Market Monitor & Recap

Market Recap

1st Quarter Recap and Outlook - December 31, 2018 to March 31, 2019

Recap

The U.S. equity market bounced back sharply during the first quarter of 2019 after declining 13.53% in the fourth quarter. The "V" shaped bottom was mainly due to the Federal Reserve's changing view on interest rate hikes for 2019. In December 2018, the Federal Reserve was expected to hike at least twice throughout 2019, now that number now sits at zero expected hikes in 2019 after "normalized rates" were achieved and expecting global growth to slow. This allowed stocks to rebound across the board led by technology and real estate sectors which posted 19.86% and 17.53%, respectively.

Interest rates dropped during the quarter on concerns over global growth slowing pushed interest rates lower across the curve, the ten year U.S. Treasury yield went from 2.69% to 2.41%. This move lower in rates pushed the inversion of the two and five year note to a low of -8 basis points. With rates plummeting, the Bloomberg Aggregate Bond index posted a return of 1.92%, its best return since January 2015. The Federal Reserve's message following their March 20th meeting was taken as very dovish. The Federal Reserve made it clear that they were "rate" flexible, yet they also acknowledged that financial conditions have improved greatly since the beginning of the year. As a result of improving financial since their early January highs, investment-grade credit has performed remarkably seeing spreads compress nearly 50 basis points, not too far from their October 2018 lows. 

Corporate earnings for the 4th quarter remained strong with earnings growth 16% higher than this time last year. Domestic stocks remained leaders in the market place as the Russell 2000 returned 14.57% just ahead of mid-cap and large cap stocks that returned 14.49% and 13.65% respectively. International stocks lagged most equities, returning just 10.15% in the first quarter. Most economic data remained stable although with the government shutdown some data early in the quarter was skewed, and continued trade negotiations with China still hold some uncertainty in the marketplace.

Outlook

A dovish Federal Reserve coupled with stabilizing economic data creates a backdrop that is conducive to marginally positive equity returns over the near-term. Concerns surrounding an economic slowdown in both Europe and China have subsided since the 4th quarter of 2018, and we must keep in mind that these were two catalysts that contributed to the recent volatility in the U.S. equity market. Based on the current conditions within the market and economy we will begin the second quarter with a slightly overweight allocation to equities. In turn, we have slightly lengthened the duration of our fixed income portfolios to hedge against volatility if significant volatility returns to the equity market in the 2nd quarter.

Over the last quarter we have revised our outlook for monetary policy to be more in line with the market's expectations. Though a lot can happen during the next nine months, we believe that the Federal Reserve will refrain from hiking the policy rate in 2019. If growth strengthens and inflation firms near two percent in the second quarter, as we believe it will, the yields across the intermediate segment of the yield curve should be affected the most; the 5 year note has tended to be most sensitive to economic surprises. Despite our higher growth expectations for the 2nd quarter, we are reluctant to add further credit exposure to our fixed income portfolios.

Our analysis suggests that U.S. equity market should post positive return over the next quarter, albeit a low single digit return. International equities, both developed and emerging, continue to look more and more attractive especially with a dovish Federal Reserve acting as a wind at their backs. Therefore, we expect that these international equity markets will outperform their U.S. peers for the 2nd quarter. As far as individual sectors go, we remain positive on energy stocks as the price of crude oil continues to make a strong comeback.

Media Perspective

A recent article from the Wall Street Journal, (Fed Minutes: Officials See Little Need to Change Rates This Year) - FOMC members cited greater risks from global slowdown, muted inflation readings in keeping rates steady (By Nick Timiraos, Wall Street Journal)

Read More by Nick Timiraos, Wall Street Journal article at the Fed Minutes: Officials See Little Need to Change Rates This Year.

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