2019 Midyear Investment Commentary – Certain Uncertainty

Written by John Cox, CFA, CAIA and Joshua Miller, CFA, CPA, CIPM on July 3, 2019

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The first half of 2019 has been a wild ride! Coming off the fourth quarter of 2018’s significant pullback, markets appeared not to have a care in the world as they tore through the first quarter of 2019. Then, in an abrupt about-face over trade concerns, the market looked like it was plunging back down in May, only to bounce back in June. Such sudden twists and turns after a long period of low volatility have many investors wondering what is next. Unfortunately, no one really knows what will happen next, but we have some opinions that may help us get closer to an answer.

Is a recession likely in the near-term?

The short answer is no. GDP grew at over 3% in the first quarter of 2019, and while current second quarter estimates are lower, full year estimates for 2019 are still in the 2.0%-2.5% range. To put this in perspective, our economy has not experienced annual growth above 3% since 2005. In addition, unemployment is still at 50-year lows, wage growth continues to tick up and the Fed has held a more dovish stance on rates. Most leading indicators give us little reason to believe a recession is lurking around the corner.

Will volatility continue?

Yes! While a recession in the near-term does not seem likely, there is a wide consensus among investors and economists alike that we have firmly entered into late expansion territory. Usually, this period is associated with increased market volatility due to an overall slowing in most growth prospects. Once you add that information with continued trade war woes, a highly controversial U.S. 2020 election and Brexit uncertainty, volatility seems all but definite.

Speaking of trade wars…

Should investors be worried? Yes, but not as much as they think. There is little debate from most economists that tariffs and overall protectionism are bad for the global economy. Until recently, it seemed that the U.S. and China were close to reaching a deal. However, both sides have appeared to dig their heels in recently by escalating tariff threats, not lowering them. While this is definitely concerning, there is still good reason to believe a deal will be reached sooner, rather than later. President Trump’s re-election bid has largely hung its hat on the economy, giving him good reason not to drag out a trade war into 2020. Likewise, China’s economy has slowed since the trade wars began, and economists expect it to slow more if the war continues. This puts significant pressure on both leaders to reach some kind of a deal, if not a superficial one, that each president can take back to their constituents as a “win.” As of late June, there has been some progress on the U.S.-China trade negotiations; however, a comprehensive deal signed by both countries remains elusive.

What do investment returns look like?

While there was a little bit of cool-off in the second quarter, investment returns across all major categories remained positive. For the last three months ending June 30, 2019, U.S. large company stocks (S&P 500) rose by 4.3%, while the Russell Mid-Cap and Russell Small Cap indices also experienced growth, advancing by 4.1% and 2.1%, respectively. International stocks in the developed markets of Europe and Japan, as measured by the MSCI EAFE index, increased by 3.7%, while the MSCI Emerging Markets benchmark appreciated by 0.6%. Declining interest rates caused the bond market to produce a positive return of 3.1%, based on the Bloomberg Barclay’s Aggregate index.

The future of the markets is uncertain as always, but one thing remains constant: for those who have invested in a diversified portfolio and have worked to reach an appropriate risk allocation, we believe they have little reason to worry. Markets go up and down in the short-term, but have stood through much more perilous times than these. In times of high volatility, the patient investor comes out on top.

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