As the end of the 1st quarter of 2018 draws near, I would like to share our concerns for 2018. Below is a summary.
Equity Valuations — Indexes Go Parabolic
It took the Dow Jones 103 years to break 10,000. Over the past 9 years, the Dow Jones has gained roughly 18,300 points. This begs the question of sustainability. Are you really willing to assume the downside risk?
Rising Interest Rates — Impact on Lower Quality, Longer Duration Bonds Could Be Significant
The 2-year Treasury yield is hovering around 2.2% (versus .20% in April 2013) and is up nearly 100 basis points since September 2017. If this trend continues, we’d expect to see significant pricing pressure on lower quality and longer duration bonds.
Inflation — Pouring Gasoline on the Fire
Once dormant, inflation has quickly become a larger part of the market risk dialogue. The corrosive impacts of inflation are hard to predict and generally exceed the expectations of central banks.
Money Flows — Correlation of 1
Unprecedented flows into passive investment vehicles have increased correlations and created the potential for a multiplier effect – should the current trajectory of the equity or bond markets change course, flows could reverse and losses could be amplified.
Volatility — Too Low for Too Long
Most measures of volatility remain alarmingly low given current valuations. Sudden spikes in volatility will test an investor’s “buy & hold” conviction.
The Consumer — Debt Does Not Maketh the Man
U.S. consumer credit readings in November 2017 exceeded expectations and represented the largest monthly rise in consumer credit since November 2001. Record levels of consumer debt occurring just ahead of a tightening credit cycle are worrisome.
Geo-Political Risk — Threats Still Exist
The 24-hour news cycle, coupled with never ending geo-political and terrorism headlines, has resulted in a subtle desensitization. But, it should be noted that the threat of geo-political shocks to the system are just as high today, if not higher, than a decade ago. Don't believe me, see what the market did today based on the announced steel and aluminum tariffs that go into play next week.