Plum Street Advisors
Q3 2019 Market Commentary – October 9, 2019
US and global GDP growth are expected to slow significantly this year. Of particular concern is the significant headwind of the ongoing trade war between the United States and China. The US and China are (by far) the largest economies in the world, and few areas of the global economy are unaffected by the ongoing trade war being waged between the two countries.
Chinese GDP growth has slowed to a 30-year low and risks dipping below 6% – the low end of the government’s target – before year end, analysts warn. US GDP growth has also slowed, and corporate earnings look likely to decline for the third quarter in a row. In both the US and in China, factories are operating at their lowest rate in 10 years. In the rest of the world, Germany, Italy, the U.K, Brazil, Mexico, Japan, Korea, and Singapore all look to be at high risk of recession.
As far as positive impacts, President Trump’s statements that the U.S. is greatly benefitting because of the billions in tariff receipts is misleading. In fact, the $32 billion collected to date (through October 2nd) from the China tariffs (the Section 301 Duty Assessments) only barely covers the $28 billion in subsidies that have been promised to farmers to offset their impact, let alone making up the negative economic impacts across myriad other industries.
So far, the Federal Reserve has continued efforts to offset the negative impacts of the cyclical downturn and the recent trade war. They have cut rates twice already this year, and the market expects two more cuts through early next year. It feels like the Fed is temporarily holding back the risk of a downturn, but a long term solution will have to come from good news on the global front.
It was a mixed quarter for stocks, with large company stocks slightly adding to year to date gains while small cap stocks pulled back modestly. The total return of the Russell 1000 index of US large company stocks was 1.4%, while the Russell 2000 index of small company stocks lost 2.4%. Both are still strongly ahead for the year, with large cap stocks up 20.5% and small cap stocks up 14.2%.
Technology stocks had led the way for the first half of 2019, but they seemed to lose some momentum in the third quarter. For the full quarter, the tech-heavy NASDAQ index actually declined slightly by 0.1%. According to Factset, there have been more tech companies issuing negative guidance than in any quarter since they started tracking this data in 2006. Because tech stocks have been leading the current rally, this slowdown bears watching.
In the third quarter, more defensive sectors such as Utilities (+9.3%) and Consumer Staples (+6.1%) led the way, along with interest rate sensitive sectors like Real Estate (+7.7%). Energy was the worst performing sector for the second quarter in a row, with a total return of -6.3%.
International stocks lagged US stocks. The total return of the MSCI EAFE index of developed countries (USD, net) declined -1.1%. Emerging markets continued to struggle in the third quarter, as the MSCI Emerging Markets index (USD, net) retreated -4.2%. The largest contributor to negative emerging market returns was China, which declined -4.7% (Net, USD).
After a period of raising rates, the Federal Reserve was forced to reduce its benchmark rate twice in the third quarter to combat slowing growth. The market is anticipating further declines. The 10-year interest rate followed suit, declining from 2.0% at the beginning of the quarter to 1.7% at the end.
As bond rates decline the price of existing bonds rises, and the Bloomberg Barclays US Aggregate Bond index rose 2.3% in the third quarter. Global bonds, TIPS, and short term bonds all gained in value as well, albeit to a lesser extent.
Commodities and Currencies
Energy was particularly volatile in the quarter, and ended slightly down by -4.1% (WTI crude price). The price of oil gained sharply when Saudi Arabian oil fields were attacked on September 14th, and then declined again toward month end as it became increasingly clear that global growth would lower demand.
As global volatility increased, and as interest rates declined, precious metals such as gold gained in value. The gold spot price rose by 5.4% in the quarter, and is now up 16.1% for the year.
The dollar has strengthened as well, resulting in weaker returns in non-dollar denominated securities. The Wall Street Journal’s index of the US Dollar compared to a basket of 16 foreign currencies rose 2.7% for the quarter.
Global risks – both geopolitical and economic – do not seem to have abated in the third quarter. Brexit, the US-China trade war, Middle East unrest, and even political divisiveness in the US all continue to loom as risks for the markets. Declining interest rates have helped offset these concerns in the near term.
It feels like a fork in the economic road, where a resolution of trade disputes, continued rate declines, and an orderly resolution to the Brexit crisis could help the US’s longest economic recovery in the post-WWII era continue longer, while a further decline in global trade could lead to a US recession before the end of 2020.
For most clients, a balanced and diversified portfolio will be the prudent way ahead. However, as risks mount, it becomes increasingly important to consider the time horizon of your investments. We want to help ensure that our clients have properly allocated only their long term assets to equity-heavy portfolios, and have carefully considered their shorter and medium term needs in order to position for what could be a more volatile period ahead.