The U.S. economy showed signs of both strength and weakness last week. Updated second-quarter GDP data remained robust, at 3.5%, while personal spending was stronger than expected and the Chicago PMI (a gauge of manufacturing activity in the Chicago area) for November exceeded estimates—hitting an 11-month high. That said, initial jobless claims were higher than anticipated as they rose for the third consecutive week. Additionally, housing remained soft: The S&P CoreLogic Case-Shiller U.S. National Home Price Index grew more slowly than expected in September.
In Europe, unemployment across the continent was stable on a month-over-month basis but slightly worse than predicted. French consumer spending topped estimates as the country’s GDP was stable and in line with expectations. German unemployment fell but retail sales in the country were weaker than expected. In Asia, Japanese retail sales and industrial production beat forecasts. However, Chinese manufacturing and non-manufacturing PMIs disappointed—renewing concerns about the global economy.
The U.S. equity markets rallied strongly last week following comments by Federal Reserve Chairman Powell suggesting that the Fed may not need to raise interest rates aggressively going forward. The consumer discretionary and technology sectors led the charge as investors once again adopted a more “risk-on” orientation. Materials and utilities underperformed, but were still positive for the week.
European markets also fared well, but lagged behind the U.S. Gains early in the week, fueled by good news about the Italian budget and the EU’s validation of the UK’s withdrawal conditions, faded somewhat due to uncertainty surrounding the weekend’s G-20 summit. European auto stocks were dampened by trade issues and concerns about demand from China, while European telecom stocks benefited from positive sentiment about merger and acquisition activity in the sector. In Asia, Japanese investors took their cues from Powell’s dovish comments about interest rates in the U.S.—helping growth-oriented equities rebound.
Emerging markets also gained in the wake of the Powell’s statements, as lower U.S. rates benefit emerging markets significantly. However, weaker PMI data out of China took some wind out of emerging markets’ sails by the end of the week.
In the fixed-income markets, shorter- and intermediate- duration securities outperformed long-duration bonds. High-yield credits fared the best as the market shifted into a more risk-on mode. Both sovereign and corporate emerging markets debt appreciated during the week as the investors became more pro-risk and as currencies were stable or up.
GAIN: Active Asset Allocation
A strong week for equities was driven largely by positive comments about interest rates from the Fed and by investors’ hope of progress on trade relations between the U.S. and China. Indeed, a weekend meeting between President Trump and Chinese President Xi went better than expected. Tough talk concerning tariffs has been the biggest weight hanging over the markets recently.
The overall weakness in equities during the current quarter has been particularly significant among the more overvalued stocks and sectors. If the markets stage a broad recovery through the end of the year, it could suggest a positive environment for stocks in 2019.
The portfolios’ exposure to emerging markets may be beneficial, given the positive talks between Trump and Xi. Most of the bad news was already priced into emerging markets, making surprises to the upside beneficial to this asset class. We will be monitoring portfolio breadth and the spread among sectors, factors and styles this week.
Bonds were mostly flat for the week, even as investors interpreted the Fed’s comments as more dovish than expected—which kept the yield on the 10-year U.S. Treasury note closer to 3% than we would prefer. Corporate credits improved along with stock prices. Although high-yield bonds have been volatile in recent months, spreads have not widened to the extent they did back in 2015 and 2016. We will be monitoring the markets to see if yields remain stable as stocks firm up.
PROTECT: Risk Assist
There was no activity in the Risk Assist portfolios following a strong week for global equity markets. This week, however, we will update our volatility forecasts. If those forecasts call for lower volatility, the risk of being whipsawed will decline. Thus, we continue to monitor the portfolios for potential de-risking activities.
SPEND: Real Spend
Equity markets posted strong gains last week, with global stocks outpacing investment-grade U.S. bonds by 3.3% and domestic stocks outperforming bonds by 4.5%. Last week’s performance brings the one-year spread between global stocks and investment-grade bonds to 1%—and to 7.7% for U.S stocks versus investment-grade bonds.
That said, dovish comments from the Fed last week (which helped boost stock prices) should also help to support bonds, as investors are now anticipating just one interest rate hike by the Fed in 2019—down from as many as three just a few months ago. Fewer rate hikes should alleviate some of the pressure on bonds—especially longer-duration securities such as long-term Treasuries and corporate bonds, whose prices are hurt particularly bad by rising rates.
Exposure to domestic-focused growth allocations performed well for the week. But our preferred stock exposure continued to struggle.
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