Consolidation typically starts now and ends in May

The U.S. presidential election is top of mind for investors.

Typically, the pre-election year is the strongest in the four year cycle. In fact, since 1948, the average gain for the Dow Industrials has been 11.9%, while the S&P 500 has gained 16.1% during the pre-election year.  Historically, the government stimulates the economy in the pre-election year.

2019, a pre-election year, has been no different.  The Fed has cut rates three times this year.  The first half of 2019 had the strongest government spending since 1990.  Both accomodative policies should help drive growth in the business and consumer sectors in future quarters.

The typical year-end rally in the pre-election year has stalled out.  The stock market has endured a trading range from early September of the pre-election year to mid-May of the election year (chart below).

According to Ned Davis Research, the 2020 S&P 500 Cycle Composite (which combines the one-, four-, and 10-year cycles) is stronger than the four-year cycle alone, but it still shows choppiness in the first half of the year.

Over the next few quarters, the capability for companies to achieve earnings expectations and clarity on the trade war with China will likely be important catalysts for the market.  If forward progress isn't made, the stock market remains vulnerable and the choppy phase of the typical election cycle is a likely scenario.

Looking to 2020, a common variable to an election year rally is when the market has identified the likely presidential winner.  Once the uncertainty has been lifted, the market has tended to move higher, regardless of political party.

"There is a fifth dimension, beyond that which is known to man. It's a dimension as vast as space and as timeless as infinity.  It is the middle ground between light and shadow, between science and superstition, and it lies between the pit of man's fears and the summit of his knowledge. This is the dimension of imagination.  It is an area which we call The Twilight Zone."

These words were written for the popular show of the early 1960s (and subsequently used in the mid 80s and soon in a 2019 reboot), but he could have also been talking about how many of us feel these days.  Allow me to channel my inner Rod Serling for a few moments.

What if California were allowed to peacefully secede from the US?  14% of the United States' GDP would be gone, in  another country.  What currency would they use?  Would any special restrictions be placed on those traveling to and from there? How would companies and individuals interact for buying products and services there?  Could certain technology or movies be restricted for reasons other than national security, such as politics, or to protest unfair tax treatment by the rest of the US or other countries?  Is secession really our best option?

These are the type of questions that the United Kingdom is dealing with in Brexit.

As you can see from the above graphic, California's economy is roughly the size of the United Kingdom's.  Britain also makes up roughly 14% of the European Union's GDP.  Brexit was born from several factors, including economic frustration & nationalism.  The disagreement over how to exit couldn't come at a worse time, as the rest of the world also appears to have growth concerns, and London is considered the financial center of the EU.

So here we are, in between the "light" of the first three quarters of 2018, the "shadow" caused by Brexit and other factors (see my last post from November 30th), and the hope of a recovery.  It is easy to base investment decisions from "the pit of your fears" rather than "the summit of your knowledge" at this point, because knowledge requires certainty and fear requires none.  Instead, I suggest to reevaluate your perception, revisit your confidence in your plan, manage your current reality & build in flexibility for change for a new one.  How else could you invest with such uncertainty, "between science and superstition", in the Twilight Zone?

Click here for an explanation of what Brexit is all about, and where things stand.  In short, how the UK exits the EU will have a significant effect on international markets, which has already declined approximately 12% YTD (vs DJIA and S&P still being about +2% YTD).  The performance gap between international developed markets and US markets has been widening since May, but has accelerated in recent months.  Brexit & tariffs have helped strengthen the dollar and create the previously described results for imports & exports.

Some of you may be saying what about the Russia Investigation?  In my opinion, it could be a factor but will probably just be noise.  The only way I think it would be anything more is if both President Trump & Vice President Pence were not only impeached, but also removed from office, making Nancy Pelosi the President (as likely Speaker of the House) and giving the Democratic party control of Washington. Again, all of this is highly unlikely, which is why I don't think that Russia will be a major factor for investors in 2019.

Resolving the three issues above would help investors re-focus on the fundamentals supporting the economy, which are still doing well, and can continue to with prudent, thoughtful support.

To learn more about how you might be impacted by these events, schedule an Introductory Call by clicking here.