With the Bull Market, by some arbitrary measures, now almost 63 months old and the Fed “tightening”, there is seldom a whole day that goes by (usually a Sunday if there is one) that someone doesn’t ask or comment about the age of this bull market. If bull and bear markets ended intraday instead of at the close, the March ’09 bull would have ended on Oct. 4th 2011 and been in bear territory until Jan. 25th 2012, making this bull market only 29 months old – relatively young by historical measures. I could give you several mathematical measures, but none of this really matters. I simply wanted to put some reality on the headlines and follow with a discussion of why I expect this “bull” market to last another 30 years. Does that mean there will be no down periods? Absolutely not! But I do expect vast amounts of opportunity for at least three decades.
I will address this in chronological order. The U.S. 1st quarter GDP was recently revised to -3% (yes a minus 3). That is a horrendous number but it is due to a number of temporary factors concerning inventory ordering, reduced healthcare spending and other factors that will most certainly reverse over the following quarters. Weather was a huge impact as we had a very cold winter with huge amounts of snowfall and ice reaching into the deep south of the country thru March and continuing in the north much later in the year. This is not a fragile economy, it is just one growing very slowly – much slower than previous times when we emerged from a recession, but still growing.
While GDP was lousy, jobless claims and today’s ADP employment report both showed improving employment. Consumer confidence and the service sector each jumped to their best readings in over four years. So what could explain the GDP number? There were a number of one-time events that landed in January, such as the Affordable Care Act, the end of the emergency unemployment benefits and stronger rules on mortgages, which all compounded the effect of the 3rd most severe winter in over 50 years. The good news is that their effects have already begun to fade, according to Dave Rosenberg of Gluskin Sheff, who also dubbed the drop in GDP as “the biggest hoax of the year.”
Opportunity There are numerous sectors in which we still find bargains. Income producing commercial real estate, housing, airlines, energy, biotech and industrials all offer opportunity. There are individual companies and technologies with compelling stories which allow us to complete our portfolios, keeping them diversified while avoiding sectors and countries with currently poor risk/reward ratios.
Commercial Real Estate The commercial real estate portion of our portfolio continues to provide attractive dividends in the 7%+ range, while they are being accumulated at 8%+ cap rates (net income divided by cost). Borrowing a small amount of money for the property at very low interest rates leverages the cap rates into the 10% range. With the 10-year U.S. Treasury at only 2.5%, there is a large spread between the two, making us expect a capital gain on the sale of the properties, adding to the attractive dividends.
Housing Based on population growth and “scrappage” (voluntary knock-down, fires, floods, hurricanes, tornadoes,…etc.) the US needs about 1.5 million new homes per year, about 60% higher than the 943,000 started in the last twelve months. These include both single and multi-family homes as well as owner-occupied homes and rentals. The US has not hit that level in over seven years. If housing picks up to near this kind of level, it will have positive ripple effects throughout the economy.
Airlines With the consolidation of airlines last year, we changed our almost lifetime outlook on the sector. I’ve always said “if God wanted us to fly, he would have made airlines profitable.” The lack of profitability has been a good reason to avoid the sector until last year when the Great Consolidation of Airlines was enacted. As good as this has been, we believe there is still plenty of upside in U.S. carriers.
Energy Not much new news in this sector – with fracking, the U.S. is quickly becoming energy independent. Texas, alone, has half the drilling rigs in the world, active in the state and if a nation would be 6th in the world in total energy production. With the recent congressional approval to export Texas sweet crude, which right out of the ground looks as if it came from a can of oil, several producers and pipelines stand to reap large profits. Add that to the export of natural gas that should begin at the end of next year and the U.S. may soon become an exporter of energy, rather than the largest importer.
Biotech This has likely been the most consistent sector of our investment and one which gets a great deal of our time investigating. Whether it is the world’s aging population or diseases such as cancer, heart disease, HIV, diabetes or a litany of others, there are great profits to be made in finding cures. It is a win/win investment – good for our portfolios and good for mankind, and I expect it to be a sector which will benefit portfolios for decades to come.
Industrials We’ve been invested in this sector since the beginning of the 2nd quarter and it has lagged the overall market by 1%, but that is in the rearview mirror. I expect industrials to make their move soon, especially those with the majority of their revenue in the U.S. As capital expenditures continue to rise, these industrials are expected to increase earnings by 7.5% or more this year. And that could be conservative if the trend to capex spending rather than stock buybacks continues.
Years and Decades Outlook I believe the demographics and the growing worldwide affection for capitalism will make this a generational bull market, perhaps multi-generational. Sure I expect periods of economic and geo-political headwinds, but the next several decades should offer equity investors a “once in a lifetime” opportunity (the assumption being that you avoid obvious sectors of risk, but you will only need to pay attention – a crystal ball will not be required).
The last generational bull market began in the 2nd year of the Reagan administration and lasted until 2000. During that period, the S&P 500 rose over 1250%. Since the Great Recession, the market has rebounded by 196%. That leaves us another 1000% by historical standards, but by now you know I don’t buy history – we look forward.
Let’s consider the macroeconomic picture today and how it arrived.
China has been adding 20 Million consumers to its middle class each year for over a decade and they make real wages now, with over 50% of the population making more than $10,000 US per year. Last year China became the number one market for Rolls Royce and many other luxury brands. As low wage jobs are being replaced by higher, more technical jobs in China; Vietnam, Bangladesh and other Asian countries took the lower wage jobs. As they too, have been climbing the economic ladder, African countries have become the home of new factories.
India, which has been plagued by political corruption, has over 1.1 Billion citizens, most of which want the same economic future that has been seen in China. With the recent election of Narenda Modi as Prime Minister and the landslide victory of his party in the Congress, India may finally be on track to become an economic superpower. Modi, as Chief Minister of the state of Gujarat from 2001-2014, led the state to become the most powerful in India. With just 5% of the population, the state now provides 25% of India’s GDP. Modi solved the state’s water crisis by building a million check dams, and 85% of the state’s citizens now have dependable electricity. If Modi is only half as successful leading a nation, India could soon add another 20Million to the world’s middle class each year.
Along with the rest of Asia, you can now add Africa as a new growth continent. With another billion people on the African continent, there is potential to add 75Million middle class consumers every year for the next for the next 50 years – or put in another way, a new U.S. every year.
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