Finding opportunities in a world without shortcuts.

Our Top Market Takeaways for the week ending November 22, 2019.

Markets in a minute

This week’s rundown

The S&P 500 is down -0.5% on the week…but we shouldn’t be too disappointed. Stocks deserve a break after rallying +7.3% since the 8th of October. Bond yields were relatively muted this week as well: U.S. 10-year Treasury yields fell by eight basis points to around 1.75%, while 2-year yields barely budged. So what mattered? Here’s the rundown:

  1. The Fed released the minutes from its October meeting, and after three interest rate cuts since July, it seems like it’s done adjusting policy rates for now. We take the Fed at its word, but think the next move is more likely to be a cut than a hike.
  2. Stocks continued to swing on U.S.-China trade news. Keeping track of the micro developments is exhausting, but the headlines (e.g., U.S. Congress’s Hong Kong bill, “phase one” deal skepticism from D.C. insiders, etc.) and corresponding market reaction should be treated as the new normal.
  3. Ten Democratic candidates took to the debate stage in Atlanta on Wednesday night. In recent days, prediction markets have taken notice of Mayor Pete Buttigieg. These markets give him a 23% chance of becoming the nominee. Joe Biden has slipped to a 21% chance. The frontrunner is still Senator Elizabeth Warren, but her prediction market odds have fallen from over 50% in early October to 25% today.1
  4. There was a slew of micro news to digest. Target crushed earnings expectations (its shares are up +99% so far this year). Charles Schwab is rumored to be interested in buying TD Ameritrade in a continuation of a busy year at the discount brokerages (earlier this year, the industry came under pressure when Schwab announced that it would no longer charge commissions on stock trades). The launch of Microsoft’s answer to Apple’s AirPods (the aptly named Earbuds) is being delayed until next year. Missing out on the holiday shopping season is not ideal, but the news isn’t too damaging. Microsoft is up almost +50% this year, and Apple is up close to +70%.

It may seem like a quiet week for markets, but there could be a significant shift under the surface. Around a year ago, we thought that the Fed and the trade war would likely drive markets going forward. That proved prescient. The Fed’s pivot catalyzed a powerful rally that was only kept in check by escalation on the trade front. Now that the Fed is satisfied with where rates are, its impact on the market will fade. But markets always find something to fixate on, and the U.S. 2020 election is right on time to step in to take the Fed’s place. The difference is that the Fed pivot actually drove a massive reduction in borrowing costs and changed the economic trajectory and valuation backdrop, whereas the election fixation will be largely speculative. Oh, and even if there is a “phase one deal” with China, we don’t think trade issues are going away anytime soon. Despite these worries, we are encouraged that the global economic backdrop is stabilizing, and we believe that those who stay invested through uncertainty will ultimately be rewarded.

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Investing in innovation

Are U.S. companies still investing for the future? These days, S&P 500 companies with extra cash on hand are more inclined to return it to shareholders in the form of dividends and stock buybacks than they are to invest it in things like new factories, equipment, technology, and research and development (i.e., capital expenditures, or “capex”). It’s no secret that capex growth has slowed in the United States, and certainly not surprising, given the decline in CEO confidence (thanks to the global growth slowdown and trade uncertainty).

The line graph shows the real private nonresidential fixed investment percentage change year-over-year from 2001 through 3Q 2019. It shows that since 2017, capital expenditure growth has been decreasing.

Not every component of capex growth is slowing, though. In fact, we’re actually seeing spending on things like research and development (R&D) continue to grow at a healthy pace and recently accelerate (+7.7% year-over-year in the third quarter, up from +6.5% in the second quarter). Given that R&D sows the seeds for innovation that can lead to new products and services, that can eventually boost sales, generate higher profits and improve shareholder returns, that seems like good news!

But of course, just because a company has thrown a lot of money into R&D and capex doesn’t necessarily mean that it will generate better returns for its shareholders. See the chart below, which shows the relative performance of the broad S&P 500 Index versus the 50 stocks (sector-neutral) in the S&P 500 that have the highest ratios of capex and R&D spending (relative to their market capitalizations). Since the start of 2018, companies spending the most (in relative terms) on capex and R&D have underperformed the broad index.

The line graph shows the Goldman Sachs Capex and the Research and Development basket in comparison to the S&P 500 from January 2018 through November 19, 2019. It is indexed to show the level on January 1, 2018, at 100. If it is above 100, it shows the basket is outperforming. The graph shows that since October 2019, this ratio has been increasing, but still remains below 100.
For a more specific example, recall the smartphone wars. Between 2005 and 2007, Nokia spent a total of $13.4 billion on R&D—that’s almost seven times what Apple spent on R&D over the same period ($2.0 billion). We all know who won that battle. (Since the start of 2005, Apple’s stock price has risen over +5,600%. Nokia’s has fallen almost -80%.)

We think that the market is abound with opportunities to benefit from innovation, but there are no shortcuts to finding them.

The point is that capital needs to be deployed efficiently and effectively in order to create shareholder value. We think that the market is abound with opportunities to benefit from innovation, but there are no shortcuts to finding them. An active and discerning approach to stock selection seems to be the most prudent way to find the companies that can successfully invest for the future and, in turn, create shareholder value.


1 Source: PredictIt, Bloomberg Financial L.P. Data is as of November 22, 2019.


All market and economic data as of November 2019 and sourced from Bloomberg and FactSet unless otherwise stated.

We believe the information contained in this material to be reliable but do not warrant its accuracy or completeness. Opinions, estimates, and investment strategies and views expressed in this document constitute our judgment based on current market conditions and are subject to change without notice.


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