October 2015

Major central banks, like the US Federal Reserve, can print money and lower interest rates in order to stimulate their economies; this is referred to as easy monetary policy. Sometimes this also leads to a lower currency valuation which can boost exports.

Currently, four of the world’s largest central banks (China, the European Union, Japan and Switzerland) have an extremely easy monetary policy which has led to unprecedented negative overnight interest rates in much of the developed world. This is having the intended effect of loan growth and lower currency valuations which should stimulate these economies.

Already experiencing recurring economic growth, the US and UK are nearing the point of interest rate increases. The last US interest rate increase was over nine years ago (June 29, 2006). While the eventual increase in US overnight interest rates from 0% to ¼% will generate media attention, the monetary effect should be de minimis. Interest rates of ¼% are still extremely low by historical standards and would represent a continuation of easy monetary policy. Savers should not expect to earn any additional money on their bank accounts.

US overnight interest rates of 0% (since December 16, 2008) have driven many bond investors into higher risk debt (including high yield and/or junk bonds). Since 2008, bond funds have experienced massive fund inflows, while stock funds have had net outflows. As such, some areas of the bond market have been considered overvalued.

The emerging markets have received considerable attention in recent months, both equity and debt. Their debt could provide investors with material losses from both currency exchange and rising default rates. Corporate bond issues in Brazil, Russia, South Africa and Turkey may be at heightened risk due to weak currencies and low commodity prices.


Loan growth and tax receipts are monthly statistics that are indicative of current and future economic activity. US aggregate loan growth is currently 8%, the highest in eight years. This indicates both rising bank and borrower confidence levels as well as probable increased future economic activity as the money is spent or invested.

Monthly US Treasury tax receipts are up 8% with individual taxes paid rising 12% and corporate taxes up 9%. The most reliable indicator from the US Treasury may be employment/social security taxes withheld (up 5% year to date) as these must be paid to the US Treasury as incurred. This 5% increase in wage taxes validates other economic data showing a tighter labor force, more full-time employment and voluntary departures to take a better job elsewhere. The overall US unemployment rate has fallen to 5.1%. Job listings are at a 15-year high. Eventually, these trends should lead to wage inflation.

The average US household is benefiting from more jobs, lower energy prices, and rising home equity. US home prices have risen again this year (5% year over year). Consumer confidence has reached an eight-year high. After seven years of stagnation, household formations are finally on the rise and portend an increase in housing construction.

On the other hand, corporate profits took a hit this year from lower energy prices, lower energy company infrastructure spending, a rising US dollar making exports less competitive, West Coast port strikes and winter transportation delays. Many of these trends will annualize in the months ahead and corporate profits should start to rebound. Corporate America should report aggregate profit growth for both the fourth quarter of 2015 and full year 2016.


On the other side of the globe, China’s industrial slowdown is making headlines and generating global market volatility. Lower construction and infrastructure activity has led to declining Chinese imports of raw materials and lower commodity prices. This year, house prices in China have started to rebound and government infrastructure spending is expected to accelerate next year.

China remains an emerging market and its relatively new stock markets have been extremely volatile. The Chinese have more wealth in housing than stocks. Thus, this year’s rise in Chinese housing prices is a better economic indicator than stock prices (which rose 150% from mid-2014 then fell over 30%).

In the meantime, it is hard to measure China’s overall economic growth. Industrial measures show a decline, but the Chinese middle class has grown to the point where consumer spending is an important part of the overall economy.

Increasing Chinese infrastructure spending in 2016 combined with higher global consumption should lead to stabilization of energy and commodity prices at low levels. Growth from both the US and Chinese consumer should enable the world’s two largest economies to report accelerating economic growth in 2016.

The US stock market can be sensitive to the calendar with August and September being the weakest months on average since World War II. October is the most memorable month due to volatility. Historically, November through April are the best six months of the year for stock prices.

October stock returns sometimes resemble a V as negative corporate earnings preannouncements and uncertainty in early October tends to be followed by stronger earnings reports later in the month. Given the recent market correction, many opportunistic, free cash flow generating companies may report heightened share repurchases in late October.


In the typical year, the US stock market has three pull-backs of 5% or more, one of which is greater than 10% (a correction). A bear market (20%+ market decline) tends to occur during recession or financial crisis. With recent statistics showing 8% domestic loan growth and 5% payroll tax growth, neither a recession nor financial crisis appears imminent.

However, US dividend growth stocks have underperformed non-dividend payers by a wide margin over both the trailing year and three years. Yet dividend growth stocks have a history of outperforming the stock market over longer periods of time as dividend growth tends to reflect the health and growth of the underlying company.

During periods of rising interest rates, dividend growth stocks tend to outperform both non-dividend growing and non-dividend paying stocks. However, this should become important as the Federal Reserve finally increases interest rates from 0% to ¼% and bond investors look for alternatives after possibly losing money in a rising rate environment.

Many disciplined long-term dividend growth investors who invested several years ago are happy with their rising stream of recurring cash dividends; however, newer investors have not made money. The wide disparity in recent performance appears to have created an attractive entry point into dividend growth stocks.