Economic Update 1-07-2019

• Economic data was sparse in the first week of the new year, with ISM manufacturing data disappointing, but employment numbers came in much stronger than expected.

• U.S. equity markets recovered during the week, largely due to Friday’s job news and optimistically-received Fed remarks; international stocks were not far behind, with more tempered gains.  Bonds also gained a bit of ground along with lower interest rates.  Commodities earned positive returns, due to a recovery in crude oil prices.

U.S. stocks recovered over the New Year, solely due to Friday’s response to a much better than expected jobs number and report from China’s commerce ministry that additional trade talks will be occurring this coming week (reassuring markets that there is more happening behind the scenes than headline news would imply).  By sector, energy recovered with a 5% gain, followed by strength in communication services, while utilities and technology lagged—the latter brought down by lowered forward-looking revenue projections for large sector weighting Apple.  Company-specific results don’t usually have the power to move markets, but the pervasiveness of Apple’s products globally can result in assumptions made between the firm’s projected sales and worldwide economic growth—both of which look to show slowing in 2019.

In addition, dovish comments from FOMC Chair Powell at the American Economic Association alluded to an even more measured approach to implementing policy (that they are not on a ‘preset path’ to raising rates not matter what).  This was more nuanced than what has already been communicated—largely taken by markets as a sign of a possible pause in the pace of rate increases in upcoming meetings.  Although fundamentals remain in growth mode, a weaker stock market itself can result in a self-fulfilling prophecy by tightening financial conditions as much as rising rates or widening credit spreads could, in terms of the potential negative impact on sentiment.  The Fed is fully aware of the impact of their wording (formal and informal) on markets and can take opportunities like this to ‘fine-tune’ their message as needed.  In fact, this type of policy is what is referred to by economists as ‘forward guidance’ and shouldn’t be overlooked as a method for tightening or loosening perceived financial conditions in the near-term, and to restore calm to financial markets; however, longer-term results continued to be driven by actual policy action, via rates and balance sheet activity, as opposed to reassuring words alone.

Foreign stocks gained, albeit to a lesser degree than U.S. stocks, in local terms, but were boosted a bit further by a weaker dollar.  Results as of late in local terms continue to be correlated to global economic prospects, probabilities of the U.S.-China trade tensions being resolved, as well as region-specific items such as Brexit and the Italian budget.  The latter appears to be less of an issue with further budget cuts ongoing to trim the expected deficit as required by European officials.  Emerging markets ended the week in the negative in local terms, which translated into a small positive after accounting for a weaker dollar.  Weakness in Asia ex-Japan, such as Korea and Taiwan, was offset by strong results in Russia and Brazil, with commodity prices stabilized and optimism over the new Brazilian president boosting sentiment—with hope for improvement in the areas of deregulation and government pension reform—both of which have been bogging down potential economic growth in past years.

Economic softening in China may be a bit deeper than many expected, although data is mixed, with manufacturing results weaker, while services continue to show strength (similar to the pattern of such readings in the U.S.).  The Chinese central bank lowered bank reserve requirements by a percentage point to 13.5%, which has the monetary effect of easing, by injecting nearly $120 billion into the economy through increased implied lending activities.  This is the fifth of such cuts in the reserve rate in the past year.

U.S. bonds generally gained ground as yields ticked lower—along with the dovish Fed comments tempering the probable path of rate increases in 2019.  Interestingly, long-duration governments outperformed, but were matched in performance by high yield and floating rate bank loans, which benefitted from tighter spreads compared to prior weeks.  Minimal returns in foreign developed market bonds were helped by a weaker dollar, which added a half- to a full percent of returns—notably boosting returns for emerging market debt.

Commodity indexes showed a gain, led by a sharp increase in energy, followed by a lesser increase in precious metals, while other segments were mixed on the week.  The price of crude oil recovered by nearly 6% to just under $48/barrel, as a result of stronger U.S. economic data (potentially affecting demand) and further talk of OPEC supply reductions taking hold in 2019.

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.