Hall Capital “Market Views” Newsletter January 2015

This is the 19th edition of Market Views from HALL CAPITAL. Our aim is to provide concise views of where we see risk and opportunity for investors.

Stay the Course
- despite challenges offshore

The US economy is picking up steam and the US dollar is at a 11 year high, while all the other large developed markets struggle for ANY growth. Greece, which will likely elect a new leftist government later this month, will not necessarily exit the EU, but even if they do, we do not see it as a serious problem for the US.

The "energy crisis" is mainly in the oil patch. While the sharpness of the 50%+ decline in the price of crude is of some concern, a $100 bil+ swing away from producers to consumers will be a net positive for the US, adding some .3% to the GDP. We believe we are in the downswing of a commodity "super cycle" which will bottom this year, but not fully recover for many years. This bodes very well for the inflation outlook.

No growth with a ramping up of inflation is a serious problem for both stocks and bonds. This has not been the environment. To the contrary, we have enjoyed SOME real growth, if not rapid, and inflation well below 2%. With the US economy steadily strengthening, no inflation threat, and low return alternatives, large cap US equities remain the long term asset of choice.

Among emerging markets only China looks interesting.

Europe's economic and political landscapes are more problematic than ours, but depressed stock valuations are starting to reflect the somber outlook.

Fed Policy Shift This Year
- will be the key change in the environment

Last year, we cited "clear sailing". This is no longer the case with rising interest rates on the horizon. Rising rates always lower P/E ratios. Whether stock prices decline depends on the growth in the E. We expect a tug of war during the transition, but still leaving us with about 8% returns on a long term basis from stocks. It is very difficult to gauge how investors will adjust to a rising interest rate environment in the near term, i.e., this year. Suffice it to say that when we start out with a market P/E of 17, a tad higher than the historical average, if interest rates rise and the P/E shrinks, it's a good bet the E will not grow enough to push P above the return we enjoyed in 2014 (see below).

Our problem with bonds is not the current fundamentals, but the long term expected returns. While municipal bonds have some merit, 10 year US Treasury obligations are paying near 2%. Over the near term long bonds have upside, but as long term investors we have to focus on the 2%, rather than on a short term trade. And 2% is simply not interesting, even in a low inflationary environment.

Focus List
- lower risk and higher returns

It was a very good year for the Focus List which returned 14.2%. This compares to 13.7% for the S&P 500. Last year the S&P 500 was especially hard to beat. None of the 25 largest mutual funds matched it (most returned single digits). The average annualized return since inception 4.5 years ago of the Focus List was 19.2% vs 17.6% for the S&P 500. Given that we have no short term gains and few recognized long term gains, the after tax return was close to 18% -- ahead of the index even after tax. Furthermore, these results occurred in a strong market. Given the defensive nature of this portfolio, had the market been weak, the relative gain over the market would have likely been even greater. The point of the list was to show that you could do as well as the market without taking the same risk.

For individual stocks as well as selection strategies, past performance is not necessarily indicative of the future.

Hall Capital Focus List

Follow Up – from our letter one year ago

"Clear Sailing suggest there is no visible significant threat on the horizon for equity investors"
- This proved to be correct, but the market was distracted at times whether it be riots in Hong Kong or Ebola.

"… the recommended equity allocation by the average of all Wall Street strategists is 53% … That the strategists are cautious is not a concern. To the contrary, this is an indicator that there are ample funds on the sidelines to fuel the market higher."
- We haven't seen recent polls, but ample funds remain on the sidelines to take the market higher if the environment remains hospitable.

NOTE: Now in addition to ALL our quarterly letters, on our website is a tab with just the Follow Ups.

About HALL CAPITAL

HALL CAPITAL, LLC is a registered investment advisor and was formed by Principals from Arcturus Capital in 2010.
For more information, contact Donald Hall 626 578 5700 x101 dhall@hallcapitalmanagement.com