MARKETS REBOUND IN FIRST QUARTER OF 2019
After the United States stock market index declines in the last quarter of 2018, they recovered nicely in the first quarter of 2019. In fact they regained all of the lost territory. All three major indices showed positive results with gains of 16.8% for the Nasdaq, 13.6% for the S&P 500, and 11.8% for the DJIA (which was impeded by the poor performance of Boeing’s stock price).
Despite this strong performance of the indexes, market fundamentals worsened during the first quarter. According to FactSet, the estimate for first-quarter earnings growth for the S&P 500 stood at 2.9% at the end of 2018. As of quarter’s end, this estimated earnings growth had fallen to a loss of 3.9%. This weakening of company fundamentals was widespread. In fact, all 11 sectors showed declines in estimates over the course of the quarter.
Fundamentals drive performance over the long term. But over the short term, weakening fundamentals do not necessarily mean that markets will suffer losses. In fact, over the past 20 quarters, this marks the 15th time that market values have increased while earnings estimates have declined. Further, analysts still expect positive earnings growth for the next three quarters and for the year. This growth should continue to support markets.
International markets also had a strong quarter. Both the MSCI EAFE Index, which covers developed international economies, and the MSCI Emerging Markets Index gained 10% for the quarter.
Even fixed income markets had a steady start to 2019. The Bloomberg Barclays U.S. Aggregate Bond Index gained 2.9% for the quarter. Here, yields declined, pushing capital values up. The 10-year U.S. Treasury yield started the quarter yielding 2.6% and finished the period at 2.4%.
ECONOMIC GROWTH SLOWED IN FEBRUARY BUT CAME BACK IN MARCH
The decline in bond yields was due to a slowdown in growth in February as only 20,000 new jobs were added. However on April 5th, the Labor Department announced that employers added 196,000 new jobs in March and revised its report for February to 33,000 jobs. Unemployment remained at 3.8% in March which is near the lowest level in almost 50 years, while wage growth kept its momentum.
While consumer confidence had mixed results during the quarter, business confidence showed improvements. The Institute for Supply Management Manufacturing and Nonmanufacturing indices, which measure producer sentiment, showed rebounds following declines in December and January.
Business investment showed growth to start the year. Durable goods orders increased by 0.3% in January. This increase followed 1.2% growth in December and 1% growth in November. Business confidence appears to have rebounded from the year-end turbulence. Spending also continues to grow, although below the levels of 2018.
FED RESPONDS TO SLOWDOWN
At its December meeting, the Federal Reserve (Fed) indicated that two rate hikes in 2019 were likely. But in response to weaker data, the Fed has since made a major turnabout in policy. At its March meeting, the Fed suggested that no further rate hikes are expected this year. In addition, it said it will end its balance sheet runoff activities in 2019. These moves left policy more stimulative than had been anticipated. Market participants have taken this updated guidance to heart. In fact, some have even projected a rate cut in the fourth quarter.
THE RISKS ARE SUBSIDING
Although the economic risks remain, they may be receding. To start, we avoided a second government shutdown. This likely played a part in the rebound in business confidence. Further, housing market concerns, although still present, have diminished somewhat. Lower mortgage rates have made buying a house more affordable, leading to increases in new and existing home sales. Existing home sales were especially encouraging, with 11.8% month-over-month growth in February which was the largest month over month gain since December 2015 according to the National Association of Realtors.
International risks have also receded for the time being—although they could reemerge. The ongoing Brexit negotiations appear to be deadlocked. The United Kingdom is not providing much clarity as it works toward avoiding a no-deal exit from the European Union. On the bright side, the United Kingdom and the European Union extended the deadline for a no-deal Brexit from March 29 to April 12. So, there is still time for a potential trade deal. A slowdown in Chinese growth also has the potential to affect markets. But, once again, this is more of a medium- to long-term concern than a pressing risk.
A new risk on the radar is the inversion of the yield curve, which occurred at month-end. After the Fed announced an easing of monetary policy, yields on long-term government debt were driven down. This move left longer-term interest rates lower than shorter-term ones. When this happens, it is known as a yield curve inversion and typically signals a higher risk of recession. Although this inversion garnered a lot of headlines, the risk is more for 2020—not 2019. It needs to be watched but not worried about just yet.
STRONG QUARTER STARTS YEAR OFF RIGHT
As we have discussed, risks remain both at home and abroad. But U.S. markets showed their resilience in the first quarter. Economic growth appears to have slowed, but slow growth is still growth. Earnings growth in the first quarter was disappointing. Here, there may be room for upside, given analysts’ positive estimates for the rest of the year.
The real takeaway from the drop at the end of 2018 and the rebound this year is that volatility can happen quickly. The past six months highlights once again the importance of creating and maintaining well-diversified portfolios that can withstand short-term volatility.
Presented by Alexandra Armstrong, CFP®, CRPC®