It is that time of the year when fortune telling becomes a popular past time in the financial markets. Every Wall Street strategist releases their projections for the economy, the markets, and earnings for the New Year. What strikes me about 2020’s crop of predictions is their similarity.
My own informal survey of analyst’s forecasts seems to converge around a 1.8%-2.0% prediction for economic growth in the U.S. Earnings, for the most part, hover around the unchanged mark, or slightly better. These professional forecasters are looking for no more than average gains in the rate of return (ROR) for stocks based on the equity benchmark index, the S&P 500. What does that mean to me?
On average, over the past 150 years or so, the S&P 500 Index has returned roughly 4-5%. If you add in dividends, that ROR increases to 6-7%. You can read these consensus forecasts in one of two ways. They could mean that none of these people, who are paid to forecast, really know what the stock market is going to do next year, so they are hiding behind an average return. If they are wrong, they can always point to the fact that, from a historical perspective, the markets should have at least provided that much in gains.
The second possibility is that all of these high-paid Wall Street pundits actually believe their forecasts, in which case, as a contrarian, I worry that with everyone leaning to one side of the boat there is a chance that the markets will do something quite unexpected. If that is the case, you have to ask “Will stocks perform better, or worse, than the average?”
Ask yourself what could go right (or wrong) for the economy and therefore the markets in 2020. First of all, we are entering a new decade. The last one was wonderful for stocks. The chances of a repeat performance in the Twenty-Twenties could happen, but I doubt it. Physics would tell you what goes up, must come down, but who says it has to happen next year?
For me, the largest risk out there in 2020 is a spike up in inflation. This year, wage growth finally exceeded the inflation rate. It took the entire decade to get there, plus trillions of dollars of global central bank monetary stimulus. That stimulus is still going on and, according to all these strategists, should continue into next year on a worldwide basis.
If I accept that the U.S. economy will continue to muddle through, and unemployment will continue to remain at record lows, one could expect wage growth to gain even greater momentum. And wage growth, my dear reader, is the main engine of inflation in this country.
In addition, we could actually see economic growth higher than what the economists are predicting, because it is an election year. No one can predict what politicians will do, or who will win an election this early in the political cycle. Yet, the market’s performance will depend on not only who wins, but prior to that, who is perceived to be winning.
However, I can confidently predict that neither political party will be willing to reduce government spending in 2020. In fact, the opposite almost always occurs during a presidential election year. We are already witnessing both parties “coming together” to pass a flurry of legislation (including a spending bill) at the end of this year. I expect to see more of that in 2020. More spending should equal more growth, more growth means higher wages, etc.
Then there is the Trump trade war. Everyone seems to be predicting more of the same: tariffs will remain, Trump will continue to use trade to get what he wants, and. as a result, business confidence and investment will remain subdued, thus the “muddle through” economic forecast. What might happen if the president switches tactics?
Donald Trump has two things going for him when it comes to voter sentiment. Even those who hate him believe he has done a good job on the economy and the stock market. The only thing that has held back even stronger growth, people believe, is his trade wars. If he were to change his tactics, shelve the trade war for nine months, and work to expand the economy through government spending, then what?
The economy may grow faster than expected. Global growth could get a boost. Emerging markets might benefit, as would other overseas markets. As a result, Trump would probably win in November, because no matter what Americans say, they tend to vote with their pocketbooks.
Stronger economic growth, both here and abroad, a historically low unemployment rate, and the inability (thanks to Trump’s immigration policies) by companies to hire the skilled labor they need, would mean more wage hikes. That would translate into higher consumer spending, higher prices for goods and services, and maybe, just maybe, the inflation cycle begins.
In my next column I will pursue this line of thought and provide some other scenarios that could play out in the New Year. Until then, have a most wonderful New Year.