What We’re Thinking

The financial media continues to assign reasons for current stock and bond price movements, up and down, including: (a) the extent of economic slowdown in the US and internationally; (b) progress, or lack thereof, in the ongoing trade war with China and other countries; and (c) the Federal Reserve’s willingness, or reluctance, to continue lowering interest rates to stimulate economic activity without generating unwanted inflation.

Towards the end of September, a new factor entered the narrative, as the likelihood of impeaching President Trump seemed to be on the rise.  Whether that event would help or hurt financial asset prices became a question. There were up and down days during this period, which would seem to make causation quite difficult to assign. That said, and with the understanding there are many different views on this topic, we will discuss an article by Neil Irwin on this subject (NYT, 9/26/19, page B3).

The article begins by noting that during the two-year period starting with the 1972 Watergate break-in  and ending with President Nixon’s resignation in 1974, the S&P 500 fell 25%. During the Clinton impeachment in 1998, by contrast, the S&P 500 gained 22%. The article takes the position that “in the 1970s markets were not responding to troubles and high drama in Washington; they were adjusting to oil embargoes and a spike in inflation. In 1998, the markets reflected a booming economy…. These historical episodes of impeachment drama show that any moves driven by political headlines tend to be modest and short-lived. Economic fundamentals matter a lot more. So don’t be surprised by an occasional day in which activity in Washington appears to move markets…. But do be surprised if these effects turn out to be more than temporary blips.”

The article continues by citing a report from economists at Cornerstone Macro, concluding that:  “Although there were days when market moves were outsized, in both historical examples, markets simply continued a trend that was already in place and attributable to other factors…. So the existing market trend – reflecting a global economic slowdown particularly concentrated in manufacturing – is likely to persist, unaffected by the president’s latest troubles.”

Mr. Irwin adds a caveat: “The question for a potential Trump impeachment seems less about the instant reaction to the latest developments, and more about whether there could be a feedback  loop between impeachment and economic policy.” He cites the ups and downs of  trade policy as a major factor in today’s markets, “much as the oil embargo in 1973 and the dotcom boom in 1998, and that trade is an area over which President Trump has direct control.” He also notes that impeachment will likely make any legislative deal-making highly unlikely, and questions whether it is more or less likely to drive Trump to resolve some of the current trade conflicts. He concludes: “All of which means that to assess the eventual market implications of a Trump impeachment, it’s not really a matter of economic analysis.  It may ultimately be about behavioral analysis.”

In our view, impeachment is a “wild card,” adding uncertainty to an already uncertain political and financial environment. We tend to agree with the Irwin article’s basic point that impeachment may not be a major factor in how markets react over the long term, but also retain our general skepticism about predictions of any kind. Instead, as usual, we advocate developing asset allocations appropriate to your financial situation, and revising them only as your situation changes over time.

Usually in our Monthly Comments, we share our observations about the financial markets. But this month, we’d like to shift the focus, onto some thoughts about how we live with money. We start with a question:

How did you learn your early lessons about money? 

Was it from your family? Or maybe from your friends? Were you in a classroom, or possibly the corner store? How old were you? Does a single incident stand out? Or maybe a few smaller moments? Is now the first time in a long time you’re recalling them? Who else knows about these early lessons?

Money is a fascinating, complicated subject. From the time we’re little kids, money shapes us: where we live and what we do, our life experiences and aspirations. We all have unique personal histories and priorities when it comes to money. Even partners and siblings – maybe especially partners and siblings – can have dramatically different approaches to financial life.

At the same time, it’s a frequently taboo topic. Important as it is, a lot of our “money life” happens in silence and isolation, conversations that don’t happen, memories that linger but stay buried. This taboo isn’t just imagined. In her 1922 book, Etiquette in Society, in Business, in Politics and at Home, the American manners expert Emily Post wrote, the “very well-bred … intensely dislikes the mention of money, and never speaks of it (out of business hours) if he can avoid it.” Unfortunately, this taboo can have toxic repercussions.

There’s a concept in the field of education, known as “the hidden curriculum,” which refers to all the things we learn, even though they’re not explicitly taught. On reflection, it’s easy to start to see how powerful the hidden curriculum of money is, and how perverse and misaligned our cultural expectations often are around the topic. Consider: Money drives so much of our decision-making … but we’re not supposed to talk about it! No wonder money routinely tops the list of the most stressful topics in peoples’ lives.

Most of us don’t learn the fundamentals of money or personal finance when we’re young. There’s no formal, widespread curriculum. So we get our lessons in fits and starts, through what we see and hear – as well as from what we don’t see and fail to hear. As a result, money can often feel like a Gordian knot, an unsolvable puzzle.

The complexity is frequently compounded by the financial industry and press. “Financial speak” can seem like a whole other language. The people who explain money for a living typically stand to gain when the rest of us are befuddled. They’re the “experts”, and just as we do to other experts – electricians, pilots, engineers – we cede the field to them.

But money is too important, too central, and too learnable to wave the white flag on. That’s why, for Park Piedmont, we focus a lot of our time trying to inform and educate. To limit, wherever possible, the financial jargon. To share with you what we know – and freely admit when, as is so often the case, something is unknowable (like where the markets are headed). And to help you, our clients, feel increasingly competent and confident in your own life with money.

We see those roles as a big part of our work, and an important part of our purpose as a firm: to help make financial decision-making less complex, more understandable, and more of an ongoing, open conversation.

To keep the conversation going … please feel free to share your formative money moments with us, and/or your thoughts on other aspects of the “hidden curriculum” of money. We’d be happy to hear them!

In our most recent July 2019 Monthly Comments, we discussed the media coverage of early August stock price volatility on days when prices were lower. Key market movers were presented as 1) the direction of interest rates; 2) tariff and currency disputes with China; and 3) the inverted yield curve for ten-year and three-month US treasuries, perhaps signaling an economic recession. One additional point on the relationship between stock prices and recession not frequently discussed in the media is that stock prices do not necessarily fall in response to recession (a lengthy subject for a future Monthly Comments).

Those same July Comments pointed out the surprising upturn in stock prices since Trump’s election. The updated figure as of Friday, August 16 (using the S&P index close of 2,888) was 35%, 4% lower than end of July. That same index is still up 15% for 2019 year-to-date.

Another key point in those July Comments was to focus on percentage changes and not just absolute numbers (e.g., an 800-point drop in the Dow Industrials translates to a 3% decline). Any percentage decline is further modified by your specific portfolio allocation away from stocks, and into the less volatile, lower returning asset classes of bonds and cash equivalents.

As for bonds, they continue their recent trend of yield inversion, with the ten-year Treasury yielding 1.56% and three-month Treasury yielding 1.87% (as of the August 16 close), an unusual situation the length of which is pure guesswork.

The additional thought we would like to add in this update is to suggest that the media ‘s efforts to assign reasons for and economic significance to this recent volatility may be misplaced. Rather, this volatility may just be the effect of short-term trading among financial market participants looking for short-term gains.  This thought may be supported by the fact that there are up days for stock prices sprinkled among the down days, which might not occur if the price movements were truly economically significant. We and others have expressed this idea during other periods of volatility, but it remains one we should keep in mind as we all follow the news.

After relatively modest price changes during July in both stock and bond markets, early August witnessed a return of substantial stock and bond price volatility.

• Although the recent declines (and gains) appear large in absolute numbers, the important figures are the percentage gains and declines. A drop of 500 points on the Dow, for example, sounds huge, but at current price levels it’s a more modest 2% decline. And depending on your specific allocation to stocks, these declines are moderated even further.
• Markets currently seem to be responding to the daily news, focusing on the Fed’s position on US interest rates and the China trade dispute, involving both tariffs and more recently currency exchange rates. These factors have a direct bearing on the growth outlook for the US economy.
• News that does not appear to be driving daily market price swings, for now at least, are the problems surrounding the Trump presidency and various international conflicts. These issues tend to have a more indirect bearing on the outlook for the US economy.
• History has demonstrated that stock returns are determined by the underlying corporate earnings that support the price level of stocks (the Price/Earnings, P/E, ratio), an analysis that plays out over time and is impacted by many factors. To the extent the daily news items are likely to impact earnings, then there may be some connection of the news to market prices. But because the mix of factors and their significance are changing all the time, it is extremely difficult to make judgments on a day-to-day basis as to the appropriate level of stock prices. (As you know, we do not try to predict future stock price movements or their causation.
• A few reference points for stock prices (S&P 500 index) may be useful:
  • At the time of Trump’s election in early November 2016, the index was 2,140.
  • At the end of 2018 (a year when the S&P 500 declined 6.2%), the index was 2,507, or a gain of 17.1% from Trump’s election.
  • At the end of July 2019, the index was 2,980, a gain of 39.2% from Trump’s election. With all the current day-to-day news that appears to be negative, stock prices have somehow continued to move considerably higher.
• As for bond prices, they continue to move higher, as the benchmark ten-year US treasury yield has declined to around 1.7% in early August from its October 2018 high of 3.15%, a very substantial move. The Fed reduced the short-term rates it controls by 0.25% at the end of July 2019, but the ten-year yield has declined much more than short-term rates have (the inverted yield curve discussed last month), apparently anticipating a slower economy going forward and further rate reductions by the Fed. With a relatively modest 2.1% gain for Q2 2019, the most recent GDP report did show that “the American economy is slowing…but there are few signs that the decade-long expansion is on the brink of stalling out” (NYT, 7/26/2019, page A1).
• When yields fall and bond prices rise, this is a mixed blessing for bond investors, since the yield is the income they receive from the bonds. At some point this cycle will reverse, with declining prices and rising income. The timing of this eventuality is very much an unknown.

What to do with this information? As our clients know, we advocate the long-term, stay-the-course approach, since timing markets is extremely difficult, if not impossible, and the allocations we recommend to clients have already taken into account the potential for declines in stock prices.

During June, stock and bond prices in the US increased. Some of the likely reasons for these increases seemed to be contradictory, but all centered on the likelihood that an economic recession may be on the horizon. A recession refers to an economy that has two consecutive quarters of negative gross domestic product (GDP) growth.

In the current economic and market environment, the bond market is signaling an expectation of a recession with ten-year US Treasury yields falling below the short-term (3-month) yield. This is called an inverted yield curve, since most of the time longer maturity bonds come with higher yields to offset the price risk of holding longer maturity bonds when rates rise. As interest rates on the ten-year Treasury have fallen since last October, the prices of these bonds have increased, adding to the investment return of bonds. This good news is tempered by the fact that interest received from these bonds has declined. The other consequence of lower rates is that at some point in time these rates will go back up, and prices will decline even as interest received increases.

The bond market is also expecting some reduction in interest rates from the Federal Reserve, after nine quarter-point increases over the past few years.  These reductions are supposed to have the impact of stimulating economic growth, assuming a recession is coming.  The Fed has taken the position that it will watch the progress of the economy to see if and when an interest rate decrease is warranted.

Other government action that can stimulate the economy would be to increase government spending and/or lower taxes. While these actions can have the negative effects of adding even more to the budget deficit and increasing inflation, they will likely be used if needed in an election year featuring President Trump running in part on his economic record.

But if a slowdown in the economy is good for bond prices, it would seem to be a negative for stock prices, because an economic slowdown presumably means more unemployment, less business activity, and falling profits, which are the main determinant of future stock prices. The current Price Earnings ratio (P/E) for the S&P 500, using twelve-month trailing reported earnings, is 22 (source: multiple.com S&P 500 pe ratio). Note that the 22 P/E is considerably higher than the long-term average P/E of 15, but this has been the case for several years now. If future earnings (the “E” in P/E) are likely to decline, stock prices would appear vulnerable. But we also know that many factors affect stock prices, and it’s possible that easing trade conflicts, a compliant Fed, and a supportive federal government can avoid and/or minimize a recession and thereby keep stock prices from declining.

None of this information comes as a surprise to the investment community, so it is up to investors to decide whether to stay the course and see whether a recession does occur, and if so how significant the decline in economic growth proves to be. The alternative is to try and time the market impact from a potential recession, by selling ahead of it and then buying back in when it ends.  As our clients know, we advocate the long term, stay-the-course approach, since timing markets is extremely difficult, if not impossible, and client allocations have already taken into account the potential for declines in stock prices.

As has been discussed in many previous Comments, interest rates (also called yields) are typically higher on longer maturity bonds, to compensate for the greater price risk associated with having to wait longer to get the initial principal back, called “maturity.” At maturity, investors can buy new bonds at then-current interest rates.

When yields on longer bonds fall below those of shorter-term bonds, the investment community labels that an “inverted yield curve”, since the normal yield curve, with higher longer-term rates, has a positive slope. This is highly unusual, but happened during the last week in March. The following chart shows the normal slope of a positive yield curve (from March 2018), and the inversion of that slope with the current (2019) slightly negative spread between ten-year and three-month Treasuries.

A recent New York Times article (NYT, 3/22/19, page B4) discussed this situation and its potential implications as follows: “[i]nvestors normally demand higher yields to buy longer-term bonds, and when those long-term yields decline it can signal a slowdown in economic growth. On rare occasions, long-term yields can actually fall below yields on short-term bonds, a ‘yield curve inversion’ in the parlance of the markets. Such unusual occurrences have preceded every recession over the last 60 years.”

The article continues by discussing the views of Duke Professor Campbell Harvey, whose research in the mid-1980s first showed the predictive power of the yield curve. “[Professor Harvey] stressed that an inversion must last, on average, three months before it can credibly be said to be sending a clear signal. If that does occur, history shows that the economy will fall into a recession over the next nine to 18 months. But even with the yield curve’s track record for predicting recessions, Professor Harvey emphasized that there was no such thing as certainty in economic forecasting. He is quoted as follows: ‘A model is just a model, it is not an oracle. It helps us the forecast future, but it might at any point fail.’”

To these observations we would add the following points:

1. Even if a recession is on the horizon, it does not necessarily mean stock prices will decline from current levels.
2. As a corollary, it is always possible that the chance of a recession is already priced into the current level of stock prices.

Most clients, when starting to use their investment portfolios for part or all of their spending, have as an objective to spend the income but not the principal. We would like to take this opportunity to discuss this objective and why it is so difficult to achieve in a low-interest rate environment.

First, some definitions:

• Income is interest on bonds/bond funds and dividends on stocks/stock funds.
• Total return is income plus or minus the changes in the value of your portfolio. During periods when stock and/or bond prices are higher, total return will likely exceed income. During periods when stock and/or bond prices are lower, total return will likely be less than income. Note also, stock and bond price changes sometimes move in the same direction in the same time frame but sometimes do not, and that stock price fluctuations are far greater than bond price changes.
• Required Minimum Distributions (RMDs) from retirement accounts are not simply income, even though they are taxed as ordinary income. They are a combination of income and principal based on the composition of the portfolio.
• Higher-yielding bond-like investments carry more price fluctuation risk than basic bonds, which is why they pay more interest.
• Annuity payouts are part income and part return of principal, not all income (a subject all its own).

Next come some necessary facts to relate to the issue of income and total return:

• Over the last 19 years (early 2000 to year-end 2018), the stock market (as measured by S&P 500 price change only), has gained a surprisingly low 2.6% annualized (S&P 500 index change from 1527 to 2507). If, however, you measure the price gain from the 2009 low (677), the annualized gain is an unusually high 14%. The ten years from 2000 to 2009 were basically flat, with two multi-year periods of very large price declines (2000 to 2002, and October 2007 to March 2009). Assume also that dividends added approximately 2% annually to stock returns over the entire 19-year period.
• As for bond prices, they also fluctuate, but much less than stock prices. Bond price changes are mostly in response to changes in market interest rates. When rates decline, prices rise, but the interest received is lower. Conversely, when rates rise, prices decline, but interest received also rises. From the years 2000 to 2009, rates declined and prices rose, and the annualized total return approximated 6% (a far better return than stocks in the same ten-year period), with at least half the return coming from interest rates and the other half from rising prices. But at some point, the rate declines stop, and that is essentially what has happened from 2010 through 2018 (with a few years of modest exceptions). Although rates have recently increased slightly, investors have been left collecting relatively little interest income (approximately 2.0% to 2.5% annually on the Vanguard Intermediate taxable bond fund), and are no longer seeing the rise in bond prices.

Putting all this information together, you can see that, over the last 19 years, annualized price gains/declines have been quite erratic, and income much more stable. No matter what your allocation to stocks and bonds, for every $1 million in total portfolio value, the annual income was likely to be no more than 2.5%, or $25,000. If the spending need from your portfolio was more than $25,000 per $1 million of capital, some of your withdrawal must have come from the principal value of the portfolio, which is fine as long as portfolios are gaining in value more than the withdrawals. Problems arise when markets and portfolio values decline, and spending is coming from income plus the declining value of the principal. The recent history (since 2000) of market price changes has indicated that there are gains to be expected, especially after periods of decline. But the periods of decline can be quite scary to people living off their investment portfolios.

We often see investors trying to earn more income from their portfolios, but there is always some tradeoff with the risk being incurred. We think it makes more sense to acknowledge that principal will likely be spent, unless your principal value is large enough to generate the spending need all from income. (For example; a $3 million portfolio could reasonably be expected to currently generate $75,000 of annual income at 2.5%. If $75,000 is the annual withdrawal needed, then the income may be sufficient).

PPA can run illustrations to show how long your funds are likely to last, spending both income and principal, based on assumed investment returns and inflation-adjusted spending amounts. Please let us know if we can be of assistance on this very important matter.

Once again, for some time perspective, we are using the chart below from our Special Comments to set out a few price points for the S&P 500 index since Donald Trump’s 2016 election (point and percentage increases calculated from November 9, 2016).  Other charts providing long-term context appear on pages 6-9.

A few comments from these figures:

• The December 24^th low was 19.8% below the September (“Summer” in the chart above) 2018 all-time high, just less than the 20% that constitutes a “bear” market;
• The recovery from the December 24^th low to the end of January has been substantial, approximately 16%;
• As for the somewhat longer view, the index is back to 25% higher for the two plus years since the election, well below the level reached in September, but not so far from the November 30^th – December 1^st

When stock prices stage such a rapid “U-turn” recovery, the normal instinct is to look for underlying reasons. For January, the financial media has focused on favorable corporate earnings, the Federal Reserve’s comments about holding off on raising interest rates, and progress on trade negotiations with China. Ignored in the explanations for this rally appear to be the US government shutdown and the ongoing negative issues surrounding the president, as well as the drumbeat of expert commentary that a recession is coming, somewhere in the world.  Note that corporate earnings reports are continuing, so the Price/Earnings (PE) ratio of the S&P 500 is in flux right now. The PE ratio gives us an idea of how reasonable stock valuations are in a particular time frame.

At Park Piedmont, we do not try to divine the reasons for short-term price movements, either up or down. Whether the events that created the 2018 September to December bear market for stocks have somehow dissipated to the point of providing solid ground for the January rally, or whether stocks are simply gyrating in a broad range to accommodate those who trade the short-term price movements of stocks, we simply do not know. We believe only the unknowable future will provide answers. Of course, this simply leads us to repeat our normal advice: try to ignore the short-term price fluctuations, develop and maintain an appropriate asset allocation for your particular needs, and hope that the historically favorable long-term results of the financial markets work in your favor.

Turning to bonds, returns were positive again in January, as interest rates on the ten-year US Treasury declined for a third consecutive month, this time to 2.63%. Comments from various Federal Reserve officials that their program of raising interest rates every three months would likely be put on hold for a while seemed to be a catalyst for driving interest rates lower and bond prices higher. It is worth noting that the full year 2018 saw four quarter-point rate increases (100 bps) from the Fed on the ultrashort rates it controls. By contrast, the ten-year US Treasury yield, set by buyers and sellers of bonds in the marketplace, increased only from 2.41% to 2.69%, an increase of 28 bps. When the ten-year rate gets close to the short-term rate, some market observers believe that is a signal for an economic slowdown.

The opposite view is that stronger economic growth is likely to continue, and with it the threat of rising inflation, which the Fed tries to limit with its interest rate policies. The debate about future rates of growth will surely continue, but for now, the allocation to bonds in investor portfolios continues to provide positive returns.

John Bogle, retired founder of Vanguard and champion of low cost index funds, passed away on January 16^th, 2019 at age 89. Two separate articles in the NY Times Business section (NYT, 1/17/19, page B1 & NYT, 1/16/19, page A23) pay deserved homage to Bogle’s contribution to the world of individual investors. The articles cite his emphasis on keeping investment costs as low as possible, and not trying to either beat the market’s long-term results or time the market’s ups and downs. These basic principles should be familiar to you as clients of Park Piedmont Advisors.

Since those articles contain many individual recollections of interactions with Bogle, we thought you might be interested in some of the history of how PPA came to be adherents of Bogle’s investment principles.  The first major influence was a book written by Burton Malkiel, a Professor at Princeton University who was a major influence on Bogle. As the title suggests, Malkiel’s book, A Random Walk Down Wall Street, took the position that the results of investing are random. As a corollary, investors should try to control what they can, which are costs and the allocation into and out of the stock market.

Along came the crash of 1987, when in one day the major stock averages declined by more than 20%. This event suggested to Vic (the only one working in the investment business at that time), that there had to be some better ideas and methods for investors to grapple with uncertainty, the tradeoff between risk and reward, and investing to meet clients’ specific long-term goals, rather than engaging in the apparently fruitless and possibly dangerous short-term trading of stocks.

After reading Malkiel’s book, and discovering Vanguard’s low-cost index mutual funds, Vic grew convinced that a sensible approach to investing could be established for families and individuals. The overall downside risk in the markets will always exist, but lower costs and appropriate asset allocations can buffer some of the downside. Thus was born Park Piedmont’s approach to investment advice. Over thirty years later, the approach is still going strong, into another generation, for which we thank all of our clients and John Bogle.

Even with no personal interaction, Bogle has been a major influence in the thinking and methodology of PPA, for which we are most grateful.  He will be missed.

Once again, for some time perspective, we are using the chart below from our Special Comments to set out a few price points for the S&P 500 index since Donald Trump’s 2016 election (point and percentage increases calculated from November 9, 2016).

A few comments from these figures:

• The December 24th low is 19.8% below the September (“Summer” in the chart above) 2018 all-time high, just less than the 20% that constitutes a “bear” market;
• The December 24th low is 12.1% below the year-end 2017 figure, and year-end 2018 is 6.2% below year-end 2017, the first significant down year for the S&P 500 since 2008;
• Note also that the recent high at the end of November (including December 3rd), which showed a gain for the year of 4.3%, was erased during December;
• As for the somewhat longer view, the index remains positive, at 15.9% for the two plus years since the election, albeit well below the levels reached in September and November.

A recent NY Times article (NYT, 12/27/18, page B1) about a particularly volatile day, when the S&P was down 60 points (almost 3%) but finished up 20 points (just under 1%), described the current climate as follows:

“Investors have struggled to find their bearings this month as the S&P 500 hurtled toward bear market territory, defined as a 20% drop from a recent high point. They are trying to assess the prospects for economic growth and corporate profits as interest rates rise and a trade war with China persists, while most recently factoring in internal White House turmoil and the President’s antipathy toward the Federal Reserve Chairman… Stock swings (aka volatility) have been larger and more frequent than at any other time since 2011. On 15 days in 2018, the value of the S&P 500 changed more than 3 percent, which did not happen at all in 2017 and on only five days in 2016. In 2011 that figure was 24 times… Traders have their own concerns with Mr. Powell (Fed Chairman) as well… Investors are concerned the Fed might not be willing to change plans for further increases in interest rates even if market turmoil persists.”

We reference this article in making some observations of our own:

• The article, to its credit, specifically links the current issues to prospects for economic growth and corporate profits. It does not, however, explain why these issues, well known for some time, became such problems during October and then again December.
• What is not mentioned is that the recent declines in the S&P 500 index have reduced the price (“P”) portion for the index, so that its P/E ratio, which reached approximately 25 during the highs of 2018, has declined to approximately 19 (http://www.multpl.com/), based on trailing 12-month reported earnings. As the P/E for stocks declines, they become more reasonably valued, unless of course the declining prices are correctly foreseeing declines in corporate earnings, which will only be known as the future unfolds.
• Does anyone remember the volatility of 2011, or the underlying events that were cited as factors back then? Note that since the 2008 decline of 38.5%, the S&P 500 index has gained in all years until 2018, except for two years (2011 and 2015) with basically flat results.
• The biggest problem with the article is the lack of distinction between investors and traders. As we wrote in our December Special Comments, ”we suspect that much of this volatility is the result of traders trading with each other, using market pricing as the measure of their daily gains and losses. This trading activity does not appear to be based on financial or economic reasons, but rather on an effort to gain from the next, often daily, market price movements… Unlike investors, traders do not have a long term perspective.”
• Our December Special Comments concluded that “We do not know when these declines will stop, and at what levels on the S&P 500. We also do not know which among the many factors cited as potential causes are the real reasons for the declines. We do continue our advocacy of appropriate allocations to stocks, and a long-term time horizon when considering what that allocation should be.”

Turning to Bonds, prices rose in December, as interest rates on the ten-year US Treasury declined for a second consecutive month, this time from 3.0% to 2.77%. This was surprising, because higher interest rates are one of the media’s main reasons for the recent stock market declines, even though stock prices had moved higher until the end of September (note: the Federal Reserve made its fourth quarter-point (1/4 of 1%) 2018 rate increase in December). One explanation is that the ten-year Treasury price is set by market participants buying and selling these bonds, whereas the interest rates the Fed controls are overnight rates charged to banks (ultra-short term), which the Fed uses to try and modulate inflation rates and economic growth.  There are times when there is a divergence in the direction between these two rates, and if the ten-year rate gets close to the short-term rate, some market observers believe that is a signal for an economic slowdown. In any event, for now, the allocation to bonds in investor portfolios is providing positive returns to offset at least some of the stock declines.