The S&P 500, Dow and NASDAQ surged to all times highs this month, as oil rallied 10% to $48.52, raising the question: “how long can this last”. As fears of recession worry investors, at Samra Wealth Management; we believe these fears have little ground in the short-term, given: strong fundamentals, decreasing unemployment, and increasing investor sentiment. However, investors should be cautious, as we expect rough waters at the tail-end of 2017, into 2018; based on personal income levels, we predict to fall for a large portion of Americans. Given the current economic climate, we look to project the effects of an interest rate decision by the Fed.
Corporate earnings have continued to post strong and consistent results, as over 90% of the S&P posted their Q2 earnings, with 70% beating their mean earnings estimates, led by: information technology and healthcare. However, these results are to be expected: since the early 2000’s most corporations have streamlined operations, to run efficiently; replacing staff with technology, while eliminating unprofitable operations. Examples range from the manufacturing sector with robotics replacing human capital, to the service industry, with fast-food restaurants such as McDonalds and Panera bread introducing self-service kiosks to their customers. In the short-term these changes provide greater opportunity in terms of profitability: after the initial investment in technology has been made, it replaces human capital, and is depreciated through accelerated depreciation, drastically reducing the cost of goods sold, and human error, while allowing operations to run at a maximum sustained level of output.
On the jobs front: in the short-term we believe unemployment will continue on a downward trajectory, however, our long-term opinion; we stand cautious ofunemployment given the jobs landscape is experiencing a shift. Technology is replacing the dependence on human capital, globalization is consolidating operations, while retail sales shift to online sales away from traditional brick and mortar. Inevitably these changes in infrastructure will lead to a decrease in demand for labor, lower income generated from labor, and lower consumer confidence. We do not expect a uniform drop in per capita income, as the upper middle class and above will expect to see their income and wealth increase from alternative sources such as inheritance, income derived from retirement plans and pensions, and the sale of assets to fund retirement, or to downsize to more manageable housing. Decreases in income levels will effect those below the poverty line, as well as the lower middle class, leading to increases in government transfer payments, decreases in consumption spending and decreased personal savings and investment.
On the supply side of the equation, the cost of education continues to rise at a faster pace than inflation, with college tuition increasing 146% since January 2000. With 38 million Americans living with student debt, the debt level of student loans has surpassed $1 trillion. Prospective students are now considering alternative paths, opting for vocational training, and educating themselves with publicly available sources such as Coursera, an open-source platform that allows the student to take courses from some of the most renowned educational institutes, such as Stanford, MIT and Wharton to name a few, at no cost. Students are provided with the knowledge, however, come away without a diploma, and without incurring any debt. The cost of education combined with decreased salaries, has aided in the start-up revolution, originating in Silicon Valley, and spreading across the most rural areas of the US. The search for higher wages is leading to migration and a push towards advanced degrees as the top 25 highest paying jobs require at the minimum a 4 year college degree.
In our June issue of The Samra Report, we predicted the Fed will increase interest rates by year end, however, we believe this action will come too late, and the Fed has missed the opportunity to raise interest rates when it would have had little impact to the US economy, however, an increase in interest rates by December 2016 will lead to strengthening of the US Dollar, lowering exports, and lower corporate income from foreign operations due to currency risk. Regardless, our consensus is that the Fed will raise interest rates, and the raise will continue gradually until the Federal Funds Rate surpasses 1%.
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