Dear Clients,

The selloff we experienced earlier in the year has been replaced by a strong and sustained rally. Over the past several weeks, stocks have reached multiple new all-time highs, reminding us that markets often move in ways that inflict “pain” on the most people. This year has been no exception. Many investors allowed negative sentiment—driven largely by uncertainty surrounding President Trump’s tariff policies—to push them to the sidelines.

At Kessler Investment Group, we have consistently highlighted our view that markets tend not to respond well to uncertainty. However, periods of volatility often present the best opportunities for disciplined investors. Our decision to maintain a positive outlook on stocks during the turbulence was at times difficult to follow, but it has proven sound.

Why the Rally Has Not Surprised Us
The rally in stocks this year aligns with several important economic and policy developments we have been anticipating:

• Inflation Decline: Inflation has consistently eased since the Federal Reserve acted aggressively in 2022 to raise interest rates.
• Fed Policy Shift: As inflation cooled, we expected the Fed to eventually reverse course and begin to “normalize” rates. In September, the Fed cut rates by a quarter percent. This move to cut the Fed Funds rate adds support for risk assets like stocks.
• Tariff Uncertainty Eases: The Fed stayed on hold through the spring and summer while it assessed whether new tariff policies would reignite inflation. It ultimately determined they would not.
• Tariff Inflation Dynamics: While tariffs raise prices on many imported goods, this effect is more akin to a consumption tax than to the type of inflation tied to supply or demand shocks. The result is a one-time increase in prices—not an ongoing inflationary spiral.
• Growth Implications: Counterintuitively, tariffs can even slow economic growth, which may further ease inflationary pressures.
• Further Easing Expected: With inflation softening and the labor market weakening, we expect the Fed to continue cutting rates—likely two more times this year—with the Fed Funds rate potentially reaching around 3.5% over the next year or so. When the Fed is in an easing cycle, the resulting liquidity tends to boost the prices of risk assets like stocks.

Why This Is Not Smoot–Hawley
Some commentators have compared today’s trade policies to the Smoot–Hawley Tariff Act of 1930, which many blame for worsening the Great Depression. We disagree with that comparison. Smoot–Hawley was enacted alongside a collapse of the banking system and a sharp contraction in the money supply, which led to runaway deflation. Today’s environment is the opposite: the banking system is stable, the Fed is easing, and monetary conditions remain accommodating.

Artificial Intelligence: A Structural Growth Force
A major factor behind this year’s market gains has been the expansion of Artificial Intelligence (AI). The so-called “hyper-scalers”—Microsoft, Meta, Amazon, and Google—have committed enormous capital toward AI development and infrastructure. Their spending has created a rising tide for a wide range of technology companies, driving earnings growth and fueling market gains.
We continue to believe the AI expansion will persist for years to come and that we are not in a bubble, as some suggest. The skeptics who dismiss AI’s transformative impact today will likely be proven as wrong as those who downplayed the internet’s potential in the early 1990s.

AI’s influence will extend to every industry and every sector of the economy. It will change how businesses operate, how relationships are maintained, and how careers are defined. It will also drive an industrial expansion rivaling the original Industrial Revolution—particularly in power generation, where the U.S. will need to rebuild and expand its electric grid to meet surging energy demands. Some experts estimate that within five years, AI alone could require as much energy as the entire nation currently produces.

The next generation of mega-cap companies are being born in this environment. Our responsibility to our clients is to invest prudently—capturing the growth while protecting capital. To that end, before any new stock is added to our strategies, we insist that the company has embraced AI as an integral part of its business model.

While there will be periods when stock prices run ahead of fundamentals, we expect the current bull market to continue for several years. Ultimately, we recognize the bull market will end—likely due to the convergence of multiple factors—but not before further significant growth from current levels.

Government Shutdown: A Familiar Distraction
The current government shutdown, while disruptive in the headlines, is having little real effect on markets. History shows that political gridlock often benefits businesses by preventing hasty policy changes. We expect this shutdown to end soon, with minimal lasting impact.

Gold’s Rally: Context Matters
The recent rally in gold has also drawn investor attention. Prices have reached new all-time highs, surpassing even the inflation-adjusted peak from 1980. While such moves can be captivating, it’s important to maintain perspective.

Gold prices historically move in fits and starts, often tracking inflation over long periods. A useful rule of thumb from early in my career captures this:

“A hundred years ago, you could sell an ounce of gold and buy a nice new suit. Today, you can do the same.”

That observation frames gold’s long-term behavior: it tends to preserve purchasing power rather than create real wealth.

We see the current rally as driven by a few temporary factors:

1. Recent Inflation Spike: Gold often rises with inflation, as we saw in both 1980 and 2022.
2. Tariff and Currency Diversification: In the wake of new tariffs, some foreign investors and central banks are reducing exposure to the U.S. dollar and turning to gold as an alternative reserve asset.
3. Crypto Correlation: The surge in cryptocurrencies like Bitcoin has also drawn attention to alternative stores of value, including gold.

Ultimately, while gold remains a legitimate store of value, we do not view the current rally as sustainable. Inflation is declining, tariff fears are receding, and gold generates neither profits, dividends, nor earnings.

A Pause That Refreshes
Finally, the selloff on Friday followed the 32nd time this year the S&P 500 Index has reached a new all-time high. The decline was a sharp one, trimming about 2.7% from the recent peak. Much of the blame was directed at President Trump’s comments suggesting renewed trade tensions with China.

We are skeptical that this latest salvo will completely derail trade negotiations between the U.S. and China. If history is any guide, this could be another example of the President’s negotiating style—stepping away from the table to extract a final concession or two before sealing a deal. Time will tell which way it goes.

In the meantime, the market appears ready for a pause that refreshes—our euphemism for a period of higher volatility and a potential pullback of 5–8% in the near term. We have been expecting such a decline since August and have been holding an above-average cash position in our managed accounts. We intend to use any short-term weakness as an opportunity to invest in stocks we have been watching closely.

We believe the rally will likely resume as we move closer to November and could continue into next year.

In Closing
The past year has been a powerful reminder that markets can reverse direction swiftly, often when sentiment is darkest. Our disciplined approach—anchored in long-term opportunity rather than short-term emotions, served our clients well.

As we look ahead, we remain optimistic about the prospects for equities, particularly those companies embracing innovation and technological transformation. We thank you for your continued confidence and the opportunity to manage your investments.

Sincerely,
Kessler Investment Group

All information in this presentation is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. All economic performance data is historical and not indicative of future results. The market indices discussed are unmanaged. Investors cannot invest in unmanaged indices. Certain statements contained within are forward looking statements including, but not limited to, statements that are predictions of or indicate future events, trends, plans or objectives. Undue reliance should not be placed on such statements because, by their nature, they are subject to known and unknown risks and uncertainties. Please consult your adviser for further information.

Opinions shared in this presentation are not intended to provide specific advice and should not be construed as recommendations for any individual. Please remember that investment decisions should be based on an individual’s goals, time horizon, and tolerance for risk.

The stock market settled down in the first two and a half months of the second quarter from the extreme volatility we experienced in the first quarter. With the exception of a few days in May, the S&P 500® Index stayed above the March 31, 2016 level which kept the major stock index barely in positive territory for the year.

Many of the stocks we purchased in our managed account strategies during the first quarter swoon continued to perform well in the second quarter. As the fear of rate hikes from the Fed and fears of worsening economic data waned, stocks plodded higher. Our prediction that oil would start to rise in price in March proved to be pretty accurate. Oil moving higher in price really was the catalyst for stocks to rebound as strongly as they did. It signaled that economic activity was picking up and that the economy was not heading for a recession.

As we look forward, there are many reasons to be concerned about the direction of stock prices with the presidential election, Fed policy meetings and fallout from BREXIT to name a few. As contrarians, we see this concern and the negative sentiment associated with it, as a positive sign for stocks as the underpinnings of the economy continue to improve. To understand why we feel this way, let’s take a look at what has so many people concerned about the future and why we think there is a silver lining to it.

BREXIT

The quiet and generally positive tone of the markets in the first part of the second quarter gave way to the shock of BREXIT in the final week. Our view was that the vote was going to be very, very close but that the “IN” vote would prevail and mean that the U.K. would remain in the EU. That said, we felt that regardless of the way the vote went, the fallout would not have a long tail to it. In other words, whatever volatility followed the vote, it would not last long. The U.K. has never been a fully-integrated member of the EU and, therefore, an exit would not have the dramatic impact that a Spain, Italy or France exit would have on the collective. Furthermore, the U.K. has a very large trade deficit with the EU. This means that the U.K. buys more from the EU than it sells to it. So, even with a BREXIT, the EU will want to keep a strong trade relationship in place to benefit from having the U.K. as a trade customer.

Once the vote was counted and the BREXIT camp had won, all hell broke loose. If you listened only to the news reporters, you would have thought the U.K. had just voted to dissolve itself as a country and dissolve into the North Sea. Leave it to the news industry (Never forget it is a for-profit industry that benefits from major news stories.) to wax dramatic over the vote.

The >5% drop in the U.S. stock market over the two days that followed the vote suggests that large investors were caught out “over their skis” and had to unwind their trades. The effect of the dramatic drop in value of the British Pound had a lot to do with the volatility in stocks.

The drop in stock prices dried up in two days and bids came back into the market. Stocks steadily climbed through the end of the quarter effectively neutralizing the drop that followed BREXIT. This type of recovery signals to us that as we head into the third quarter, the path of least resistance for stocks (in the short term) is higher.

The U.S. Presidential Election

With the election taking place in November, we will likely refine our view many times over. Nonetheless, here is our current prediction on how the election will go and its impact on markets.

We expect Donald Trump to win the election despite being behind in the most recent public polls. Recent history suggests that two-term presidents are the norm and a shift to the other party is just as normal. George H.W. Bush’s victory is the exception but likely only because Michael Dukakis stole defeat from the jaws of victory. Regardless, we believe the momentum in critical states will lead to a Trump electoral victory in November.

Once the polls begin to reflect a Trump victory is likely, we expect stocks to sell off. Mr. Trump’s protectionist tone will weigh heavy on the markets regardless of what his policies actually are once elected. While stocks selling off is a negative to those who own them, it is represents an opportunity to those looking to buy them. In our case, we expect to take profits in our managed client accounts as the election nears so that we have cash in reserve to “buy the dip.”
Any dip, and we expect this dip could be on the order of 10%, will represent a tremendous buying opportunity for those looking to buy stocks. This we believe to be true regardless of who wins the election. This is because we expect, finally, some fiscal stimulus from the White House. The bar is set quite low for either candidate in terms of what the nation believes can be accomplished. This is positive as it means it will take only a small amount of stimulus to have a significant effect. The Federal Reserve, which controls monetary policy, has been doing most of the “heavy lifting” in terms of government stimulus. The Fed is screaming loudly to Congress and the White House that they are getting tired and are ready to take a break. We expect Congress and the new President to do exactly that. The impact on the stock market will be extremely positive and set the tone of the market for many years to come.

While we are extremely optimistic that fiscal stimulus will finally be felt, we expect there will be some misfires first. As the new president gets his/her sea legs, the stock market will likely get whipsawed and may even react to a shallow recession during the first 100 days. Our conviction that a correction in stock prices will occur before the end of the year was deepened following the BREXIT vote.
It is important for our clients to understand that our view that Trump will likely be our next president is in no way an endorsement or warning. We are charged with managing other people’s money and therefore we must do so without any personal bias affecting the decisions we make.

Federal Reserve

The Fed will continue to be a major factor in determining the direction of stocks well beyond the presidential election. This makes their actions just as important as those of the President.

We have suggested to clients for many quarters that the Fed is on hold until they see the proverbial “whites of the eyes” of inflation. The commodities and precious metals market has provided an indication that deflation is the real threat and not hyper-inflation. As the Fed approached their decision to raise interest rates in December, a decision they had to make for political more than economic reasons, markets reacted negatively. Specifically, oil and gold prices dropped signaling deflationary forces were gaining strength. This reaction to a slight increase in interest rates likely spooked the Fed and caused them to back away from any further tightening until later in the year.

If the fiscal stimulus we expect to come from Congress and the President takes shape, the Fed will finally be able to plan for a steady stream of rate increases without derailing the economy. While we believe it is possible there will be one rate increase this year (maybe September), we will not be surprised if the Fed remains on hold for a few more quarters. After all, the Fed has many more tools at their disposal to rein in inflation than they do to inject stimulus. Thusly, we expect them to keep the reins very loose.

The 17-year Cycle

Our long-term outlook for stocks is predicated on the notion that the stock market follows a 17-year cycle that alternates between periods of growth and stagnation. The end of growth periods are marked by things such as broad-based enthusiasm for stocks, low government deficits and excessive corporate expenditures. The end of stagnate periods are marked by a general malaise among investors and large cash reserves at banks and on corporate balance sheets.

The current cycle is of the stagnate variety having begun in the year 2000. Similarly characterized as other historical stagnate cycles, we believe this cycle will give way to growth.. We believe it will also give way to a cycle of growth very soon.

Charts

To lend support to our view that stock prices are poised to move higher rather than crash, we submit the following charts:

Residential Construction Spending

This chart shows that the spending on new home construction just recently returned to the level of 2001. In light of the fact that the population has grown significantly over the last 15 years, spending is likely to continue to grow steadily for some time to come. The impact of residential spending on economic growth cannot easily be overestimated.

To further support our view that the housing market is ready to accelerate, the chart below plots the relationship between housing supply and demand. As you can see, the relationship between supply and demand for housing is highly correlated with supply lagging. Since 2012 the demand for housing has accelerated much faster than supply. We expect supply to catch up rather than for demand to fall back.

Election Year Stock Performance

Keep in mind the fact that past performance never guarantees future results. In this chart we see how stocks have performed from the end of May through December during presidential election years. In the far right column you can see that performance has been reasonably strong during these periods. Source: Standard & Poors.

Supply and Demand

While the following chart might suggest to some that things are setting up for a repeat of the financial crisis of 2008, we see something different. First, the “flattish” stock performance over the last 18 months might be partially explained by corporate buybacks offsetting retail investor selling. This we believe is true. However, when corporations buy back stock it is no longer in circulation like it is when retail investors buy stock. This means when retail investors turn back to stocks, which we believe will happen soon, there will be less stock available to buy. The dynamic between supply and demand alone will provide upside to stock prices.

Megaphone

In the chart below, we see the two periods 1962-1984 and 1999-present highlighted. We think this is a great visual illustration of how we believe our 17-year cycle will play out. In the first shaded area we can see a market that bounced around but never was able to break above the upper line of the “megaphone” for more than a decade. Once it did, the market moved substantially higher. A similar pattern has developed since 1999. This is consistent with our view that we are on the verge of a multi-year breakout to the upside in equity prices.

Generational Buy

Here we see a chart of the equity market from 1910- present. This, too, is consistent with our view that in March of 2009 investors were presented with a “generational buying” opportunity. In other words, it is unlikely that we will see such an opportunity again for a generation. While that moment is in our rearview mirror, the chart also suggests, and we agree, that there is plenty of room for the market to run to the upside from here.

We think it is beneficial for our clients to understand how our long-cycle philosophy acts as an overlay on our view of the markets during times of high volatility. Changes to portfolio strategy are not made in isolation. Rather, they are made within the context of our market expectations, which are shaped by our daily surveillance of the markets through a long-term-cycle lens.

Conclusion

We expect the strength in stocks following the initial decline that followed BREXIT to continue into the third quarter. A “goldilocks” scenario of continued economic improvement with little chance of a Fed rate hike will offer the best environment for stocks to rally. As is the case with any steady move in either direction, stocks will over shoot. In this case, we expect stocks will “overheat” later in the quarter warranting caution. In our managed accounts, we will look to sell stocks into this strength which will increase our cash position. If weakness in stocks follows, we believe we will be well-positioned to move back into stocks at lower prices in preparation for a more sustainable rally to follow.

The election will present what might be a U.S.-version of the BREXIT event. We will be keenly watching markets for signs that this is the case. If a major selloff does occur, as we expect, our focus will be on capital preservation as we described above.
While we understand the strange looks we may get when describing our optimism following the election, we believe that fiscal stimulus is on the way. As this fiscal stimulus takes a hold, the aggressive monetary stimulus put forth by the Fed can be pulled back. We will be watching intently for this handoff to occur.

P.S.
We would also like to announce the addition of a new team member. Sara Steinrock joined the firm in May as our Client Service Manager. She is a Columbus native and joins us from MainSource Bank where she was the assistant branch manager of the downtown Columbus office.

Sincerely,
Kessler Investment Group, LLC

Markets have begun to open in the Far East as I write. So far we are seeing a bit of a carryover from Friday’s action. That is, the Pound Sterling is weak, gold is strong, equities are weak and the hand wringing is a bit feverish. This is not surprising nor is it a sign that the proverbial “end of the world” is near and it is not a sign that a crash in stocks is imminent. Headlines are driving stock prices at the moment and this is never a great time to draw long-term conclusions about the direction of the market.

There is a market adage that “Market’s don’t bottom on Friday.”  I have been around long enough to know that this saying is more right than wrong and so despite the steep decline on Friday, I would not have expected Monday to shape up as a rebound day…at least at the open.

See, the BREXIT vote was a real surprise. Sure, the polls were pretty close but there was a real sense that the vote would go the way of “IN.” The news articles highlighting the regret of many (maybe well over a million) voters who were comfortable casting a vote in favor of BREXIT simply because they felt the vote would go the other way. Similar to the dog that ends up catching the car it was chasing, the sentiment of these voters is “Whoops! Now what do we do?

The market does not like big question marks hanging over it. So, even though the question mark surrounding the BREXIT vote has been removed, a few more have popped up. Importantly, the question of how to actually separate from the EU is a big one. Additionally, many members of the U.K. leadership, including the Prime Minister, have resigned.

So, the markets are pretty volatile and the press is going absolutely crazy over what BREXIT means. Despite all of this hysteria, we remain calm. As I pointed out on Friday, the U.S. equity market has not even retraced two weeks of gains. While retracing two weeks of gains in one day can put a damper on your weekend, it simply highlights that emotion is in control. When emotion is in control, fundamentals and logic are not.

During periods when emotion is driving market activity minute-by-minute, it is wise, we believe, to do more observing than acting. Our activity took place before the vote. Prior to the BREXIT vote we spent a great deal of time working through what an “IN” or “OUT” vote would mean to the global economy, the U.S. market and our clients’ portfolios. Our best guess was that the “IN” vote would prevail, but that the vote was close enough that it was important to have a game plan for a “OUT.”

Trimming a few positions in our managed accounts so that we would have some cash to take advantage of an “OUT” vote was one step we took. Looking at the possible fallout of an “OUT” and its impact on stocks was important, too. One outcome we felt most confident in was that if an “OUT” vote prevailed,
markets would be roiled. However, just because we felt that this would be the case, it did not mean we felt selling every stock or anything close to this made sense. After all, the U.K. leaving the EU did not mean the U.K. would no longer exist. It does not mean the EU will no longer exist either. Similarly, it does not mean that large, well-capitalized companies that make up the bulk of our holdings in client accounts are going to see a seismic shift in their business.

The vast majority of the volatility and stock price weakness seen on Friday and into this coming week has little to do with company fundamentals and everything to do with emotion, namely fear. Once the dust settles down on the news flow, a few of the details about the exit are mapped out and second quarter earnings from U.S. companies filters out, then we will have a sense of the market’s glide path.

We do not, nor will we ever look to headlines for investment guidance. The press is our friend when they feed on investor fears and help to drive stock prices down because we have a better opportunity to find attractive companies at attractive prices. It is what we see happening as we speak.

None of this happens in a vacuum. Plans are being put in place to take advantage of an “independent” U.K. Cash that has been sitting on the sidelines for a long time is now going to find its way into equities as other opportunities, like bonds and cash, look even less attractive than before. This short-term volatility serves as an opportunity for some and we consider this to be the proper view.

As always, our focus is on our clients first. We never lose sight that our job rests on the trust of our clients. We are working very hard at discerning what BREXIT, the U.S. presidential election, the Fed’s policies, etc. mean for the precious investment portfolios our clients have entrusted to our management. I speak for all of us here at KIG when I say, “Thank you.”

Sincerely,

Kessler Investment Group, LLC

As usual, I found myself watching overnight markets and news coverage of the latest “Biggest Event Ever”. This time the “event” was the vote on “BREXIT” or, in other words, the United Kingdom’s decision to stay (“IN”) or leave (“BREXIT”) the European Union of which they have been a member since the early 1970’s. As the clock ticked past midnight here in the U.S. and 5 a.m. in London, the BREXIT camp was claiming victory and the “IN” crowd was in a state of shock.

As someone who once studied in the U.K., I love to see live images of U.K. landmarks. As I watched the Sky News coverage of the vote, I took note of live images of the Palace of Westminster and Clock Tower where Parliament and Big Ben are located. Images of red double decker buses and black taxis were also being shown.

Suddenly I took note of something. As I watched the sleep-deprived news reporters describe the impending crisis that will “undoubtedly” follow this vote, the sun started to shine on the walls of Westminster and the buses started to shimmer in the light. Sure enough, despite this vote and all of the doom it is predicted to bring, the sun still came up and the buses were still running and the taxis were still darting about. This was a visual metaphor to help offer perspective and context. The world is not going to end as a result of this vote. People are not going to stop living their lives because of this vote. What happened was a majority of citizens in a sovereign country decided to separate itself further from an economic and political experiment that they felt didn’t suit them. There have been worse events in human history than this one.

So how does this vote affect us? Our view is that this vote is a huge deal for the U.K., a big deal for the EU and just a deal for the U.S. Furthermore, don’t expect things to change quickly. The exit will take 2 years to complete. That is a very long time to allow markets to adjust. A new prime minister is going to lead the U.K. toward the formal exit. We expect this new leader will have the opportunity to add many shades of gray to this seemingly black-and-white decision. Cooler heads will prevail and the self-interest of the U.K. and EU will likely line up more than they seem to at this point.

In the short-term, we expect volatility to continue for several days but then it will settle down. While there is talk of other EU members leaving we don’t think this will happen. The U.K. has not been an “all-in” member anyway. They opted out of the single currency (Euro) and have not been obliged under several other EU authorities either. They were a country with one “foot” out of the EU and simply removed the other “foot.”

The Pound has dropped rather precipitously and this will be negative for the U.K. It will have a slightly negative impact on companies based in the U.S. that generate large profits in the U.K. There may be restrictions on U.K. citizens moving freely about the EU. It is hard to draw conclusive views on exactly how things will play out for the U.K. and the EU but it is even harder to see any outcome that is going to destroy the economy of either entity.

On the positive side, the trade deal that has been on ice which involves the U.S., China and the EU may start to thaw and move forward. This would be good for everyone involved. The U.S. will undoubtedly strike a trade deal with the U.K. that will benefit both parties and not be impacted by EU politics. It is worth noting that the U.K. runs a large trade deficit with EU countries. This means that they buy more from EU countries than they sell to them. It is unlikely that these EU countries will want to damage this relationship as it favors them. So, not all is negative following BREXIT.

In our managed accounts, we did trim back exposure to energy and increase our exposure to gold and other metals. These moves are providing some relief to the selloff we see today but it is still an unpleasant view. While there may be a spillover of negativity into next week, there is A LOT of cash sitting on the sidelines waiting for an opportunity to earn more than 0%. This weakness, we believe, will be seen as such an opportunity.

We believe our long-term view for equities remains positive. The short-term volatility is part and parcel to the transition from the flattish equity market of the last 17 years to that of an upward trending one. Many ingredients for this are in place now. Things such as low interest rates, low energy costs, strong balance sheets, lots of investable cash sitting idle, etc. will act as fuel to propel equities higher in the years to come. We will expand on this view in our upcoming letter to clients.

So, while the news has been presented as breathtaking, horrible and unprecedented and so on, we remain calm. The U.S. stock market, as we write this, has retraced about two weeks of recent gains. The Dow Jones Industrial Average is still positive for the year which is something we couldn’t say in February. More volatility will come on the heels of this event but we do not expect a contagion to take a hold from here. Is this the beginning of the end for stocks? We do not think so. In fact, we think the opposite.

For those who are able to tune into 1010 WCSI, you may find it interesting to tune in on Saturday’s from 9:30 a.m. for our 30-minute radio show. Tomorrow’s episode will touch on BREXIT.