Investments

GDP, Interest Rates, and Economic Contraction

By Barber Financial Group

March 4, 2019

Welcome to the Monthly Economic Update, it is March 1, 2019, and spring is somewhere around the corner.

Many people might think that spring is here in the markets. Well, I’m going to give you a reality check today on everything that’s been going on in the markets.

We’re going to first look at the last month, and then we’re going to look year-to-date, then six months, and then a year. I’m going to show you some really interesting things that are happening out there in the broader economy and some things I think we need to be aware of so that we get a good solid idea of where the markets are today and what is likely the path of the markets in the not-too-distant future. Also, more importantly, what we’re thinking and how this impacts your overall financial situation.

Index Performance

Figure 1 – Chaikin Analytics – https://www.chaikinanalytics.com/

Let’s get started with what’s happened in the last month. So, in Figure 1, we’re looking at indices over the last month, and everything seemed okay. Markets were all up, that’s the second consecutive month in a row.

Figure 2 – Chaikin Analytics – https://www.chaikinanalytics.com/

If we look year-to-date here, Figure 2, we see that except for just a little bit of a downturn here in the early part of January, we see year-to-date indices up anywhere from 11 to 16% depending on which index we’re looking at.

Figure 3 – Chaikin Analytics – https://www.chaikinanalytics.com/

Now if we back this up over the last six months, Figure 3, look at what happens. Now all of a sudden there’s a lot of indices that are still 5%, 6%, 7%, or even 10% below where they were just six months ago.

Figure 4 – Chaikin Analytics – https://www.chaikinanalytics.com/

If we take a look at this throughout the last 12 months, Figure 4, what we’re seeing is SmallCap index is up nearly 18%, and now they are down today. So we get these huge swings in the markets. This doesn’t even take into consideration all of the bad things that happened in January and February last year because we’re seeing from the beginning of March 2018 to the start of March 2019.

So, we saw two major pullbacks in the market in the last year, and we saw two major runner-ups in the market in the previous year, but the reality is if we were to go to January last year and come up through today most indices are still in negative territory. Where the markets hit their peak, on about September 2018, could very well have marked the end of a long-term secular bull market and the beginning of a longer-term secular bear market.

GDP Growth and the S&P 500


Figure 5 – S&P, Bloomberg Finance LP, Haver Analytics, DB Global Research

I want to show you some charts to let you know exactly what we’re thinking and what we’re seeing. What we’re looking at in Figure 5 is consensus GDP growth for Q1 of 2019 being lowered and lowered. Yet the red line is the S&P 500 since December 26, 2018. So, we’ve got an “X” here; we have two things that are opposed. One of two things is going to have to happen here:

A. We’re going to get much better GDP growth, we’re going to get better profits, we’re going to get better consumer sentiment, consumer spending is going to pick up, and housing is going to pick back up.

B. The markets will come back to reality back along with the trends of the economy.

The markets are following zero fundamentals. From a fundamental standpoint what’s happening in the markets of December 26, 2018, makes absolutely no sense to us. I have a couple more charts for you that I find fascinating.

Unemployment


Figure 6 – St. Louis Federal Reserve, PhilosophicalEconomics.com

Figure 6 is an unemployment chart, and this is taking us back into the 1940s. At the bottom of these dips, you see a red circle occur, and this red circle is showing the point at which unemployment ticked up by a half a percent. Now, if you’ve been paying much attention to unemployment, you’ll notice that unemployment about 8 weeks ago at 3.7% unemployment. The most recent numbers were 4%. If that unemployment number hits 4.2%, we can see back 100% of the time we saw a half a percent increase that led to a recession in the not-too-distant future. That is the shaded lines in Figure 6. That’s one of the things that we’re watching very very carefully.

Interest Rates


Figure 7 – Board of Governors of the Federal Reserve System (US)

Something else that we’re seeing is a huge uptick in interest rates. In Figure 7, we see at the end 2017-18; indeed most of it was 2018, almost a straight up moving interest rates compared to where they were. Jerome Powell was doing two things. He was both trying to unwind the balance sheet of the Federal Reserve, which is our four trillion dollars, and he’s done an excellent job at getting some of that off the balance sheet and at the same time he’s been raising interest. That’s no secret. That’s been driving the markets crazy. The markets are saying, “Jerome Powell you’re going to send the economy into recession!” My belief is a Jerome Powell knows that we’re towards the end of the economic expansion and potentially beginning economic contraction. So he thinks if that’s the case the Fed has to have some room to do something, we’ve got to get some of the money off the balance sheet and we’ve got to increase interest rates in the event the economy does go into recession the Fed has some room to do something.

GDP Growth and Household Net Worth


Figure 8 – BEA, Board of Governors

The last chart I want to point out to you is the net worth chart, Figure 8. This chart is super interesting because this is taking us back into the 90s and the red line on this chart is GDP growth. Typically what you see is household net worth increases at about the same rate of the GDP growth, but you can see the blue line here in the late-2000s, 2007-8, really got way too far away. We saw the household net worth increase at a much more rapid rate than what GDP was. The majority of that, as you and I know today, was due to debt, it was borrowed money.

Now, we take a look at what’s happened since 2011, and we see another huge the divergence in household net worth from GDP growth. This kind of goes back to the first chart that I was showing you, either one or two things are going to have to happen. GDP growth needs to get up and go and start moving to catch up with household net worth or household net worth will fall back down, and that means we see a contraction in equity prices housing prices, etc. All of which tend to happen temporarily at the end of economic expansions as we go through contractions.

Stay in Touch

All this said I want you to keep in mind I’m not saying, “Oh my gosh, this is going to be a horrible thing!  Run for the hills! Pull your money!” Far from it. What I’m saying is you need to understand that these cycles are normal. We’ve been here before, we’ve done this many times, and we know the things we need to be doing for your portfolios. The most important thing that you can do is to keep an open dialogue with your advisor understand how your asset allocation fits into your overall financial plan. Make sure that you stay focused on the fundamentals of your overall retirement plan and keep emotion out of the game.

Let us, with our years of expertise in financial planning especially for people that are nearing or are in retirement, make sure that we can keep you on track so that you can accomplish all of your life’s goals. As always if you have questions about retirement or want to get a second opinion on your retirement, give us a call at 913-393-1000 or fill out the form below. With that, I will see you in one month, and I hope you enjoy the rest of your day.

Dean Barber
Founder & CEO

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Investment advisory services offered through Barber Financial Group, Inc., an SEC Registered Investment Adviser.

The views expressed represent the opinion of Barber Financial Group an SEC Registered Investment Advisor. Information provided is for illustrative purposes only and does not constitute investment, tax, or legal advice. Barber Financial Group does not accept any liability for the use of the information discussed. Consult with a qualified financial, legal, or tax professional prior to taking any action.