To Our Valued Clients,
As we head into the final months of 2019, US equities have performed well, with the S&P 500 index up about 20% despite many uncertainties surrounding the markets and global economy. However, most of the gain in equities occurred earlier in the year, as stocks rebounded from a sharp drop in the fourth quarter of 2018. Stocks have been rather choppy and volatile since then. US job growth has been solid and consumer spending has continued to bolster US economic growth. Many countries’ interest rates are in negative territory, as central banks in Europe and Japan struggle to stimulate borrowing, investment and growth. The three month/10-year Treasury yield curve inverted in March, and the two-year/10-year curve inverted in August. Because yield curve inversions historically have often—but not always—preceded a recession, this has certainly raised concerns in the minds of investors. However, it’s important to note that even if a recession does occur, over the past 50 years the time lag between yield curve inversion and recession has varied widely, from 5 months to 23 months. Stock market performance following an inversion has also historically been mixed.
The US consumer has been and remains the bright spot for the economy. Last quarter showed strong consumer spending trends helping offset weakness in manufacturing. Key consumer indicators we watch closely have remained steady thus far in 2019 but may see further pressure as growth continues to slow. Strong consumer spending is critical to extending the current business cycle and we see resiliency in the data. Both business and consumer confidence have remained at strong levels throughout 2019, notwithstanding the impacts of trade and geopolitics.
As expected, the Federal Open Market Committee (FOMC) cut the federal funds rate by 0.25% to a target range of 1.75% to 2.00% at its September meeting. This is the second consecutive meeting at which the Federal Reserve (the Fed) has lowered the fed funds rate by 0.25%. The Fed reiterated its commitment to act as appropriate in order to sustain the economic expansion. The uncertainty lies with the potential negative effects of the ongoing trade war between the US and China and weak global growth being offset by the strength of the US consumer. Fed chair Jerome Powell used his opening statement after the meeting to emphasize that the economy “continues to perform well” and that the “outlook remains favorable”, while also highlighting increased uncertainty due to geopolitical tensions. Officially, the Fed is citing inflation as its primary reason for cutting rates. Not necessarily where inflation is today, but where inflation may be heading. Unofficially, however, there are other factors at play. Political pressure, trade tensions and economic weakness globally, are just a few other issues that also justify the recent policy stance. Regardless, the Fed has now entered into an easy policy, rate-cutting cycle. An escalation in trade tensions would inflict further damage on an already slowing global economy, likely forcing the Fed into a more prolonged easing cycle. The timing of future rate changes will reflect labor market conditions, indicators of inflation pressures and expectations, and financial and international developments. As noted, the Fed insists it will act appropriately to sustain the expansion.
Uncertainty over the US and China trade war will continue to affect economic growth and markets until there is some clear path to a resolution. The ups and downs of the trade talks have weighed on market sentiment and posed the largest challenge to investor confidence and the economy in 2019. Although the US has trade deals signed or pending with many other major global economies, China—formerly the US’s biggest trading partner, slipped to third place in 2019, according to the Commerce Department. Some market observers have compared the US-China dispute to the decade-long US-Japan trade war of the 1980s. While the current trade war could end up taking a while to resolve, both China and the US have far more to lose by not reaching an agreement than Japan and the US had a few decades ago. Thus, we view this dispute to be more of a near-term conflict rather than one with longer-term negative economic implications.
Across the pond, the UK’s Prime Minister, Boris Johnson, has stated that, “do or die”, the UK will leave the European Union on October 31st. Yet he also states that there is a “one in a million” chance that the UK will leave without a deal, leaving markets confused and rattled. The EU is a club of countries, members of which can trade with minimal barriers, since all countries apply common regulatory and product standards. If the UK leaves the EU, it still sits in a broader club of 164 countries called the World Trade Organization (WTO). The terms of trade under the WTO are much less comprehensive and so reverting to the WTO terms would mean a number of consequences that would stifle any sort of economic growth which remains elusive. UK exports to the EU would face tariffs and vice versa, customs checks would be required at all border points, neither side would recognize product standards, the UK financial services sector would face increased regulatory scrutiny, and many trade agreements would need to be renegotiated. Until there is a clear path to a deal for an orderly Brexit, we remain cautious and wait patiently for catalysts for sustainable growth.
Although markets have performed well so far in 2019, Britain’s unclear path towards Brexit, swirling US-China trade tensions, and slowing economic data have contributed to what amounts to greater uncertainty today. Therefore, we continue to stress diversification amongst asset classes and strategies. As always, we believe in the importance of a long-term investment mindset to guide our decisions.
As we head into the fourth quarter of 2019, we wish you and your families a happy and prosperous autumn season. We thank you for your ongoing trust and confidence, and hope we can continue to help you discover The Next Piece – to Your Peace of Mind. ™
Josh Williford, MSF
Director, Empowered Investor
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