Key Market/Economic Observations
Positive Start to 2019 on Improved Investor Sentiment
Heading into the last week of January, the S&P 500® was having its second-best start to the calendar year in the last 20 years; the only year besting this year’s start was 2018. S&P 500 value stocks are materially outperforming growth equities to start the year, which differs from not only the start of 2018 but also the previous five years. As the Financials sector kicked off fourth-quarter earnings season, the positive guidance for 2019 was much better than the consensus had feared, prompting strong outperformance to start the year.
International Developed Markets
Renewed Tightening of Financial Conditions and Geopolitical Tensions Cloud the Economic Outlook
The economic backdrop for many developed international markets continues to cool. The International Monetary Fund reduced global 2019 growth forecasts for the second consecutive quarter, with the largest revisions made to euro-area economies. The reductions come after a retrenchment in economic surprises across Europe, reflecting a reset in expectations. Weakening manufacturing data, political tensions, and global trade policy uncertainty have contributed to the slowdown in momentum. However, slowing growth does not mean slow growth – the global economy is still expanding at the trend rate of 3.5%, and the removal of any key macro risks could provide a meaningful tailwind for both economic growth and asset prices.
Emerging Market Stocks Continue to Rebound; China Economic Growth Slows
Emerging market (EM) equities have carried over their positive momentum from late 2018 into 2019. Through the first few trading weeks of the year, EM equities have outperformed their developed market peers. The MSCI EM index is up approximately 6.9% compared with the MSCI EAFE, up 5.5%, and the S&P 500, up 6.3% (as of January 25). The move higher has been fueled by relatively attractive valuations and improved sentiment that a trade deal will ultimately be worked out between the United States and China. However, GDP data out of China confirmed what many market participants had feared – China’s economy is slowing. The Chinese economy expanded by only 6.6% in 2018, marking the slowest growth since 1990. While consensus estimates point to the economy slowing further in the coming year, the greater concern is over the longer term. The world’s second-largest economy is wrestling with structural changes. Challenges include, among others, a rapidly shrinking working-age population, pivoting from a manufacturing-to a service-based economy, balancing the role of the Chinese government within the private sector, and foreign investments.
Commodities Improve in January Aided by Loss of Dollar Momentum
Commodity markets saw broad-based strength in January, with every major subindex contributing to the Bloomberg Commodity Index’s 4.0% gain. Energy led gains as West Texas Intermediate crude oil rose 14.1% due to OPEC-Plus production cuts and declining production from Venezuela resulting from political turmoil. While trade uncertainty remains a source of anxiety amid weaker economic data from China, the improvement in EM currencies and a loss of dollar momentum have been supportive. Given its safe-haven status, the dollar would likely attract flows if the trade war were to escalate, or in a prolonged risk-off period. However, we believe the risks for the dollar are skewed to the downside, with domestic growth moderating toward trend and with less divergent central bank policy. The combination suggests an improved environment for the commodity complex in 2019.
The Value of a Long-Term View
The turn of the calendar has been kind to investors thus far in 2019. While still off its late September 2018 high, the S&P 500 is up over 6% through the first few weeks of the year. The quick snapback has been welcomed by investors who, outside of municipal bonds and cash, had few assets classes to turn to for positive returns in 2018. Interestingly however, the items on our radar heading into the year largely remain, including the future pace of rate hikes by the Federal Reserve, U.S./China trade concerns, softer earnings growth, a slowing global economy, and a partial U.S. government shutdown. All of these continue to weigh on investor sentiment. Despite these concerns being compounded by daily headlines, tweets, and the 24/7 news cycle, broad markets are up. This brings us to two simple but important elements to keep in mind, particularly when market volatility increases. First, trying to time the market is a perilous task, promising to only lower an investor’s probability of success. Second, maintaining a long-term view, the antithesis of market timing, dramatically shifts the odds of success in favor of investors. Using history as a guide, the market moving up or down on any given day is about a 50/50 proposition; however, an investor's winning percentage nearly doubles when pushing the time horizon out to 5 or 10 years.