2016:  The Year of Unlikely Events

It was not the best year for U.S. pollsters, U.K. bookies, or anyone rooting against the Cubs for that matter. Last year did teach us to expect the unexpected, and that knee-jerk reactions are often wrong. The second half of the year was a microcosm of the year as a whole: markets around the world initially dipped post-Brexit vote and post-US presidential election, but quickly resumed their upward march. As a reminder, the first two weeks of 2016 were the worst on record in terms of stock market performance, yet returns were respectable for the whole year. Meanwhile, the three-decade bull market in bonds looks like it might be coming to an end as interest rates jumped at the dual threat of a less-accommodative Federal Reserve and increasing inflation pressures in the U.S.

Market-Update

Small- and mid-cap stocks stole the show in 2016, outpacing their larger cousins. Stocks generally outperformed bonds and developed international stocks lagged while emerging markets held pace with U.S. markets. The dollar continued its rise in the back half of the year, and commodity prices firmed during the fourth quarter.

Here at Denver Investments, we sense that the pendulum is swinging. Fiscal restraint may flip to strong fiscal stimulus. Dramatic tax reform seems likely; many of us who are considered “old timers” can think back to Reagan’s Tax Reform Act of 1986 as a likely comparison to the magnitude of tax reform that may come to fruition. The unprecedented accommodation in the form of low interest rates from the Federal Reserve is out.  If we continue to see indicators of accelerating inflation, we’d expect continued rate hikes. The culture of crony capitalism is out – this is a populist era, not just here in the U.S.A., but across both oceans from the U.K. to Europe to the Philippines. Regulatory reform appears to be around the corner. It’s not impossible to see executive orders overturned and regulations that haven’t taken effect abolished. The impact on business psychology could be very positive. Given this environment, we take a look at how uncertainty affects small businesses, the possibility for tax reform, building inflationary pressures, the demise of the grocery store, and we dive into how increased interest rates affect our clients’ bond portfolios.

The unpredictable nature of the events that unfolded in 2016 reminds us that, as investors, it is important to be prepared for the unexpected. Disciplined investors can take advantage of these “unexpected events” when short-term opportunities present themselves. Ongoing evaluation of asset allocation and cash flow needs are important to achieve one’s long-term objectives. Here at Denver Investments, we believe that while it’s impossible to predict the future, positioning you prudently for a range of future outcomes and investing in companies which should prosper regardless of near-term political and economic shifts is the key to long-term success.