Markets remained choppy throughout the quarter with global stocks posting a modest return. U.S. leadership remained strong with a positive 3.4% return for large caps, driven mainly by mega cap tech. Small cap stocks rose strongly on the quarter as they remained more insulated from many of the fears around tariffs and a global trade war. Conversely, international stocks and emerging markets stocks struggled as the U.S. dollar strengthened and geopolitical stability concerns rose.
Growth stocks led the way over value stocks. This was true in the U.S. and in international markets. Growth leadership has been persistent for many years now. Large cap growth stocks beat their value brethren by 4.6% on the quarter and have outpaced value by 6.1% per year for 5 years, a remarkable feat.
The Fed raised rates by a quarter point in June as it continues its exit strategy. Longer-term rates have remained stubbornly low despite positive economic data, tight labor markets, and early signs of inflation upticks. The 10-year yield rose on the quarter from 2.73% to 2.83%, but the 2-year yield began the quarter at 2.08% and has jumped to 2.52%. The difference between the longer-term 10-year and the short-term 2-year sits at just 31 basis points. Another Fed rate increase, coupled with a slight reduction in the 10-year, could invert the curve. We have long argued that the Fed would be very careful not to invert the curve. However, new Chairman Powell seems to be more focused on taking a hawkish stance than his predecessor Chairwoman Yellen. Commentary from Fed officials has been notably hawkish.
As yields rise and the curve flattens, we continue to argue for a higher quality, short duration bias in fixed income portfolios. Fixed income continues to have low expected returns, but as the yield curve flattens and credit spreads remain tight one must ask whether investors are being compensated appropriately to take additional interest rate or credit risk.
The most challenging aspect of investing money in this environment is the fact that nearly every high returning asset class appears to have a lower than average longer-term expected return. Meanwhile, cash still doesn’t provide a positive real return. In such an environment, it seems dangerous to reach for return in esoteric or alternative areas. A more prudent approach is to diversify your portfolio and participate in economic growth while maintaining sufficient liquidity and dry powder to further employ at more attractive levels.
The woes of the U.S. defined benefit pension system have been underreported. The coming pension crisis may have real implications; a few thoughts:
By: Dustin Barr, CFA
All data sourced from Morningstar Direct unless otherwise noted. The information published herein is provided for informational purposes only, and does not constitute an offer, solicitation or recommendation to sell or an offer to buy securities, investment products or investment advisory services. All information, views, opinions and estimates are subject to change or correction without notice. Nothing contained herein constitutes financial, legal, tax, or other advice. The appropriateness of an investment or strategy will depend on an investor’s circumstances and objectives. These opinions may not fit to your financial status, risk and return preferences. Investment recommendations may change and readers are urged to check with their investment advisors before making any investment decisions. Information provided is based on public information, by sources believed to be reliable but we cannot attest to its accuracy. Estimates of future performance are based on assumptions that may not be realized. Past performance is not necessarily indicative of future returns. The following indexes were used as proxies in the performance tables: Global Stocks = MSCI ACWI; U.S. Large Cap = S&P 500; U.S. Large Value = Russell 1000 Value; U.S. Large Growth = Russell 1000 Growth; U.S. Small Cap = Russell 2000; Int’l Dev Stocks = MSCI EAFE; Emerging Markets = MSCI EM; U.S. Inv Grade Bonds = Barclays U.S. Aggregate; U.S. High Yield Bonds = Barclays Corporate High Yield; Emerging Markets Debt = JPMorgan EMBI Global Diversified; Int’l Bonds = Barclays Global Treasury ex US; Cash = 3month T-Bill; Sector returns displayed in the chart represent S&P 500 sectors, while treasury benchmarks are from Barclays