Economic Update 1-26-2015

• A light week in U.S. economic data was dominated by housing numbers, which came in a little better than expected. The bigger news came from Europe, where the ECB announced a large quantitative easing program of 60 billion euro/month, targeting mostly sovereign and agency debt, in an attempt to boost inflationary impulses and economic growth.

• Domestic stock markets were higher on the week, but dwarfed by strength in foreign equities—led by the ECB announcement. Bonds were mixed upon a flatter yield curve and strength in the U.S. dollar.  Crude oil was weaker again, falling to just over $45 with reports of high inventories coupled with demand uncertainty.

Domestic stocks were higher on the week, with sentiment improvement coming from the ECB’s stimulus announcement, which impacts not only European issues more directly but also a fraction of S&P earnings originating from Europe.  Earnings results on a whole have been mixed to a bit weaker than expected, but not dramatically so, although full-year 2015 estimates continue to be downgraded.  From a sector standpoint, tech and industrials were the big winners on the week, while defensive telecom came in negative, followed by consumer staples, which rose just slightly.

Foreign stocks were even stronger on the week, led by rebound returns in several emerging markets, such as Russia, South Africa and the Far East.  Interestingly, these regions outperformed developed markets (which also performed positively—particularly, peripheral Europe) as the implications of European easing are assumed to bode well for the prospects of non-European nations, including China.  India’s week was helped by a small interest rate cut to combat disinflation pressures (the idea of ‘too little’ inflation in an emerging market nation was almost unimaginable a few years ago).

Interestingly, foreign equities, which everyone wished they hadn’t allocated a single percentage point to over the last several years, have led the way in 2015—although it’s still early.  This is yet another reminder about market behavior and our expectations.  It’s not how an economy is expected to perform outright—it’s how well (or poorly) securities are expected to perform relative to already-baked-in expectations.  If things are even a little better than feared, there’s a decent chance of profit.  (As little intuitive sense as that might make for clients not in the investment business.)

Bonds were mixed as the yield curve flattened a bit—shorter-term debt saw increases in yield while rates on longer-maturity bonds fell.  Risk-on performed better than risk-off, which benefitted high yield bonds and bank loans in the U.S., while the natural recipients of European QE (peripheral debt, such as Italy and Spain) showed strong gains.  A strong dollar resulted in mixed results abroad generally, with USD-pay bonds in emerging markets, for example, sharply outperforming the local currency variety.

In real estate, Europe outperformed as expected, rising in line with general equities and expected benefits from a stronger economy from QE (it’s all about tenant demand).  U.S. REITs were marginally higher, with gains of less than a percent.

Commodities suffered another difficult week, with the S&P GSCI falling -3% along the equivalent level of dollar strength.  Oil ended up losing ground again down to just over $45, led by U.S. inventory data (supplies much larger than expected) and lowering of future forecasts, which isn’t too surprising.  Precious metals continued their strong 2015; this is somewhat related to European easing, which is expected to compress real yields, although the crosswind of dollar strength is a bit unique.

Clarification note:  In last week’s review, in regard to the Swiss franc discussion:  ‘The specifics were the setting of a price limit of 1.20 franc/1 euro, or understood another way through its inverse of 1 franc/0.80 euro.’  This should have been indicated more specifically as 1 franc/0.833 euro.  Occasionally, we round figures for simplicity, so regret any confusion for readers doing the math and ending up with a slightly different answer.

Sources:  LSA Portfolio Analytics, American Association for Individual Investors (AAII), Associated Press, Barclays Capital, Bloomberg, Deutsche Bank, FactSet, Financial Times, Goldman Sachs, JPMorgan Asset Management, Kiplinger’s, Marketfield Asset Management, Minyanville, Morgan Stanley, MSCI, Morningstar, Northern Trust, Oppenheimer Funds, Payden & Rygel, PIMCO, Rafferty Capital Markets, LLC, Schroder’s, Standard & Poor’s, The Conference Board, Thomson Reuters, U.S. Bureau of Economic Analysis, U.S. Federal Reserve, Wells Capital Management, Yahoo!, Zacks Investment Research.  Index performance is shown as total return, which includes dividends, with the exception of MSCI-EM, which is quoted as price return/excluding dividends.  Performance for the MSCI-EAFE and MSCI-EM indexes is quoted in U.S. Dollar investor terms.

 The information above has been obtained from sources considered reliable, but no representation is made as to its completeness, accuracy or timeliness.  All information and opinions expressed are subject to change without notice.  Information provided in this report is not intended to be, and should not be construed as, investment, legal or tax advice; and does not constitute an offer, or a solicitation of any offer, to buy or sell any security, investment or other product.