ECONOMIC FLASH – Markets Begin 2019 with a Bang
We think the US is on track for moderate economic growth in 2019, but that doesn’t mean the equity markets will necessarily continue to run up from here. The relative strength of corporate earnings will be key for investors and ultimately determine how successful our US equity positions are for the year.
February 2019
US Economy: Growth steady for now.
Early estimates for US GDP for 4th quarter 2018 indicated ongoing economic growth. And data for wage growth (+3.2%) and manufacturing activity (54.9) each improved as well. The impact of the US government shutdown will not be fully known until the end of March, when the 1st quarter ends.
US Stocks: A stellar January.
The prices of both large and small stocks turned sharply upward in January, after the Fed said it would be patient with interest rate increases. S&P 500 profits for Q4 2018 have mostly beaten expectations, but in Q1 2019 they are expected to be roughly flat relative to the 1st quarter of 2018.
Foreign Stocks: EM rebound continues.
Emerging markets (EM) have well-outpaced US stocks in the last three months, getting support from a weakening US dollar and a pause in US interest rate increases, as well as optimism about US-China trade and possible economic stimulus in China.
Fixed Income: EM debt leads credit surge.
Debt issued by emerging market (EM) governments got a lift, for bonds issued in local currency (+2.7%) and in US dollars (+4.4%). The prospect of fewer US interest rate increases made riskier, higher-yielding bonds attractive again.
Real Assets: Oil drives rally.
Real assets performed well in aggregate despite muted inflation forecasts. The price of oil (+15%) had its best month since early 2015, as OPEC lowered production, the US imposed sanctions on Venezuela (a major oil exporter), and the outlook for global demand improved.
Alternatives: In the black again.
Outside of managed futures (-2.3%), alternative strategies provided investors positive returns, in line with traditional bonds. Equity hedge strategies that were net long were among the strongest performers (+3.7%), benefiting from the January rebound in US stocks.
Equities Total Return
| JAN | 3 MOS | 1 YR | |
|---|---|---|---|
| U.S. Large Cap | 8.0% | 0.3% | (2.3%) |
| U.S. Small Cap | 11.2% | (0.4%) | (3.5%) |
| U.S. Growth | 9.2% | 0.6% | 0.0% |
| U.S. Value | 8.0% | 0.2% | (4.8%) |
| Int’l Developed | 6.6% | 1.3% | (12.5%) |
| Emerging Markets | 8.8% | 10.2% | (14.2%) |
Fixed Income Total Return
| JAN | 3 MOS | 1 YR | |
|---|---|---|---|
| Taxable | |||
| U.S. Agg. Bond | 1.1% | 3.5% | 2.3% |
| TIPS | 1.3% | 2.4% | 0.9% |
| U.S. High Yield | 4.6% | 1.4% | 1.6% |
| Int’l Developed | 1.8% | 4.8% | (2.2%) |
| Emerging Markets | 2.7% | 7.4% | (1.1%) |
| Tax-Exempt | |||
| Intermediate Munis | 0.9% | 2.8% | 2.9% |
| Munis Broad Mkt | 0.8% | 3.1% | 2.9% |
Non-Traditional Assets Total Return
| JAN | 3 MOS | 1 YR | |
|---|---|---|---|
| Commodities | 5.4% | (2.4%) | (8.2%) |
| REITs | 11.6% | 7.7% | 10.3% |
| Hedge Funds | |||
| Absolute Return | 1.2% | (0.2%) | (0.1%) |
| Overall HF Market | 2.1% | (0.5%) | (7.0%) |
| Managed Futures | (1.9%) | (1.6%) | (11.1%) |
Economic Indicators
| JAN-19 | OCT-18 | JAN-18 | |
|---|---|---|---|
| Equity Volatility | 16.6 | 21.2 | 13.5 |
| Implied Inflation | 1.9% | 2.1% | 2.1% |
| Gold Spot $/OZ | $1321 | $1215 | $1345 |
| Oil ($/BBL) | $62 | $75 | $69 |
| U.S. Dollar Index | 91.2 | 90.8 | 86.3 |
Our Take
Equity market volatility eased in the first month of 2019, as the Federal Reserve left interest rates unchanged and Fed Chair Jerome Powell reassured markets that future rate increases are conditional, depending on economic data. As we stated previously, we thought the greatest threat to the markets would be a policy mistake by the Fed, surpassing the risk of a US-China trade war. With that possibility looking less likely now, risk assets such as stocks and high-yield bonds rebounded dramatically in January, benefiting LNWM portfolios.
Looking forward, we think the US is on track for moderate economic growth in 2019, but that doesn’t mean the equity markets will necessarily continue to run up from here. The relative strength of corporate earnings will be key for investors and ultimately determine how successful our US equity positions are for the year. Outside of the US, we think emerging market stocks and bonds offer the most upside, given attractive valuations and the benefits of faster growing economies.
While LNWM portfolio positioning has become more defensive in 2019, we are maintaining our highest conviction allocations, such as to emerging markets and global infrastructure, while reducing areas we think face stiffer headwinds, such as international small-cap stocks and fixed-income strategies to defend against higher interest rates. Consequently, we believe we are well-positioned for a variety of market environments as 2019 unfolds.
