August Review- August was a very busy month for news and an exceptionally turbulent month for markets world-wide. The month began with a debt ceiling deal hammered out after much contention and finally agreed to on July 31st, just days before the August 2nd debt ceiling deadline. However, the deal resulted in a commitment to cut spending by only $2.1 trillion over the next decade and left the tricky issues of entitlement and tax reform off the table. It was feared that this agreement would not be enough to satisfy Standard and Poor’s who had stated that they would require something more like $4 trillion in cuts to maintain the AAA rating on U.S. Treasury debt. Many observers felt that S&P would delay any rating decision until after the congressional panel set up to analyze and provide possible remedies to the debt problem had announced their recommendations. However, on the evening of August 8th S&P went ahead and downgraded the U.S. to AA+. Moody’s and Fitch, the two other major rating agencies did not follow suit and, in fact, reaffirmed the triple A rating for the U.S. The stock market reacted badly to the downgrade and continued to deteriorate throughout the month until the last week and a half.
Market conditions were further deflated by the ongoing failure of officials to present credible solutions to the problems plaguing Eurozone sovereign debt and the consequent stress on European banks. The biggest investor complaint is that they don’t feel that European officials fully appreciate the severity of the region’s situation and, as a result, have failed to adequately address fiscal and monetary remedies. Officials continue to bicker among themselves and policy implementation has been delayed. For example, we are still waiting for the July 21st summit decisions to get implemented. Meanwhile, German Chancellor Merkel is at risk of her governing coalition falling apart and may have to call for elections. Sovereign credit worries continue to spread from the fringe economies to the larger peripheral economies of Spain and Italy and threaten the core economies of France and Germany. In fact, France has been subject to downgrade rumors during the month. Closely tied to the European sovereign debt problems are concerns about the health of the region’s major banks as they are large holders of sovereign debt. As prices for debt fall in the secondary markets, concerns mount regarding the adequacy of the banks’ capital. These concerns also escalated during the month and added to the skittishness of investors.
Overall, economic data released during August was not only weak, but generally weaker than expected around the globe. This, coupled with the S&P downgrade of U.S. treasury debt and the ongoing problems in Europe, led to a wild ride for stock and bond investors. The Standard & Poor’s 500 stock index was down 14.8% at one point during the month, but rallied back in the last week-and- a- half to lose “only” 5.7% for the month after investors decided that the panic had been overdone. In the bond market, in what must rank as one of the best examples of the old maxim that the market tends to prove the maximum number of people wrong at any given time, treasury prices rose dramatically as yields fell even in the face of a credit downgrade. Basically, the ongoing crisis in Europe trumped any concern about credit quality here as investors flocked to the “safe haven” of good old U.S treasury bonds. Barclay’s index of all treasury debt had a total return for the month of 2.8% and the index of 20+ year maturity treasury debt returned 10.0%! At this point, though, treasury yields are so low that they seem unable to compensate for any reasonable future inflationary scenario and are destined to lose money on a “real” after inflation basis.
The following is not intended to reflect any specific investment portfolio managed by WheelerFrost Associates, Inc. or to provide investment advice. Investment recommendations made by WheelerFrost Associates, Inc. are given only on a client by client basis in conjunction with a specific investment plan.
Current Outlook
- We are maintaining a cautious outlook toward stocks, given the uncertainties arising from the ongoing economic stresses in the U.S. and the sovereign debt crisis in Europe.
- Other developed countries appear attractive versus the U.S. on valuation criteria.
- Emerging countries appear attractive versus the U.S. on growth criteria.
- Favor commodity exposure as a hedge against commodity induced inflationary pressures.
- Corporate and mortgage-backed bonds are favored over treasuries.
- Municipal bonds have rallied substantially from panic induced levels earlier in the year but remain relatively attractive compared to treasuries.
- Favor State General Obligation municipal debt as well as essential services issues.
Risks
- Higher oil prices due to Middle East turmoil and emerging country demand.
- Potentially over-stimulative Fed policies and rising commodity prices are inflationary threats.
- Debt levels and budget deficits in developed countries pose threats to sovereign debt.
- Credit conditions remain challenging for individuals and small business.
- Inflation concerns in emerging countries are forcing monetary tightening that could lead to slower global growth.
- Renewed housing weakness threatens to weaken an already weak recovery.
This review is compiled from various research sources and nothing presented herein is or is intended to constitute investment advice, and no investment decision should be made based on any information provided herein. While WheelerFrost Associates, Inc. has used reasonable efforts to obtain information from reliable sources, we make no representations or warranties as to the accuracy, reliability or completeness of third party information presented herein. Information provided reflects WheelerFrost Associates, Inc. views as of a particular time. Such views are subject to change at any point and WheelerFrost Associates Inc. shall not be obligated to provide notice of any change.