Happy New Year to all!. 2016 was a surprising year in many respects. Here, I consider what 2017 may bring.
I think 2016 took many people by surprise. Of course, on the political front, Donald Trump surprised many of the political pundits with his victory. However beyond politics, what was also surprising to me was the unrelenting rise of the S&P 500 and the DJIA.
From a February slump, the index accelerated in the latter few months of the year, with the DOW in particular coming within earshot of 20,000.
Personally, I feel that the major indexes no longer represent reasonable value in the market. While things may still continue to steadily rise, I struggle to find any real value in large cap stocks, or for that matter, the market in general.
Pockets of value still do selectively exist, primarily in large cap healthcare and biotech stocks. However I haven’t been a buyer for quite some time, and don’t intend to enter the markets at current levels. Most of my most recent buying was done with the DJIA was just shy of 16,000.
With that said, what can we expect for 2017? Here are my thoughts/predictions.
US Economic Activity picks up
I really do feel that with a Trump presidency, we will be looking at a pump primed economy that will have greater stimulus spending, which should help accelerate economic growth. This may lead to meaningful increases in economic output.
It won’t be a great surprise to me if we see economic growth pick up to 2.5-3%. You have to wonder though, what this means for inflation. There really isn’t much of a surplus of qualified labor available to pick up the slack. It seems to me that the US is at its natural level of employment.
Thus too much pump priming of the economy could really stoke inflation, which could mean a more accelerated pace of increase in interest rates.
Day of reckoning for Dividend stocks, REITS
Many mature dividend stocks and REITS have been pushed up to unsustainable levels in the search for yield. As interest rates increases start accelerating, I suspect that it will be a day of reckoning for many of these mature, low growth stocks as investors start finding bonds and other debt instruments more of a substitute for dividend stocks. I don’t expect this to play out in the near term, but I believe the end of 2017 will start to see a price reversal for many more mature US dividend payers.
Of course, any price retracement isn’t a reason to sell them off. These businesses will still continue to be fairly stable income payers for the foreseeable future. It’s just that the relentless price appreciation that they have benefitted from over the last few years will likely come to an end.
Major US stock Indexes to Decline
In my view, the US stock indexes have all overshot the mark and trade well above the levels that economic fundamentals would dictate. US corporate earnings growth has been sluggish in recent years, revenue growth even poorer. The string of buybacks that companies have undertaken have helped power earnings per share growth, but with increases in interest rates just around the corner, one suspects that the game of using debt to drive earnings growth has probably gone as far as it can.
It’s possible the “Trump bump” in the economy helps drive earnings growth to some degree, but I think any such increase only helps to support current valuations, as opposed to helping stocks run further from current levels. The big wildcard here is what Trump can do to corporate taxes. A permanent reduction in the corporate tax rate will be the equivalent of a permanent step up in valuation, and will likely help drive stock prices higher still.
Personal Income Tax Cuts
This is the one I’m most looking forward to, for obvious reasons!. I suspect that higher income earners will enjoy some modest tax relief. The thing I’ll be watching the closest is what happens to the capital gains tax rates on long term and short term capital gains. If these rates both decline meaningfully, it will likely make my options activity more attractive on a long term basis (once my short term capital losses are exhausted).
I’m looking for large cap tech and biotech to outperform this year, with emerging markets likely pulling back. I’ll go out on a limb and nominate Celgene and Google as likely strong performers in 2017!
Best wishes for 2017 to you and your families.