“It Ain’t Over Till It’s Over”

Yogi Berra, a former New York Yankee, made numerous contributions to baseball history, but his legacy might be equally remembered for what he contributed to the American language. He was also well known for saying things that were humorous, always confusing but somehow on the mark. One such example is “It ain’t over till it’s over,”

It is something that market participants should ponder today.

Listening to the market pundits trying to predict the peak of the economy and the financial markets is downright humorous. We still are in the middle innings with no recession or market top insight. As we anticipated, our economy is picking up steam with second-quarter GNP likely to easily exceed 3.0% with further gains ahead at least thru 2019 at a minimum.

We dedicated last week’s blog to Warren Buffett and Charlie Munger, clearly the best investors of our time. They do not bother with predicting the economy or the markets. They buy companies/stocks for the long term. They believe that America’s best days are ahead. They rarely look in the rear-view mirror. We’d rather listen to them than the so-called experts on CNBC, Fox, and Bloomberg.

You, too, may have been amazed to hear the pundits/experts change their tune last week talking bullishly after the market climbed day after day. Wait. Weren’t they just bearish! Buffett’s actions gave the pundits/experts and the average investor reason to pause, reflect and change their mindset toward the markets. Clearly Buffett gave everyone a boost in confidence after buying Apple and other stocks, big time, in the first quarter. Was he worried about slowing hardware sales or trade wars with China? He looks over the valley to the horizon ahead much like we do.

Buffett uses market weakness as an opportunity to add to core positions as we do. Unfortunately the average investor who listens to the pundits acts emotionally and sells into the weakness. Have you seen investor confidence and cash levels recently? Confidence down and cash levels up right at the bottom a few weeks ago. Predictable!

Paix et Prospérité continues to significantly outperform the market averages sticking to our disciplines much like Buffett and Munger. We added to our core positions in March as we felt that the pundits/experts were wrong (yet again) and that the economy would accelerate as we moved into the second quarter. We want to thank them for talking the market down giving us an opportunity to buy at attractive prices. Ha!

Many of these stocks are up 10-15% in just 6 weeks with much more to come. But we really own them for the longterm and see much larger gains ahead as our identifiable trends play out a la Soros. We are concentrating on those companies that will benefit from a multi-year surge in capital spending emphasizing the production side of the economy where there is volume growth and pricing power over the consumption side, which are vulnerable to the disruptors like Amazon.

First-quarter earnings keep knocking the ball out of the park! It is important to note the difference in outlook between those companies that are economically sensitive with pricing power and those without. It was very important that Caterpillar Tractor came out last week to clarify their prior statement that first-quarter earnings would be the peak for the cycle. As we surmised a few weeks ago, management was referring to operating margins only, as CAT is projecting further gains in volume, operating profit and cash flow through at least 2019. CAT and other economically sensitive stocks got a boost from these comments. We were there already!

Corporations are beginning to implement their revised 2018 budgets now that Trump’s pro-growth, pro-business, less regulation and America First agenda are fact. Monies have been repatriated; cash flow has been boosted by changes in tax rates and accelerated depreciation; and changes in global trade flows are now more pronounced. As we predicted, Trump’s trade team is asking for quotas on imported products like steel and aluminum in addition or substitute for tariffs. The net impact will be more domestic production as companies increase capacity here plus there will be higher price realizations. Clearly capital spending is on the rise domestically. Alcoa will be opening formally shut-in domestic aluminum capacity and Nucor continues to announce new low cost capacity additions. Both companies are long-term winners. We own both!

Besides a surge in capital spending and hiring, it is projected that US corporations will buy back at least $800 billion in common equity this year representing near 3.5% of the remaining S&P market capitalization. Corporations had already bought back over 12% of the total market capitalization since 2012. Each one of our investments have significant increases in earnings, cash flow and free cash flow that are being used to enhance the company’s competitive advantages, higher dividends and buy-backs. For years we have owned only the best in class that we can own, each with superior management. Sounds like Buffett investments, doesn’t it?

We want to comment on the flattening yield curve once again. It is not predicting an end to the economic cycle as the pundits/experts say but reflects large capital inflows from abroad putting downward pressure on the longer end of our bond yields. Growth in the Eurozone and Japan has slowed recently as their exports, a more significant percentage of their economy than here, has suffered from a strong euro and yen. The dollar has recently rallied, as we predicted, due to a strengthening domestic economy combined with weakness abroad. Strengthening oil prices tend to benefit the dollar too as oil is dollar dominated. Tensions between the US and Iran plus Saudi Arabia’s desire to keep the price of oil up prior to the Aramco offering both serve to bolster energy prices and the dollar.

We continue to expect global growth to reach 3.9% in 2018 and 2019. It is clear that inflationary pressures may pick up somewhat near-term but are unlikely to breach 2.0% for any sustainable period of time. The Fed, BOJ and ECB are likely to remain one step behind maintaining accommodative monetary policies for the foreseeable future. We really do have a goldilocks environment with above average growth and tame inflationary pressures despite higher energy and input prices. Global competitiveness and the disruptors continue to keep a lid on pricing and inflationary pressures despite growth in employment worldwide.

Our primary concern remains trade policies here and abroad. The NAFTA participants are rushing to conclude a deal before May 17th so our Congress would have sufficient time to pass the agreement. We are watching closely our discussions with China as another important meeting is to be held in DC this coming week. While we would not be surprised to see trade skirmishes pop up between us and Europe and China, we still do not expect it to boil over into a full trade war. It was interesting to note that our farmers found another home for our soybean exports instead of shipping to China. We doubt that Boeing and other US companies would have any real problem if China cut back on our imports too. Right now there is only upside to trade tensions as no one expects a near-term resolution to the problem.

Let’s wrap this up.

As Janet Yellen once said, “an economy does not die of old age” and as Yogi said, “it ain’t over till it’s over.” We see no reason at this point why our domestic economy cannot churn out above average growth for the next few years with muted inflationary pressures. We expect that meaningful growth in capital spending will lead to higher productivity gains offsetting wage increases thereby keeping a lid on unit labor costs. Yes, we expect increases in industrial commodity prices as the producers are tightly controlling capital spending for once as we move through an economic cycle. That is why we favor the group.

The bottom line is to stay the course. We continue to favor the financials, capital goods and industrials, technology at a fair price to growth, low-cost industrial commodity companies including domestic steel and aluminum and special situations where internal developments will lead to upward valuations. We remain short bonds of all durations and long the dollar.

Remember to review all the facts; pause, reflect and consider mindset shifts; look at your asset composition and risk controls; do independent research and…

Invest Accordingly!

Bill Ehrman
Paix et Prospérité LLC

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