 90-day period that it was agreed to, to continue to negotiate before the next round of tariffs would be put in place. We think the energy markets will balance out. OPEC has decided to pull about 1.2 million barrels of production off the market.
Inflation has slowed down. The rate of acceleration in inflation really slowed down towards the back half of 2018. It hasn't stopped, it's still around two percent, and you've got a tight labor market as well.
As far as the debate "value versus growth," value started to outperform growth in the fourth quarter. But from our perspective, the more expensive parts of the value market are the ones that have really outperformed: utilities, consumer staples and real estate investment trusts. And, for our strategy at the moment, we don't view those as being good risk-rewards for our clients because they are on the more expensive side. We see the best risk-rewards for our clients in energy and in financials. And, in particular within financials, with the banks and capital markets.
What worries me most is a recession, instead of just a global slowdown, which is what we think—that's our base case. And, instead it turns into something worse, and the tariffs end up being fully implemented and companies just pull back on investing and it ends up causing a recession. The reason we don't foresee a recession, at least in the immediate future, is because the financial conditions that we saw in the last two recessions. We don't see the same level of excesses.
We're pretty optimistic on energy, we think that the moves from OPEC to rebalance the market will have a positive effect. We think that investment will continue and will help our energy services companies, and we think that the behavior of the exploration and production companies that we own have started to change in a major way. Instead of focusing on growth at all costs, they're starting to focus on returns on capital, which means that they are starting to actually return cash to shareholders.
We're pretty optimistic on the banks as well. We think that they have changed themselves and transformed themselves over the last decade. They have much more capital relative to ten years ago. We think that they engaged in a lot of reckless behavior and a lot of bad lending towards the end of the last cycle. We do not think that they've gone to that length or that extreme this time. We think they have very solid return prospects because we think that they can grow, their loan book one, two, three percent depending on the bank. They pay dividend yields now that are up around three percent, they're continuing to increase those dividends and we think they can get a little operating leverage in their income statement.
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