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ECONOMIC FLASH – Proceeding with Caution

March 2019

US Economy: Stable, less robust.

Weaker Feb. data for personal income (-0.1%) and consumer spending (-0.5%) suggest that while US GDP growth is likely to continue, it will slow substantially 1st quarter 2019. Manufacturing expectations (54.2 on PMI Index) hit the lowest level since 2016, although still expansionary.

US Stocks: Small stocks lead.

US equities continued to gain in Feb. with small caps leading all asset classes as investors became less concerned about recession and US-China trade talks progressed. Corporate earnings to-date have supported equities with most companies beating estimates, but earnings growth forecasts for 2019 have fallen.

Foreign Stocks: EM stocks falter.

Despite strong capital flows into the emerging markets (EM), ongoing uncertainty about a resolution to the US-China trade war left emerging market equities lagging their developed peers. South Africa (-5.3%) notably underperformed on meager growth and rising deficit forecasts.

Fixed Income: Demand lifts munis.

Municipal bonds continued to benefit from strong demand from an aging population and limited new issuance by state and local governments. In the near term, the pricing of shorter-maturity munis could lag as investors reduce positions to cover tax bills.

Real Assets: Rally rolls on.

Diversified portfolio positioning in commodities (+1.0%) and infrastructure equities (+2.3%) was helpful to portfolios as oil prices continued to rise amid OPEC production cuts, and utility shares gained in Feb. (+3.5%) on steady US interest rates.

Alternatives: Modestly positive.

Unsurprisingly, hedge fund strategies long on equities continued to be among the strongest performers (+1.3%); however, fundamental value hedge strategies (+2.1%) also performed well in contrast to traditional value stocks.

Equities Total Return

U.S. Large Cap 3.2% 11.5% 4.7%
U.S. Small Cap 5.2% 17.0% 5.5%
U.S. Growth 3.8% 13.3% 6.6%
U.S. Value 3.2% 11.5% 3.3%
Int’l Developed 2.5% 9.3% (6.0%)
Emerging Markets 0.2% 9.0% (9.9%)

Fixed Income Total Return

U.S. Agg. Bond (0.1%) 1.0% 3.2%
TIPS (0.0%) 1.3% 1.9%
U.S. High Yield 1.7% 6.4% 4.3%
Int’l Developed (1.4%) 0.3% (3.4%)
Emerging Markets (0.2%) 2.5% (0.3%)
Intermediate Munis 0.5% 1.4% 3.7%
Munis Broad Mkt 0.6% 1.3% 3.9%

Non-Traditional Assets Total Return

Commodities 1.0% 6.5% (5.7%)
REITs 0.5% 12.2% 19.6%
Hedge Funds
Absolute Return (0.1%) 1.2% 0.2%
Overall HF Market 0.6% 2.8% (4.1%)
Managed Futures 0.7% (1.2%) (4.4%)

Economic Indicators

FEB-19 AUG-18 FEB-18
Equity Volatility 14.8 12.9 19.9
Implied Inflation 1.9% 2.1% 2.1%
Gold Spot $/OZ $1313 $1201 $1318
Oil ($/BBL) $66 $77 $66
U.S. Dollar Index 91.4 90.3 86.5

Glossary of Indices

Our Take

In the throes of the Dec. 2018 sell-off, we communicated that US fundamentals had not deteriorated substantially and that bearish sentiment about the economy and markets had likely been overdone. Although asset prices staged an extraordinary rebound in the first two months of 2019, rewarding us for sticking to our convictions, today we find ourselves leaning somewhat against the current.

Our outlook on the global economy has softened somewhat. We still believe the US is on track for moderate growth in 2019, but the extent to which equity markets have priced in that growth in just two months gives us pause. Meanwhile, consumer, real estate and manufacturing data have all taken a step back.

Consequently, our portfolio positioning has become slightly more cautious although we aren’t predicting a recession and believe many areas offer potential for attractive long-term returns, including emerging market stocks and bonds. Nevertheless, we think it prudent to take this opportunity to rebalance portfolios, locking in year-to-date strong performance and improving our risk exposure should this recent rally lose steam.