Making Sense of Market Dissonance

Stocks posted a strong rebound from the end of last year, but the bond market received more attention in March. Interest rates fell across the globe while investors worried that the economy is slowing. In the US, longer-term interest rates fell below short-term rates, signaling bond investors are anticipating cuts in short-term rates.

Long-term interest rates fell below zero in Germany and Japan as central banks grow more cautious. The German and Japanese 10-Year yields fell to -0.05% and -0.07%, respectively, the lowest levels since 2016. 

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For now, the resulting lower interest rates have supported stocks.  Global equities gained 12.2% in Q1. Small and mid-sized US stocks led the market higher, but nearly all geographic and industry segments experienced healthy gains, reversing most of last quarter’s losses.

Despite the optimism in stocks, the near-term outlook has moderated. The Atlanta Fed’s GDPNow model estimates economic growth of 2.1% in Q1, a modest downshift from 2.9% growth in 2018.  Corporate earnings estimates have also come down. Analysts are looking for 4.2% earnings growth in 2019 for S&P 500 companies, according to FactSet. That’s down from the 10.2% expected six months ago.  

Wages have increased 3.5% in the last twelve months – a sign the labor market continues to tighten. Commodity prices rebounded 7.1% in Q1 on the back of a 27% increase in oil prices. All this suggests inflation could be heading higher.

The concerns over growth further inverted the yield curve. The yield on the 10-year Treasury bond fell below the yield on the 3-month Treasury bill in March. While the inversion of the 10-year/3-month yield curve has often preceded downturns in the economy, it does not mean a recession is imminent. See our comments from February for more about inverted yield curves.

What It All Means

Bull or a bear, there was something for everyone in the first quarter. The key is avoiding binary bets about whether the market will be up or down. If you view the world through only one prism, you risk becoming entrenched in your own view, which generally inhibits long-run investment success.

We recommend not reading too much into yield curve or any other indicators. There will be another recession; we just don’t know when it will happen. It could be next month, or three years from now. What is important is having a strategy that works for you and sticking with it.

The near-term outlook is less rosy than it was 12 months ago. The extent a government shutdown, and a cold-snap in many parts of the country dented activity will only be known in hindsight. Exactly how companies are dealing with Brexit, trade dislocations, or a host of other global issues is far from known.

A good investment strategy is not immune to the ups and downs of the business cycle.  But it should be crafted so you can withstand fluctuations in the market and be carefully aligned with your long-term goals.

As always, we are here to help.

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