Domestic economic data was mixed last week. The biggest headline was that the U.S. added 134,000 new jobs in September—significantly fewer than expected. The good news: The unemployment rate was better than forecast—falling to a 48-year low—and wage gains met expectations. (It’s important to note that the jobs data can be volatile from month-to-month and that Hurricane Florence may have impacted the September data.)
Another mixed-signal: The ISM manufacturing index was lower than anticipated, while non-farm manufacturing results beat expectations.
In Europe, overall manufacturing PMI was slightly weaker than expected. That said, UK manufacturing activity surprised to the upside and German factory orders exceeded expectations. German export demand improved, boosting hopes that Europe’s largest economy will be resilient despite increasing global trade tensions. German PPI (producer prices) also beat expectations. Meanwhile, UK home prices fell unexpectedly in September, coinciding with a record supply of unsold homes in London.
Asian markets and economies saw a mostly quiet week, with China on a national weeklong holiday. Japan’s household spending exceeded expectations by a large margin. Building approvals in Australia decreased meaningfully, although retail sales results there were in-line with estimates.
After the Dow hit an all-time high early in the week, the U.S. equity market reversed course. Sharply rising interest rates, combined with the increased perception that the Fed may be more hawkish than previously thought, weighed heavily on stocks. Some disappointing employment data also spooked investors. The volatility that returned to the markets last week created pronounced disparities between market sectors: Consumer discretionary and real estate stocks were weak, while utilities and energy stocks showed strength.
European shares slumped as headline risks related to Italy’s fiscal status continued to weigh on the market, and as investors reconsidered their equity allocations in light of better U.S. economic data and higher U.S. rates. Meanwhile, the Japanese market suffered its first weekly decline in four weeks. Japanese stocks were hurt by the rise in U.S. rates as well as by negative sentiment in certain segments of the technology market.
Emerging markets also underperformed—experiencing one of their worst weeks of the year, with Turkey and India being notable detractors. However, Brazil outperformed as the far-right presidential candidate extended his lead in the polls over the Workers’ Party, which is associated with much of the country’s economic mismanagement. Latin America in general outperformed the majority of emerging markets.
In the fixed-income markets, shorter-duration securities outperformed as rates increased and the yield curve steepened—putting particular pressure on longer-duration securities prices. High-yield bonds also outperformed longer-duration debt. Emerging markets debt came under pressure as the majority of currencies depreciated. However, Latin American currencies like the Brazilian real and Argentine peso outperformed.
GAIN: Active Asset Allocation
Global stocks had a rough week as the fourth quarter began. Several key overweights that have been beneficial in the portfolios showed considerable weakness. That weakness was a continuation of what we saw during the final few weeks of the third quarter, which suggests that there may be more leadership rotation ahead.
For the week, the U.S. equity market outperformed international markets. Within the U.S., financials and defensive stocks held up relatively well while real estate and consumer discretionary shares underperformed. Additionally, value outpaced growth.
We made several changes to the portfolios last week, based on current market conditions.
- We added value to bring our investment style positioning to a neutral weighting, and shifted exposure from small-caps into foreign equities (Japan and emerging markets, specifically).
- Even though they remain volatile, we believe much of the bad news in foreign markets is priced in enough to make them attractive again. Recent currency stability also helps support this view.
- The equity portfolios now have 75% U.S. exposure (with a 5% small-cap position) and 25% international exposure.
Meanwhile, in the fixed-income markets, rates rose sharply—delivering one of the worst weeks for bonds in five years. As an asset class, bonds have generated very limited returns for the past five years—a situation that continues to put pressure on conservative investors’ returns.
Other income sources in the portfolios—such as real estate and preferred stocks—have been volatile recently, as well. We continue to carefully monitor these assets and our positions in them. But given the weakness in traditional bonds, these alternative incomes sources remain attractive for now.
PROTECT: Risk Assist
It was a volatile week for global equities, sparked by a sharp rise in U.S. interest rates. The CBOE Volatility Index (or VIX) broke above 17 on Friday—its highest level since late June.
We executed trades in the equity portion of the Risk Assist models that were largely identical to those made in the Gain equity models—adding to international positions and selling some small-cap exposure.
SPEND: Real Spend
Fixed-income securities were hit hard last week, down nearly 1%, as bond yields rose sharply (prices and yields move in opposite directions). Broad-based bonds are now down 2.6% year-to-date. In the yield space, returns were ugly on the fixed income side–led lower by long-term bonds (down nearly 3.4%), preferred stocks (down 2.5%) and corporate bonds (down nearly 1.5%). U.S. dividend-paying stocks and master limited partnerships were the only bright spots in the yield space.
We rebalanced all Real Spend models last week back to their maximum spending reserve of 12 quarters. The rebalance serves the purpose of replenishing the spending reserve for distributions taken in prior quarters. All models maintain one year of spend in a cash allocation.
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