From the Desk of

The enthusiasm of equity investors anticipating beneficial fiscal policies, including reduced tax rates for individuals and companies along with increases in federal spending, has propelled stock markets to new all-time high levels. The same enthusiasm has led to interest rates reaching levels last seen in 2014. We think the chances for tax reductions and increased fiscal spending are good. What matters is how this enthusiasm translates into better corporate profits and consumer spending.

Assuming the policy initiatives currently being talked about are ultimately passed by Congress, we see modest GDP benefits occurring in 2017 with continued benefits potentially extending into 2018. Whether the reality meets the expectation will be known around the middle of 2017. We believe year-over-year GDP growth in 2016 will be about 1.6% and expect growth to improve to 2.3% for 2017.  

The impact to corporate profits can be meaningful, in our view translating into approximately $130-$134 for the S&P 500 in 2017 (up from approximately $123 for 2016, or a 6.0-9.0% increase), assuming significant tax reductions occur mid-year. The main reasons for the improvement in GDP relate to higher business investment spending and better housing markets. 

Equity investors will cheer on such strong profit growth, while bond investors will not. There are risks inherent in such expectations. The primary risk is that actual policy changes do not live up to the expectations. It is not possible to know what Congress will actually approve. Other risks include rising levels of wage pressures, leading to increases in inflation, ultimately leading to rising interest rates. This sequence will not, in our view, become problematic in 2017, but could lead to challenging stock markets in 2018.

Historically speaking, rising interest rates (when they occur slowly), are actually accompanied by positive stock returns during the first year of increases. However, by the second year, rising rates begin to negatively impact those returns. 

Important Disclosures

The information presented does not involve the rendering of personalized investment, financial, legal, or tax advice. This presentation is not an offer to buy or sell, or a solicitation of any offer to buy or sell, any of the securities mentioned herein.

Certain statements contained herein may constitute projections, forecasts, and other forward-looking statements, which do not reflect actual results and are based primarily upon a hypothetical set of assumptions applied to certain historical financial information. Certain information has been provided by third-party sources and, although believed to be reliable, it has not been independently verified, and its accuracy or completeness cannot be guaranteed.

Any opinions, projections, forecasts, and forward-looking statements presented herein are valid as of the date of this document and are subject to change.

There are inherent risks with equity investing. These risks include, but are not limited to, stock market, manager, or investment style. Stock markets tend to move in cycles, with periods of rising prices and periods of falling prices.

There are inherent risks with fixed income investing. These risks may include interest rate, call, credit, market, inflation, government policy, liquidity, or junk bond. When interest rates rise, bond prices fall. This risk is heightened with investments in longer duration fixed-income securities and during periods when prevailing interest rates are low or negative.

The yields and market values of municipal securities may be more affected by changes in tax rates and policies than similar income-bearing taxable securities. Certain investors’ incomes may be subject to the Federal Alternative Minimum Tax (AMT) and taxable gains are also possible.

As with any investment strategy, there is no guarantee that investment objectives will be met, and investors may lose money. Returns include the reinvestment of interest and dividends. Investing involves risk, including the loss of principal. Diversification does not ensure a profit or protect against a loss in a declining market. Past performance is no guarantee of future performance.

Non-deposit investment products: are not FDIC-insured, are not Bank guaranteed and may lose value.

Index Definitions

The Standard & Poor’s (S&P) 500 Index represents 500 large U.S. companies. The comparative market index is not directly investable and is not adjusted to reflect expenses that the SEC requires to be reflected in the fund’s performance.
The Real Monetary, Fiscal & Exchange Rate Policy Index is Real M2 Money Supply year-to-year change, plus Real Federal Expenditures (12-month total) year-to-year change, less Real Federal Receipts (12-month total) year-to-year change, less Real Broad Index of the foreign exchange value of the Dollar year-to-year change.

The Small Business Optimism Index is compiled from a survey that is conducted each month by the National Federation of Independent Business (NFIB) of its members. The index is a composite of 10 seasonally adjusted components based on the following questions: plans to increase employment, plans to make capital outlays, plans to increase inventories, expectations of the economy to improve, expectations of real sales to move higher, current inventory, current job openings, expected credit conditions, whether now a good time to expand, and earnings trend.

The Citi Economic Surprise Index is a data series that measures how data releases have generally compared to economists’ prior expectations. When data is coming in weaker than expected, it declines; when data is coming in stronger than expected, it rises. This doesn’t necessarily mean that it declines when the economy is weakening, just when the data is surprising on the downside. The Index is a weighted historical standard deviation of data surprises.

The U.S. Treasury 10-year note is a debt obligation issued by the United States government that matures in 10 years. A 10-year Treasury note pays interest at a fixed rate once every six months and pays the face value to the holder at maturity.

The BofA Merrill Lynch Fixed Income Indices track the performance of the global investment grade, high-yield and emerging debt markets.

Treasury Inflation-Protected Securities, or TIPS, provide protection against inflation. The principal of a TIPS increases with inflation and decreases with deflation, as measured by the Consumer Price Index. When a TIPS matures, you are paid the adjusted principal or original principal, whichever is greater.

Indices are unmanaged, and one cannot invest directly in an index. Index returns do not reflect a deduction for fees or expenses.