The following is an excerpt from our recently published Q4 Market Update. For a copy of the full document, please contact us.
The fourth quarter of 2018 marked the period where the Fed removed the training wheels that it had been deploying for nearly the prior decade; at least that’s the best way to categorize the market’s perception.
We recently put some context behind this in our December white paper. In the post-financial crisis period, bank balance sheets required repair, the job market needed to heal, a housing foreclosure glut had to be flushed, and factories had to slowly shift gears back towards optimal production levels. All of that added up to the Fed concluding that it needed to retain “accommodative” posturing, that is, up until early October 2018 when Chairman Powell ditched the term from his commentary. In isolation, this conclusion was largely foregone. In conjunction with a handful of impacts—1) escalating trade tensions with our largest nation-state partner, 2) a yield curve head -faking flatness, 3) a midterm elections balance shift, 4) the shuttering of the federal workforce as a border wall deal pawn, and 5) an expansion that was getting longer in the tooth—these factors stacked up as too burdensome for the equity markets to sustain. As a result, December earned its Grinch-envious badge of “Worst Christmas Eve ever,” and retail investors bailed from equity funds at a record pace.
Despite a soggy Times Square ball-drop that made the humans-as-sardines ritual appear even more miserable on our screens, 2019 has been a refreshing reminder on the underlying drivers to what equity prices attempt to reflect. As active equity managers, we’re not hired to be optimists. We’re here as impartial arbiters, bestowed with the fiduciary responsibility of our clients’ capital (alongside our own) to make sense of the market’s appetite for risk. In turn, we position our long- term bets with the explicit intention of providing relative value. We view the end of 2018 as being a reminder that the days of a rising tide lifting all boats, one that simultaneously inflates multiples indiscriminately, are artifacts of the past. Never is it prudent to stack a portfolio with investing acronym du jour–prepare for the “FANGs” to be replaced by the “PAULs” of Palentir/Airbnb/Uber/Lyft–as peak-to -trough draw-downs of 20% intra-quarter are not-so-gentle reminders that a risk- centric approach is imperative to the generation of attractive risk-adjusted returns. We interpret the market’s 4Q volatility as a cue that our tools deployed towards relative value creation need to be sharper and more precise than any prior expansionary period.
To receive a copy of our entire SWS Growth Equity quarterly update, please contact us.