“I think it’s a myth that expansions die of old age. ... So the fact that this has been quite a long expansion doesn’t lead me to believe that ... its days are numbered.”
—Former Federal Reserve Chair, Janet Yellen
In late 2015, when then Fed Chair Janet Yellen uttered this now famous quote, many wondered how much longer the current economic expansion—and bull market—could go on. Quite a bit, it seems.
The economic expansion is on track to be one of the longest in U.S. history, and the bull market, which seemed in jeopardy late last year, turned 10 years old this March. Age alone is not a good enough reason to predict an end to this expansion and string of positive stock returns, but we have seen some signs that weaker economic growth could be ahead.
The official arrival of spring in March brought welcome news for many investors. The stock market rebound that began in early December continued into last month, pushing stocks back into record territory in the first quarter.
The S&P 500 gained nearly 2% on a total return basis for the month of March and has climbed nearly 14% for the year-to-date period. The index managed to shrug off growing recessionary signals, trade tensions with China and weaker corporate earnings to post its best quarter since late 2009. The trailing price-to-earnings multiple rose by 5% in the first quarter, reaching 18.7 in March. Still, the index’s P/E multiple remained well below its previous peak of 22.9 in January 2018.
The smaller-cap issues that make up the Russell 2000 declined by slightly more than 2% percent in March, but also managed to finish the quarter on a high note, rising by nearly 15% for the year-to-date period.
Non-U.S. stocks were essentially flat in March, with the MSCI EAFE and the MSCI EM rising by less than 1% each. On a trailing 12-month basis, non-U.S. stocks remained in negative territory at the end of March, weighed down by economic weakness in Europe and slower growth in China, among other factors.
US Sector Scorecard
The Real Estate and Technology sectors led the way in March, returning nearly 5% each. Real Estate got a boost from lower interest rates tied in part to the Federal Reserve’s signaled pause in rate hikes. While Technology was among the top performers on a trailing, 12-month basis, Utilities (up nearly 20%), Health Care (up nearly 15%) and Consumer Staples (up 10.5%) also performed well, signaling an increased appetite among investors for defensive sectors even as the market trended upward.
Technology was clearly on the minds of many investors, thanks to the much-anticipated IPO of ride-hailing company Lyft Inc. (LYFT). Lyft’s stock sank below its IPO price of $72 in its first couple days of trading, but the market’s initial response to this late-cycle offering will hinge in large part on the company’s first-quarter results. How Lyft’s IPO plays out is worth watching as it may be a bellwether for the all-important Technology sector—which has been a disproportionate driver of earnings growth and the appreciation of major indexes in recent years. Technology is the largest of all S&P 500 sectors, with a weighting of more than 21 percent.
While Real Estate got a boost from lower interest rates, Financials, also sensitive to rate changes, took a hit, declining by nearly 3%. On a trailing, 12-month basis, the sector was down by nearly 5%. Industrials also fared poorly last month (down about 1%), but the sector has helped to lead the market higher this year, buoyed by optimism around U.S.-China trade negotiations. It was up more than 3% on a trailing, 12-month basis through March.
The Energy sector rose 2.1% in March, led by a continued rally in the price of oil. The sector contended with conflicting trends. On the one hand, OPEC cut production of oil in an effort to boost global prices. On the other, a couple of large integrated oil companies announced production increases, particularly in the U.S., a move that has the potential to offset some of the reduced OPEC supply.
A rising tide lifted all boats in the first quarter. Just as the Fed’s signaled halt to rate hikes helped to drive stocks higher, it also bolstered demand for bonds, pushing prices higher and yields lower. The broad-based Bloomberg Barclays U.S. Fixed Income Aggregate index returned 1.9% in March and climbed by nearly 3% in the first quarter.
Longer-dated Treasury bonds fared the best, rising over 5% in March, bringing the 12-month return to over 6%. While high-yield bonds, which carry more credit risk, lagged in March, rising less than 1%, they remain one of the strongest areas within fixed-income for the year to date.
Tax law changes sent investors searching for ways to shield their tax bills, a boon for the municipal bonds sector, which saw near-record inflows in the early part of 2019. Municipal bonds returned 1.6% in March and 2.9% in the first quarter.
The Economy and the Fed
The U.S. economy continues to benefit from growing employment, rising wages, and strong consumer balance sheets—all of which bode well for consumer confidence and consumer spending. Even the housing market, which softened last year as mortgage rates climbed, has staged a comeback. Existing home sales and mortgage applications have trended upward lately, despite the headwind created by tax law changes that reduced some of the tax benefits of home ownership, particularly in states with high income taxes.
While the U.S. economy continues to grow, it’s hard to overlook certain recessionary signals. One of the strongest of these came out of the Treasury market last month, when the rate on 10-year Treasury bonds fell below the 3-month Treasury yield, the first such yield curve inversion since 2007. Typically, longer-dated bonds have much higher yields than shorter-dated bonds. This seems intuitive: investors want to earn more in exchange for having to wait longer to get their money back. But, as the Fed hiked short-term rates and long-term rates sank, the distance between those rates narrowed and eventually turned negative.
Yield curve inversion is often a sign that the economy is headed into a recession. There are reasons, however, to take that signal with a very large grain of salt. For one, this inversion was very short lived, reversing itself after just a week. After other yield curve inversions, the economy has typically headed into recession within 6 months to 2 years. However, during that period before the onset of recession, the market has often been up.
If we look to other evidence of economic health, we see more mixed signals. For instance, the Institute for Supply Management’s monthly manufacturing index for the U.S. rose to a healthy 55.3 in March, up from 54.2 the previous month. While the Purchasing Managers’ Index (PMI) for the U.S. remains in positive territory, it has yet to return to the highs we saw last summer, when it hit a robust 60.8 in August. A reading above 50 generally indicates an increase in manufacturing activity and vice versa.
The latest PMI readings also illustrate the stark differences between economic conditions in the United States and Europe, where Brexit uncertainty is taking a toll on the United Kingdom’s economy. The Eurozone PMI fell to 47.5 in March, hitting its lowest level since April 2013. Germany—the Eurozone’s largest economy and a major exporter to China—saw its PMI fall to 44.1 in March, from 44.7 in February, the lowest level in nearly 7 years.
With downside risks mounting, the Fed appears to be in pause mode, although Fed officials disagree on what that means. Speaking at an investment conference last month, Chicago Fed President Charles Evans said he doesn’t anticipate any more rate hikes this year. By contrast, Philadelphia Fed President Patrick Harker said that the Central Bank may undertake one more rate hike this year, and possibly another in 2020. “I see the outlook as positive, and the economy continues to grow in what is on pace to be the longest economic expansion in our history,” he said during a speech in London.
Despite signs that weaker economic growth could lie ahead, nobody knows with any reliability the exact timing of when we’ll enter the next natural stage of the business cycle or when the market’s dips will lead to larger downturns. But what we do know is that the best time for investors to re-evaluate their appetite for risk—and, if necessary, adjust their portfolios accordingly—is when the market is at or near a high, portfolios are healthy, and minds are clearer. A thoughtful discussion with your advisor when market returns are positive is the best setting to plan for your best financial life.
Live richly and invest well,
Kara Murphy, CFA
Chief Investment Officer
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S&P 500 Index: A broad based measurement of changes in stock market conditions based on the average performance of 500 widely held common stocks. It is a capitalization-weighted, unmanaged index that is calculated on a total return basis with dividends reinvested. The S&P 500 represents about 75% of the NYSE market capitalization.
Russell 2000 Index: This index measures the performance approximately 2,000 small-cap companies in the Russell 3000 Index, which is made up of 3,000 of the biggest U.S. stocks; ; the index serve as a benchmark for small-cap U.S. stocks. .
MSCI Europe, Australasia, and Far East (EAFE) Index: This index is a free float-adjusted market capitalization index that is designed to measure the equity market performance of developed markets, excluding the US & Canada.
MSCI Emerging Markets Index: This index is a free float-adjusted market capitalization index that is designed to measure equity market performance of emerging markets. As of June 2009 the MSCI Emerging Markets Index consisted of the following 22 emerging market country indices: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Israel, Korea, Malaysia, Mexico, Morocco, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand, and Turkey.
Bloomberg Barclays U.S. Aggregate Bond Index: A market capitalization weighted bond index of investment grade U.S. dollar-denominated fixed- income securities.
US High Yield Corporate: The Bloomberg Barclays US Corporate High Yield Bond Index measures the USD-denominated, high yield, fixed-rate corporate bond market. Securities are classified as high yield if the middle rating of Moody's, Fitch and S&P is Ba1/BB+/BB+ or below. Bonds from issuers with an emerging markets country of risk, based on Barclays EM country definition, are excluded.
US Investment Grade Corporate: The Bloomberg Barclays US Corporate Bond Index measures the investment grade, fixed-rate, taxable corporate bond market. It includes USD denominated securities publicly issued by US and non-US industrial, utility and financial issuers.
Bloomberg Barclays Municipal Bond Index: The Bloomberg Barclays U.S. Municipal Index covers the USD-denominated long-term tax exempt bond market. The index has four main sectors: state and local general obligation bonds, revenue bonds, insured bonds and pre-refunded bonds. Gold (spot): Gold price per ounce in US Dollars.
S&P 500 GICS Sectors Level-1: In 1999, MSCI and S&P Global developed the Global Industry Classification Standard (GICS), seeking to offer an efficient investment tool to capture the breadth, depth and evolution of industry sectors. GICS is a four-tiered, hierarchical industry classification system. It consists of 11 sectors, 24 industry groups, 68 industries and 157 sub-industries. Companies are classified quantitatively and qualitatively. Each company is assigned a single GICS classification at the sub-industry level according to its principal business activity. MSCI and S&P Global use revenues as a key factor in determining a firm’s principal business activity. Earnings and market perception, however, are also recognized as important and relevant information for classification purposes, and are taken into account during the annual review process.