Rising interest rates and concerns over an overheating US economy were enough to finally reverse one of the longest unabated market streaks in recent history, resulting in the first market correction (10% pullback) in roughly two years. Sidelined investors who have been hoping for a pullback to add exposure finally got their opportunity, yet it appears they are still waiting. Volatility can often freeze investors, raising concerns that this correction could be the one that doesn’t bounce back. Media headlines have been unforgiving to say the least. In recent years, Europe’s surprise referendum votes and rounds of elections followed by government failures dominated headlines, but the political pendulum has shifted soundly back to the US. Trump tweets, continuous cabinet shuffling, stormy personal headlines, global trade wars, and most recently the potential for a renewed Cold War with a familiar foe have, understandably, caused investors to lose focus on underlying corporate fundamentals. The net impact has been a reduction in forward valuations for the S&P 500, down to 17x 2018 estimates and nearly 15x 2019 estimates –levels that are much more comforting in our opinion and should ease investor concerns. Earnings expectations have not wavered.
To state that international markets have been a bit quieter than the US would be an understatement. Brexit is on the horizon, but its long-term impact on economic growth and corporate earnings is still cloudy and difficult to bake into current market assumptions. Central banks continue to ease abroad, and 2018 growth at this early stage appears to be building on the tailwinds from last year. Earnings growth expectations are in the high-single-digit range, and valuations are very reasonable. Technology is also under-represented across international indexes –if that continues to be a source of market volatility, the international investor experience promises to be more benign relative to the US.
While the geopolitical climate is anything but harmonious, we can’t overstate the current financial strength and competitiveness of US corporations. Corporate tax reform is a game-changer and occurring at a time when global growth is about as strong as we have seen in over a decade, and these should both lead to record cash flow generation, improving balance sheets, share buybacks, and dividend payments to shareholders. We understand the political landscape is tumultuous and seems at odds with maintaining market exposure, but we do not believe now is the time to flinch.