2017 is now in the history books, and it will be remembered for many things, including record-low volatility, strong earnings, increased global tension, the meteoric surge in Bitcoin’s price, and a strong stock market. The chart below shows the S&P 500’s 19.42% price move during 2017.

S&P 500 - 2017 Chart

The S&P 500 rose in price by 6.12% in the fourth quarter alone. These impressive returns were driven by large-cap growth companies, specifically information technology, financial, and consumer discretionary companies.

S&P 500 - 4th Quarter 2017 Chart

2017 Notable Statistics

Looking At 2018

We are optimistic that 2018 will be another strong year in the markets, with returns at or above historical norms. That said, we don’t expect it to be a repeat of 2017. Let’s address the challenging issues, and then we will finish with why we feel 2018 will be a successful year for investors.

Expect More Volatility: 2017 recorded one of the least volatile market years on record, with only a 2.9% correction during the year. This is the smallest correction in any given year since 1995.

S&P 500 Annual Returns vs. Intra-Year Declines - 1983-2017

What could influence the markets in 2018 to have greater volatility than what they experienced in 2017? A mid-term year election is a great place to begin looking. The markets don’t like uncertainty. This upcoming election is certainly going to be interesting and entertaining, if nothing else. Second year of a presidential term is often the worst year as a result of this uncertainty, as the chart below indicates.

Dow Industrials Four-Year Presidential Cycle

Market volatility could easily be churned up by the Federal Reserve continuing to increase Fed Fund rates. The chart below is the probability where Fed Fund rates will be at the end of 2018.

Current Target Rate Probabilities for DEc 19, 2018 Fed Meeting

This is a bit lower than where the Federal Reserve has projected they would like to have rates. As you can see from the chart below, the street doesn’t believe that the Federal Reserve will have the ability to raise rates as quickly as they would like.

Federal Funds Rate Expectations

Why is this important? The bond market has an inverted relationship between price and yield. While we believe the bond market is at risk of losing value, the street is indicating that it doesn’t believe that the Federal Reserve will be able to move as quickly as they would like.

Impact of a 1% Rise in Interest Rates

Because: The biggest reason that I feel the market will correct is because we haven’t had a correction is any substance for over 285 trading days. In other words, we are overdue. No market goes straight up (although this one has tried). This is highly unusual to not have more minor pull backs during a secular bull market. If we do experience a pullback in 2018, it will most likely be sentiment driven (meaning that the fundamentals of the bull cycle are still intact) and most likely will be shallow and short lived.

Now that we have looked at the things that could hold back the markets, let’s look at why we believe the markets will end 2018 higher than were they started.

Corporate Earnings

The S&P 500 broke all-time records for earnings in 2017. Expectations are for an even stronger 2018, as many large, international economies expand at greater rates than they expanded in 2017.

S&P 500 Earnings Per Share

Most of the economic data points are pointing toward a good economy in 2018.

We have very low unemployment and slow wage growth…

Civilian Unemployment Rate and Year-Over-Year Wage Growth Table

inflation under control…

yet the economy is expanding.

The Economy (The Index of Coincident Economic Indicators)

Chicago Fed National Activity Index (Three Month Smoothing)

Each year brings new challenges to our investment management team. As you already know, PGFG manages all of our strategies tactically, meaning we increase or decrease our exposure to the stock market based upon the risk we measure in the stock market. Each of our strategies has a baseline of how much exposure it will hold in equities on average. We increase that exposure if we feel risk has dropped. Conversely, we lower our equity exposure when our research indicates that risk is increasing.

We feel that it will be extremely important to be nimble in 2018. We foresee this market requiring us to shift allocations several times to stay in front of the stronger sectors of the market, as leadership changes during the year. We also feel that 2018 will be a difficult year for bond investors, especially in the long and intermediate durations. I am very confident that our team of investment professionals can successfully navigate these challenging and uncharted waters.

This website is solely for informational purposes. Past performance is no guarantee of future returns. Investing involves risk and possible loss of principal capital. No advice may be rendered by Polaris Wealth Advisory Group unless an investment management agreement is in place.