Market Review – Q4 2018
- Credit & Lending
As we entered the second half of 2018, markets appeared to be hitting an inflection point. On one hand, economic data remained robust, with the consumer fully engaged, wages growing at a modest pace, industrial production steady, and the corporate tax cut creating the opportunity for meaningful investment. On the other hand, however, we saw the specter of a continued move towards protectionist trade policy by the Trump administration, a swoon in emerging markets on a stronger than anticipated U.S. dollar, and fears of a renewed weakening in the quality of European bank holdings, particularly Italy. Even technology stocks seemed poised for a potential change in trend, as privacy concerns and sky high valuations threatened to take the wind out of their sails.
Yet, even with all of that, the equity markets proved that once again, whether driven by a lack of alternative options – bonds in a rising rate environment, anyone? – or the economy, or momentum, or perhaps a combination of the above, it is still a good time to have your money in stocks. To be fair, there were winners and losers in the quarter, but with the S&P 500 up +7.7% in the quarter, most U.S. equity investors will be pleased with the performance. Growth names continued to lead the way, even as pockets of technology like social media faced some challenges. Interestingly, we have seen a rotation of sorts in market leadership over the last several weeks, as health care stocks surged to close out their best quarter since 2013. Industrials, too, gained ground as expectations of a trade war with China simmered somewhat and investors focused on finding opportunities after declines in the space. Laggards for the quarter included the materials, energy, and utilities sectors; financials also continue to lag the broader benchmark. Small cap stocks, for their part, did not perform quite as well in the third quarter, but given their relative outperformance to large cap in the first half of the year, performance for 2018 overall remains strong.
Outside of the U.S., international developed stocks continued to lag as a confluence of factors has created negative sentiment around these names. While the U.S. dollar stabilized late in the quarter, concerns about the ongoing, fairly contentious Brexit negotiations, increased scrutiny of the strength of Italian banks amidst calls for greater fiscal spending by Italy’s new government, and an acknowledgment that perhaps the valuation gap between international and U.S. stocks is unlikely to compress, resulted in another disappointing quarter for these names. The pain was even greater in emerging markets, as crises in Turkey and Argentina were blamed for investor skittishness, while the true culprits were more likely a strong U.S. dollar and fears of a tariff induced slowdown in Chinese growth.
Within the fixed income markets, bonds remained under pressure, as yields across the curve moved incrementally higher; the curve continues to sit at historically tight spreads between the 2 Year and 10 Year Treasury, and as such, the fear of inversion remains. In a sharp departure from the second quarter, government bonds underperformed credit, perhaps representing a pause in the move to quality observed in the first half of the year. In fact, high yield corporates were the best performing part of the market in the quarter, as earnings remain strong and concerns about higher rates and increased defaults subsided. Emerging markets debt, too, performed well, marking a divergence with the equity markets.
Finally, commodities continued to move higher as inflation appears firmly entrenched. Driving the gains in the asset class are oil prices, which have continued to trend higher throughout the year. REITS, for their part, have underperformed the broader equity markets – hardly surprising in a rising rate environment.
View all Articles in this Issue:
- Credit & Lending