Time to be defensive

Bob Doll at Nuveen says he does not expect a recession (for the next few quarters) but remains neutral towards stocks:

“Although stock prices have advanced over the last couple of weeks, investors remain focused on downside economic and policy risks and are increasingly concerned about a possible recession. The latest manufacturing readings hurt economic sentiment, while trade issues, turmoil in Hong Kong, the increasing likelihood of a messy, no-deal Brexit and a downturn in European growth are increasing worries.”

The Institute for Supply Management August Report points to an economic slow-down, with the Purchasing Managers’ Index (PMI) falling to 49.1 percent, from 51.2 percent in July. The New Orders Index also declined, to 47.2 percent from 50.8 percent in July. Readings below 50 indicate contraction.

“…The 2020 U.S. elections linger in the backdrop, offering potential to produce either a dramatic shift in economic policy should the Democrats retake the White House, or continued policy uncertainty should President Trump win reelection.

Against this backdrop, investors are struggling to position their portfolios. Consensus appears to say that it is time to turn more defensive, but U.S. Treasuries and other government bond yields appear to offer little if any value. Indeed, government bond markets are pricing in a high likelihood of a recession and a prolonged period of sluggish growth. At the same time, equity markets have been range bound over the last several months (and, by some measures, since the start of 2018) and are providing unclear signals.

In our view, the preponderance of the evidence suggests that growth will remain sluggish but a recession will be avoided, at least for the next few quarters. In other words, we think the signals coming from the equity markets are more accurate than those coming from government bond markets. Nevertheless, we continue to have a broadly neutral view toward stocks, and think investors should remain selective, focusing on such themes as companies that offer compelling value and those that have the ability to put relatively high levels of free cash flow to work.”

The wild card is the impact that high levels of uncertainty may have on business investment and employment.

Google Searches for Recession

This is a time to be defensive.

Bonds, traditional dividend-paying blue chips, and growth stocks all appear over-priced at current levels. Small caps are high risk in the current volatile environment and we are focused on large cap stocks with strong cash flows and defensible market position in non-cyclical industries. Some cyclical sectors may present value but investors need to be selective because of vulnerability to a potential down-turn.

ISM May 2017 Report

After a setback in April, activity in the manufacturing sector is again expanding:

MANUFACTURING AT A GLANCE
May 2017
Index Series
Index
May
Series
Index
Apr
Percentage
Point
Change
Direction Rate
of
Change
Trend*
(Months)
PMI® 54.9 54.8 +0.1 Growing Faster 9
New Orders 59.5 57.5 +2.0 Growing Faster 9
Production 57.1 58.6 -1.5 Growing Slower 9
Employment 53.5 52.0 +1.5 Growing Faster 8
Supplier Deliveries 53.1 55.1 -2.0 Slowing Slower 13
Inventories 51.5 51.0 +0.5 Growing Faster 2
Customers’ Inventories 49.5 45.5 +4.0 Too Low Slower 8
Prices 60.5 68.5 -8.0 Increasing Slower 15
Backlog of Orders 55.0 57.0 -2.0 Growing Slower 4
New Export Orders 57.5 59.5 -2.0 Growing Slower 15
Imports 53.5 55.5 -2.0 Growing Slower 4
OVERALL ECONOMY Growing Faster 96
Manufacturing Sector Growing Faster 9

Manufacturing ISM® Report On Business® data is seasonally adjusted for the New Orders, Production, Employment and Supplier Deliveries Indexes.

*Number of months moving in current direction.

Notable comments from respondents:

  • “Business conditions are steady, and with competition increasing, it’s making negotiations even more intense to reduce costs.” (Machinery)
  • “Business is booming, and getting direct employees is increasingly difficult.” (Fabricated Metal Products)
  • “Difficult to find qualified labor for factory positions.” (Food, Beverage & Tobacco Products)

Read the full report at ISM May Report