It was a tale of two markets in the third quarter. US Equities markets on one hand and, seemingly, the rest of the investable universe, on the other. US Equities rallied, as evidenced by the 7.7% surge for the S&P 500 for the quarter (+10.6% year to date)[i], while the Developed Markets eked out a 1.1 return in the quarter (-1.3% year to date)[ii] and emerging markets dropped 1.4% (-7.9% year to date)[iii]. Even domestic bonds continued their streak of losing quarters, dropping marginally in the quarter leaving the Barclays’ US Bond Aggregate Index down 1.6% for the year.[iv]
Domestic Backdrop
The effects of lower taxes and regulation have helped sustain the economy’s growth momentum. The 4.2% growth in GDP for the second quarter may have been boosted by a “sugar high” form the tax-cut but expectations are for continued growth as the US Conference Board is forecasting a 3.1% growth rate for 2019.[v] Furthermore, as shown in the Federal Labor Market Conditions Index, the labor market has fully recovered from the Financial Crisis.
Interest Rate changes
Emblematic of this strength, the Fed has removed their “accommodative” stance for interest rates, signaling continued rate hikes. The effect of these hikes make housing more expensive and hurts profitability for debt-laden companies. The Fed hopes that, while tempering growth, these increases keep inflation under wraps. While the Fed makes changes to short term rates, longer term rates are set by the market. Recently, the 10-Year rate broke out of its trading range and moved significantly higher, from about 2.80% to 3.25%. Back in February, when we saw these rates jump higher, the market corrected sharply, but since has recovered and have shown decent gains for the year. We may see another similar situation with the markets acting a bit jittery while the economy sorts out these countervailing impacts.
With the expansion almost a decade old, we are certainly in the later stages of the growth cycle, but when the economy turns downward is still a question. Positioning portfolios more cautiously is probably warranted, but we are still optimistic for the mid- and long-term for the US markets.
International Situation
The current trade policies of the US Administration are a heavy-handed approach to fix some of the unfair treatment of US companies when dealing overseas, especially when it comes to intellectual property. Specifically, escalating tensions with China are proving to be damaging to the worldwide growth story and most markets are feeling those effects. Hopefully the new tariffs on trade is ultimately posturing, and a more pro-trade resolution is negotiated. Ahead of that resolution, maintaining some exposure to emerging markets should be a good risk/reward position considering the current weakness, as these markets are trading at significant discounts to US markets and should witness higher growth.
Looking forward, the underperformance of international stocks this year make it a good opportunity to bring portfolios back to target allocations by trimming winners like larger cap growth companies and adding (as painful as it may seem) to those international laggards.
Advisory services offered through APG Capital Asset Management, a Member of Advisory Services Network, LLC.
Phone: 713-446-3233 Website: www.apgcap.com
All views/opinions expressed in this newsletter are solely those of the author and do not reflect the views/opinions held by Advisory Services Network, LLC. Indexes are unmanaged and do not incur management fees, costs, or expenses. It is not possible to invest directly in an index. The information and material contained herein is of a general nature and is intended for educational purposes only. This material does not constitute a recommendation or a solicitation or offer of the purchase or sale of securities. The future performance of an investment or strategy cannot be deduced from past performance. As with any investment or investment strategy, the outcome depends upon many factors including: investment objectives, income, net worth, tax bracket, risk tolerance, as well as economic and market factors. All economic and performance data is historical and not indicative of future results. All information contained herein is derived from sources deemed to be reliable but cannot be guaranteed.
[i] http://performance.morningstar.com/funds/etf/total-returns.action?t=SPY®ion=USA&culture=en_US
[ii] http://performance.morningstar.com/funds/etf/total-returns.action?t=IEFA®ion=USA&culture=en_US
[iii] http://performance.morningstar.com/funds/etf/total-returns.action?t=IEMG
[iv] http://performance.morningstar.com/funds/etf/total-returns.action?t=AGG
[v] https://www.conference-board.org/data/usforecast.cfm