2015 – A Year to Invest Conservatively

Disclaimer– This article is for informational purposes and does not constitute financial advice.  Please consult with your financial advisor before making any investment decisions.  Please read full disclaimers here

The prevailing theme of 2014 was central bank handholding.  As long as central banks promised zero interest rates, investors aggressively bought every market decline regardless of whether or not the underlying economic data was good or bad.

On the positive end, unemployment has gone from 6.6% to 5.6% during 2014.  Monthly job growth was consistently over 200k, and GDP growth accelerated to 4.6% in 2Q and 5.0% in 3Q.  Although these are significant economic indicators, there are also a number of other very important indicators that have been painting a more bearish picture.  Services PMI and manufacturing PMI decelerated every month since August.  Housing starts, durable goods, mortgage applications, and a number of other indicators have repeatedly missed expectations in recent months as well.

Additionally, the global picture is even bleaker.  Japan has slipped back into recession, European GDP has flat-lined, Venezuela is close to default and the rest of Latam is not doing much better, Russia could potentially collapse as it did in 1998, China is consistently slowing, and oil has collapsed as a result of the lower global demand picture.  And with 1/3 of S&P 500 company revenues coming from abroad, US companies are not immune to a slowing global economy.

Despite this growing list of global risk factors, equity market valuations continued to creep higher throughout 2014 driven by central bank accommodation.  In fact, the prior three declines in the US stock market (October, mid-Dec, 1st week of Jan) were all sharply reversed by a few central bank reassurances.  Although central banks may continue to be exceptionally accommodative for 2015, valuations (17x EPS) and sentiment (complacent) have reached a point where future market returns are likely to be modest at best, but firmly negative if US and global macro conditions continue to worsen.

Given the disproportionate level of downside vs. upside risk in the market, the prudent portfolio management strategy at the moment is to run conservatively, swing the bat at attractive opportunities now, and position yourself to take advantage of a better risk/reward in the future.