Looking Forward to 2016: Rough Start Expected
This is usually the time of year when we look forward with hope to a new beginning, and people like me write positive things about the year to come. This year, though, that is a bit of a problem for me. While I am usually of a fairly optimistic mind and have offered the advice to "buy the dips" on many occasions in the last four years I find myself going into 2016 with a distinctly gloomy outlook, at least for the first quarter.
I am fully aware that the U.S. economy is still grinding through a recovery. Even worrying collapses such as that in August was something I saw as a buying opportunity. It is a recovery that is disappointing for many, but for a recovery from a credit crisis, it is actually quite good. Credit crises are rare in economic history, but typically take decades rather than months or years from which to recover. In that context, 2.5 percent growth is not that bad.
I know that, and I know that the employment picture is looking healthier, but what has me worrying about the next quarter is not really the U.S. economy. That recovery has been domestic in nature, but has been supported by recovery elsewhere. Admittedly the recovery in Europe has been stuttering at best, but it has been sputtering along in the background as China and other emerging markets continued to grow.
Each of these markets has been compensating for the other. Emerging markets were booming while Europe struggled and vice versa, largely as a result of fluctuations in commodity prices. That situation, however, where there is always a growing market for American companies to exploit, looks to be in danger.
There can be no doubt that China is slowing. Of course we are talking about a growth rate of “only” 6 percent or so, but as with all things economic, expectations matter as they are priced into assets. Europe, meanwhile, is still battling the prospect of deflation. Initially, once the ECB finally came to an agreement and embarked on expansionist policy, I was, in line with conventional wisdom, optimistic. Unfortunately any such policy actually followed by the ECB has to, by definition, be based on a compromise, and as evidenced by the reaction to ECB President Mario Draghi’s comments earlier this month, that can cause problems. After talking a good book, Draghi delivered less than the market expected. Once again, expectations matter.
Without help from overseas, then, the U.S. equity markets are going to be dependent on domestic growth, and historically that has been driven by the consumer. The woes of the retail sector this year suggest that that driver is not exactly forceful. Part of the reason that recovery from credit crises typically takes so long is that the behavior of consumers is changed for an extended period. Paying down debt and actually saving take on more importance and while spending on housing, cars and other essentials has increased since 2009, growth in discretionary spending has been, and remains, muted.
My fear, then, is that at this time next year, as we look back on 2016, the chart for the S&P 500 will look a lot like it does for 2015. If early indications of weak holiday spending are to be believed then the boost that came from earnings at the end of Q1 last year may even be missing, and from that low base, any uncertainty as the result of the election next year could cause a noticeable selloff.
Once the election is out of the way, however, I would be much more bullish for U.S. stocks. By that time expectations for Chinese growth will have been fully adjusted and the policies currently being embarked upon by the ECB will be showing in the numbers. Whoever wins the election here, history suggests that the population will be optimistic, at least until that person gives reason for them to feel otherwise, and that could be just the catalyst needed to move from saving to spending. The recovery engendered by that could even be enough to result in a positive year for stocks overall, but the path to kit will be anything but smooth.
Over the next week or so, as we approach year’s end, I will offer in these pages a few ideas for traders and investors to navigate what look like being some pretty turbulent markets early in 2016. If I am right and equities in general come under pressure early next year, it will not be as a result of an actual broad based recession. There will still be areas that offer the chance of profit and those that have identified those areas will be at a huge advantage as the first quarter plays out. Stay tuned!