A Look At The Economy And Markets In 2014

As we dive headlong into the new year, it’s important for us to take stock of insights gained and lessons learned from the year gone-by, so that we can prepare for the opportunities and potential pitfalls ahead in 2014. 2013 held no shortage of potential economic “crises”. We started the year with the “fiscal cliff”, then came sequester, gridlock, the debt ceiling, Obamacare, and tapering; in fact, it’s no surprise that almost all of the potential tripping hazards in the last year have been directly related to the government. This confirms two inescapable facts: that an ever-expanding government poses the greatest threat to our economic growth; and, in spite of government, the economy is experiencing one of the greatest bull-runs of our lifetime. Not long ago, it was widely feared that the Fed was going to cause hyper-inflation because it was pumping so much money into the economy. As a result, we saw the price of gold (widely considered a hedge against inflation) skyrocket, and every-other commercial on television was for some cash-for-gold scheme. Hyper-inflation never materialized, but why? Simply put, banks, which were the recipients of the newly printed money, deposited most of the funds at the Fed as excess reserves, and earned their modest .25 percent. In fact, M2 (the actual money supply in your pockets and mine) has continued to increase on-pace with a historical average of only about 6 percent since 1995. Inflation remains in check, and we expect to continue to see the price of gold fall toward $1,000. Tapering, which is the slowdown and eventual reversal of the Fed’s scheme above should also pose no problem, regardless of the hype. The Fed is holding bonds, which, through QE, it has been purchasing from banks in exchange for cash, which the banks, as just mentioned, have re-deposited at the Fed as excess reserves. Eventually, the banks will buy back the bonds, using the cash currently on deposit at the Fed, which the Fed will eventually destroy. As a result, we expect no hyper-inflation. Actually, when you do the math, the end result probably isn’t much at all, which points to an economy which is growing in spite of government intrusion. U.S. stocks have been the place to be in 2013, with indices up nearly 30 percent. Contrary to what you may hear on the news, we do not believe this is proof positive of a stock “bubble”, but rather a result of American private enterprise doing what it does best. Companies are continuing to innovate and increase productivity, which is resulting in record corporate profits. Consider that, at its peak, Blockbuster Video had 60,000 employees. Today, Netflix, which largely put Blockbuster out of business, has only 2,000 employees. Innovation has directly resulted in greater efficiencies, higher profits, and more value for shareholders. This type of innovation is happening in nearly every sector, from healthcare (think 3D-printed organs, or the recently announced Scanadu), to homebuilding, where a prototype has just been built to 3D-print an actual home in 24 hours. With U.S. stocks valued at 15x-17x earnings, we feel the U.S. stock market is fairly- to under-valued. Internationally, we feel that most of the world will continue to lag U.S. markets, with the only real improvement coming from Europe, as EU members continue to come out of recession and intra-union trade improves. We do not hold out much hope for many of the developing markets in 2014. Brazil, which only a few years ago was recognized for its development by being awarded the 2016 Olympics Games, and the 2014 World Cup is faltering badly. Many thought that these events would spawn even more growth, as improvements in infrastructure and accommodations would need to be made in preparation. Unless Brazil radically changes course, you may be as likely to see a successful Olympiad held on my back lawn, as in the country of Brazil. Bonds, which are usually considered “safe” by many investors, are likely to get hit in the coming year. For the first time in the memory of many investors, we are entering a true rising-interest rate environment. As interest rates increase, the value of bonds will likely drop, causing conservative investors, who are trusting bonds for principal preservation, to experience more agita than they bargained for. Overall, we believe that 2014 will be another strong year for the U.S. stock markets, projecting a 15 percent increase in stock indices. Even with a likely correction in the coming year, we believe that a 15 percent year-over-year gain is certainly achievable regardless of how bumpy the ride may be. Please remember that these are all forward-looking statements which are based on the information available today. Any new information could cause a dramatic shift in our projections, making it crucial that you work closely with your independent financial advisor to ensure that your investment strategy reflects your goals. Stephen Kyne is a partner at Sterling Manor Financial in Saratoga Springs and Rhinebeck. He can be contacted at 583-4040 or at This email address is being protected from spambots. You need JavaScript enabled to view it.. Securities and investment advisory services are offered solely through Cadaret, Grant & Co., Inc. Member FINRA/SIPC. Sterling Manor Financial and Cadaret, Grant are separate entities.