Friday, August 02, 2013

Take Aways

We would like to introduce you to a feature on our website called the “Investment Policy Committee (IPC) Take Aways”.  The Take Aways are weekly write-ups of discussion from the Investment Policy Committee meetings.  They summarize our collective thoughts about the economy, interest rates, stock prices, news, and other topics of interest.They are not meant to replace the blog, but rather to provide a way to convey our views about the markets on a more timely and regular basis.  Below are the Take Aways from the most recent IPC meeting (7/29/13):  

Record Highs
Since 1900, the length of bull markets have ranged in duration from 3 months to over 84 months with the weighted average being 57 months.  The current bull market, which started in March of 2009, has lasted 52 months and counting.  As we have matured into this run, there have been 21 days where the market set a new all-time high.  This represents 2% of the total bull market days – very modest relative to historical standards.  During the previous 10 bull markets, an average of 7% of all trading days set new all-time highs.In other words, we are still a very long way from running this stock market into overly high prices.  This bull market is not as hot as normal bull markets.  The more subdued upward march of this market is a good thing.  It’s not irrational exuberance, rather a measured appraisal of unfolding economic and political events.   

Interest Rates
A growing economy is usually one of the main drivers of interest rate increases.  Traditionally, fears surrounding interest rate hikes would be offset by an improving economy, which strengthens the underlying companies and communities that issue fixed income and equity securities.

The recent sharp increase in interest rates has been different.  Why?  Interest rates were driven up not by an improving economy, but because the Fed misspoke.  The fixed income market has not behaved normally over the past month because the reaction was to an event that was not normal.  Since then, the Fed has tried to re-state their stance towards ultra-easy monetary policy to calm the markets.  This week is another opportunity for the Fed to soothe investor sentiment and stabilize the markets after the Federal Open Market Committee meeting on Wednesday.    

Preferred Stocks
Preferred stock yields have historically traded within a certain range relative to 30-year U.S. Treasury yields.  The financial crisis of 2008 and now the Federal Reserve’s Quantitative Easing (QE) program have distorted this relationship by driving interest rates down to artificially low levels.  As a result, preferred stocks have been trading at higher yields than their historical relationship to U.S. Treasuries would indicate they should.

Once we return to a more stable interest rate environment, we expect the historical yield spread between preferred stocks and U.S. Treasuries to be restored.  No one knows when this stability will return, but we expect uncertainty surrounding the future of QE will cause continued volatility in the near-term.

High-yielding Dividend Stocks on the Rise
As interest rates rose, investors pulled away from the high dividend yielding sectors.  Since that time, investors have come back to push many of these same stocks to fresh highs.  

Investors continue to search for income in a market that doesn’t have much to go around.  Central bankers are buying up riskless assets all over the world, the Federal Reserve has pledged to keep short term rates low until at least 2015, and inflation is still far from the target of 2.0% to 2.5%.  

Bond yields are continuing to disappoint income investors, driving them to look towards a better option: dividend-paying stocks.  This added demand for dividend stocks continues to support the same thesis we have held since 2009.  Rising Dividend stocks should continue to trend higher.  Investors have nowhere else to go. 

For some time, Take Aways from the most current meeting and the prior week’s meeting have been posted to our website.  Over the next several weeks, they will also be added to this blog.  At some point, however, you will only be able to access the Take Aways on our website.  Please bookmark them if you would like to access them directly in the future.