Economic Update 8-19-2019

• Economic data for the week included positive reports in retail sales, several regional manufacturing surveys, and a combination of several labor statistics. On the disappointing side were industrial production, housing starts, and jobless claims, which ticked up on the week.
• Global equity markets in both the U.S. and overseas endured a volatile week, with several high percentage days in both directions, but ending only about a percent lower on net. Bonds fared more positively on the investment-grade side, due to lower interest rates and flows away from risk. Commodities were mixed to lower, mostly due to lower grain prices.

U.S. stocks experienced a unique week, to say the least, with several sizable drops. Starting the week, stocks were pressured as protests in Hong Kong intensified, resulting in canceled flights and strong rhetoric from Beijing labeling it as ‘terrorist activity.’ However, risk assets were buoyed upward soon afterward by the U.S. administration’s delay in imposing additional tariffs from Sept. 1 to Dec. 15 for $150 bil. of certain items (due to ‘health, safety, national security and other factors’), although this also included selected consumer items such as cell phones, computers, toys and footwear). The Sept. 1 date, however, is still applicable for $100 bil. of goods at this time. While this satisfied hopes for some type of resolution to the ongoing trade crisis, it’s certainly not a permanent solution. Equities experienced the worst day of the year on Wednesday, with values falling -3% when the treasury yield curve finally ‘officially’ inverted. A recovery later in the week helped to reduce some of the losses, which appeared at least partially due to better rhetoric about trade resolution, again, as well as solid results in retail sales and several regional manufacturing surveys—which poke holes to some degree in the Fed’s argument that the economy is softening.

By sector, defensive groups consumer staples and utilities outperformed by earning positive returns in a poor week—partially due to strong earnings results from Walmart. Conversely, energy and financials lost the most ground, with the former down nearly -4%. Consumer discretionary and communications stocks were also weak, while technology losses were not as severe.

Foreign stocks performed similarly to those in the U.S., notably in Japan and U.K., while Europe fared worse, with a stronger negative reaction to trade sentiment and a GDP report showing the continent barely achieved positive growth in Q2 at 0.2%, while Germany contracted. Emerging markets fared similarly. Interestingly, China saw gains as sentiment improved a bit as additional stimulus measures were announced in response to weaker credit growth. On the other hand, Brazil, Russia and Turkey all experienced losses in the mid-single digits.

The emerging market group was highlighted by the unique news of a near -50% drop in Argentina’s stock market in one day (and 25% drop in USD-denominated bonds)—following the primary presidential election where incumbent present Macri, a proponent of financial reforms, was trounced by a populist/leftist candidate. To boot, the challenger’s running mate was former present Cristina Kirchner, who is facing corruption charges in her own right. The Kirchner regime (which includes her husband, another former president) is blamed for many of the current economic problems in the nation, including continuing a legacy of spending issues and debt defaults, which explains the poor financial market response. While considered a frontier market nation on the equity side, with marginal ownership, a fair number of EM debt funds have been enticed by the extremely large yields offered on Argentinian bonds. This is another reminder as to why large credit spreads are demanded for a reason.

U.S. bonds experienced another unique week, with the inversion of the 10-year to 2-year parts of the yield curve. The broader government and investment-grade corporate indexes each gained over a percent, due to a strong duration effect, as yields again reached multi-year lows before rebounding back somewhat by Friday. The 30-year treasury bond (which has a more sporadic trading history than the more common bellwether 10-year note) reached an all-time low yield level of just below 2%. High yield and floating rate experienced minor losses on the week.

Yield curve inversions have tended to be one of the more accurate recession predictors (seven of the past nine), and have been widely written about academically, which explains the negative equity market response. However, for the true signal, the inversion must stay in place for several weeks. Of course, many pundits are already claiming ‘it’s different this time,’ and the current inversion is no way representative of the upcoming direction of future economic growth.

Foreign developed market debt fared similarly to U.S. government, gaining despite a stronger U.S. dollar. Emerging market bond prices fell, with investors generally moving away from credit spreads of all kinds.

Real estate bucked the general trend of negativity, with gains in the U.S., while foreign REITs were mixed for the week, as Asia fared positively, and Europe declined, along with weaker sentiment there.

Commodities lagged generally with a stronger dollar and movement away from most economically-sensitive assets. Gold and industrial metals gained nearly a percent, while agriculture lost several percent as the USDA crop production report showed a sharper-than-expected increase in supply. This is on top of fears about China pulling back on purchases in retaliation for U.S.-imposed tariffs. The price of crude oil ticked a fraction of a percent higher to a shade under $55/barrel, down from highs earlier in the week; natural gas rose by nearly 4%.

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.