2nd Quarter 2019 Market ReviewSubmitted by Karstens Investments on May 31st, 2019
By Michael D. Karstens, CFP®, AIFA®
The first quarter featured a large bounce in stock markets around the globe. US stocks posted their best quarter in almost ten years as the Federal Reserve reversed course on future interest rate increases. The S&P 500 was up 13.7% for the first quarter while the DJIA gained 11.8% and the tech-driven NASDAQ was even better, finishing up 16.8%. The best performing stocks in the US were the smaller, micro-cap companies that were up over 20% for the quarter. These gains follow the very sharp losses of last year’s fourth quarter in which stocks lost close to 20%.
As you may recall, the DJ Industrial Average slumped 18.8% between Oct 3 and Dec 24 on fears that the Federal Reserve would continue to raise interest rates through 2019 along with the looming threat of a US/China trade war. Clearly fears of higher interest rates spooked the market late last year and rightly so. Both government and corporate debt have risen dramatically, and higher interest rates would likely cause untold distress. It is not surprising that the market swoon ended, and a rally began the day the Federal Reserve announced they would not be raising rates further.
International stocks also performed well during the quarter. The MSCI ex-USA index gained 11.5% for the quarter. Europe was up 11% and Chinese stocks also rebounded nicely gaining 18%. As a whole, emerging markets were up close to double digits.
Commodities were a mixed bag. Hog prices soared 45% as African swine flu wiped out a huge portion of Chinese swine herds. Oil was also up close to 30% and copper and lumber posted gains as well. However, the news was not as robust for some. Local farm commodities such as soybeans, corn, cattle, and wheat were all down for the quarter.
One of the buzzwords we hear often is “disruption”. Today, we often read about the Amazon effect and how it has disrupted book stores, retail stores, malls, the grocery business and more. We hear about artificial intelligence and robotics and how disruptive this will be to future jobs. We hear about DNA sequencing and how this will change medical care as we know it. Many experts we follow believe that we are in the very early stages of technology driven change that will dramatically alter the way we work, live, and play. They often argue that not since the early 1900s, when electricity, the telephone, and the combustion engine all came together to drive economic growth, have we had a series of platforms that will lead to the tremendous societal changes we’re about to see. So what are these platforms and big ideas? We would list at least five areas to watch.
1. DNA sequencing.
3. Energy storage and battery life.
4. Artificial intelligence.
5. Digital payment systems.
Each of these platforms on their own will likely cause major disruptions in almost all industries.
Not surprisingly, combining these platforms can lead to even larger potential changes ahead. Think of the often discussed autonomous electrical vehicle. Combining energy storage/battery life with robotics and artificial intelligence, and you get the electric driverless car. Google’s Waymo division has tested cars in 25 cities across the US and plans to expand to all 50 states in the very near future.
Next, think of the autonomous driving feature and the cost savings potential. If you look at taxi services, think Uber, Lyft, et cetera, delivery services or simply moving goods from one place to another (trucking), approximately 60% of the costs related to these tasks are due to labor. Eliminate the labor and you eliminate 60% of the costs. Couple this with lower operating costs and you have a significant cost savings. We have seen cost estimates go from $0.70 per mile for vehicles today that would fall to $0.30 per mile with autonomous vehicles. Some experts go so far to say cost could fall to under $0.02 per mile.
Now think of the disruption:
1. Currently, we have over 4.5M people who earn a living driving vehicles.
2. Governments reportedly earn over $5B a year from parking tickets, speeding tickets, fees, et cetera.
3. Will centralized warehouses featuring delivery systems replace even more retailers?
4. Parking: Will we need parking structures? Why pay for parking if it is cheaper to send your car home or simply hail a vehicle later?
5. Congestion. This is the perhaps the biggest wild card. If cost falls so low and we can get items delivered within two hours of ordering them online, think of the congestion that we would have in our streets.
When you think about your personal vehicle, which by most estimates, sits idle 95% of the time, and the cost to own that vehicle (purchase price, gas, insurance, registration/taxes, maintenance, et cetera), many may find vehicle sharing as a superior alternative - especially if convenience develops as many expect. According to MS Research, and indicated in the chart below, United States electrical vehicle sales of 2% today are expected to increase by 14% by 2030 with Europe growing from 3.3% to 31% and China from 5% to 30%.
The potential of these platforms has obviously caught the attention of investors. The so called FANG stocks (Facebook, Amazon, Netflix, Google) all use artificial intelligence and the internet and have been huge winners. Several others like Lyft, Uber, Slack, Pinterest & Zoom have either recently gone public or will have their initial public offering soon. Many of these companies have grown sales very rapidly yet many still lose massive amounts of money. The same can be said of the biotech area where stock prices fluctuate widely around new drug trials and their successes or failures. Many of these companies have become very large companies in a very short period of time. From an investment standpoint it’s hard to know if these are investments or speculations. Some of these stocks will likely be like past leaders that fell from grace, remember America Online, Yahoo, Compaq Computers, Level 3 Communication, MySpace, Blackberry, Nokia, Palm Pilot, etc., while others may go on to be leaders of the future.
As we talk to our fund managers, some have taken substantial positions in companies that can be labeled disruptors, others take a slightly different approach and invest in companies that may benefit indirectly from the new technologies - perhaps instead of buying a battery maker they invest in a lithium mine that provides the natural resources used in the creation of the batteries. In any case, these new platforms will likely create many new winners and losers and will most likely create more market volatility in the future.