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Following the weakest month since October 2008, the S&P 500 (+12.82%) turned in its best month since 1987 – exhibit A on the perils of market timing.  Diverging fortunes between the dire economic outcomes of the virus and global containment measures relative to stock market performance were on display.  The stock market rally bore the imprint of the unprecedented fiscal and monetary responses from around the world with a strong case to be made that the U.S. Treasury and Fed (married or just dating?) were the most aggressive of the bunch. The massive stimulus measures and clear differences between negatively CoVid-19 impacted businesses and neutral/positively CoVid-19 impacted businesses were the explanatory variables for stock and stock market index performance on the month. It remains to be seen whether the March 23rd low was a tangible bottom or just a mirage but the remarkable relief rally in April certainly puts weight on the former.   

Market Anecdotes

• Nearly $3t in fiscal stimulus combined with massive balance sheet expansion by the Fed put a charge into risk markets. The Fed balance sheet has grown from under $4t to over $6.6t in a matter of five weeks with programs just beginning.
• The Bloomberg WTI Index is off to its worst start on record through April (-74%). The second worst start was -45% in 1986, another year the Saudis ramped up production and we saw infighting amongst OPEC member nations.  
• The 30yr US Treasury total return through April of 28.7% easily outpaces all other years back to 1973. Only 1986 (+23%) was even in the ballpark.  
• US investment grade credit return for April registered the largest return relative to norm (Z-score over 3) of all global assets with U.S. equities a close second.
• Three straight months of record corporate bond issuance and projected $4.5t of borrowing from the U.S. Treasury to fund the fiscal year 2020 deficit has placed significant supply concerns squarely on the market’s shoulders.
• FactSet reported that with 86% of S&P 500 earnings released, blended earnings and revenue are -13.6% and +0.6% respectively. 
• Rapid spreading, inadequate testing, and complicated modeling made balancing public health policy with economic impacts virtually impossible.  Containment measures improved virus metrics as the month wore on, encouraging to markets.
• The highly contagious nature of CoVid-19 (est R number 3 to 4) is at the heart of the problem (Spanish flu R number was 1.8).  An R of 3.5 would require approximately 70% of the population to acquire herd immunity to keep the virus at bay.

Economic Release Highlights

• April’s BLS jobs report was the worst single month on record (20.5mm jobs lost) in what was likely an under-reported tally due to data collection issues. This took the U3 unemployment rate to 14.7% (March 4.4%) and U6 to 22.8% (March 8.7%).
• April’s jobs number beat expectations but that was largely due to a much larger than expected decline in labor participation rate which fell from 62.7% to 60.2%.
• Average hourly earnings surged at a 7.9% annual rate, higher than the 7.7% wage growth registered in 1891 with 10.2% CPI in the backdrop.  This Is due to job losses being concentrated in low wage sectors like leisure and hospitality (50% of losses).
• US PMI fell in April to 27.4 from 40.9 in March, now at levels last seen in October 2009.  Services and manufacturing registered 27.0 and 36.9 respectively.
• Non-U.S. composite PMIs in Eurozone 13.5 (31.4), U.K. 12.9 (36), and Japan 27.8 (35.8) cratered as well.  Services and manufacturing registered EZ (11.7, 33.6), U.K. (12.3, 32.9), and Japan (22.8, 43.7) respectively.  
• April U.S. consumer sentiment (71.8) and consumer confidence (86.0) both fell record amounts in reflection of the CoVid-19 effect.

 

 

Did that just happen? March was a month most investors would prefer to forget, and it officially marked the end of a historic 11-year bull market. While stress levels in most markets didn’t reach 2008 levels of dislocation, the velocity and degree of volatility far surpassed much of what we saw during that crisis. The double barrel of Covid-19 and a crash in crude oil prices drove March 2020 straight to the unenviable record of the most volatile month in stock market history. Nearly everything lost money with the exception of long-term U.S. treasuries. Stocks and commodities lost 20%-30%, corporate bonds lost 8%-20%, muni bonds lost 13% (recovered to -4%), gold stocks lost 15%, and even gold bullion declined slightly.

Having been through severe market cycles several times, we maintained throughout the month and continue to hold a view that portfolios are subjected to two very fundamental risks in times like these. The first risk is that you fail to retain your core portfolio through to the other side. Stated otherwise, it is important, as you stand on the shore, not to focus solely on the waves hitting the shore but to also maintain a firm gaze on the horizon. The second risk is that components of your portfolio become permanently impaired as a result of the dislocation. While the global economic shutdowns and oil price collapse do pose material increases in default risk and remain so today, we feel the strong monetary, fiscal, and other responses to date are serving to manage this risk in most areas.

Ultimately, we will make it to the other side of this pandemic better prepared for the next one and, in many ways, better off than we are now. We can expect vigorous debate about globalization, fiscal spending, healthcare infrastructure, and governmental efficacy in the months/years to come. While we see a lumpy road to recovery and more bouts with volatility over the next few months, we also expect that people will go back to working, spending, and living again soon as the virus fades, more reliable data is gathered, and the economy recovers. Until then, remain strategic, stay nimble, and be well.

Market Anecdotes
• The balancing act between CoVid-19, aggressive containment measures, and economic fallout were the overwhelming drivers of financial and economic contagion during the month.
• Severity of the virus, slow and incomplete testing data, and complicated modeling made managing health policy initiatives with economic policy initiatives virtually impossible to navigate with confidence.
• CoVid-19 developments remained fast moving with cautious optimism slowly emerging toward month end.
• An alphabet soup (PPP, TALF, CPFF, PDCF, PMCCF, SMCCF, MLF, MSLF) of monetary policy programs were announced by the Fed to restore market functioning, liquidity, and lending to businesses and governments. The estimated total of the programs is $2.3T which, alongside unlimited QE, will expand the Fed balance sheet to nearly $11T over the next few months.
• The Fed also made two emergency rate cuts in March totaling 1.50% taking guidance to 0%-0.25%. The average global central bank cut rates by an average of 1.0% last month.
• Congress passed the largest fiscal stimulus package in U.S. history in three phases ($8.3b, $250b, $2.2T) which, alongside declaration of national emergency aid of $50b, total 11.1% of GDP.
• In China, policy makers have pushed required reserves below 10%, the lowest since 2007, and cut interest on excess reserves for the first time since 2008 from 0.72% to 0.35%.
• GDP forecasts are all over the map attempting to forecast terminal activity. Ultimately, 2Q GDP estimates range from -10% to -61%. Assuming shuttered businesses are allowed to resume in May 2QGDP should register -30% but if shutdowns persist into June, it would approach -60%.

For the month of December

Global equity markets followed up a strong November with an equally strong December, rising 3% on the month to close the year up 27.67% on a USD basis.  Emerging markets surged 7.46%, the best performing global equity market, while the U.S. (+2.88%), Europe (+3.91%), and Asia Pacific (+2.21%) all finished the year on strong notes as well.  The yield curve continued to steepen as long rates moved higher while shorter term rates climbed marginally. Commodity markets (+4.85%), particularly oil (+10.25%), benefited from a stabilizing global growth outlook and weakness in the USD (-1.92%). 

Market Anecdotes

• Supportive central banks and signs of global growth stabilization alongside clear indications on Brexit resolution, Phase One U.S.-China trade deal, and the USMCA made for a sound end to the month, year, and decade with hopes for continued momentum into 2020. 
• December’s FOMC meeting produced no changes to policy and made very clear they see no rate hikes on the horizon.  Consensus is no hikes through 2020 and a strong preference for ‘persistent and significant’ moves in inflation before changing course.
• The Fed also made clear that they expect to continue open market operations at least into second quarter in support of (repo) overnight and term lending.
• The PBOC announced another round of stimulus in the form of a reduction in required reserves for the Chinese banking system.  
• Articles of impeachment were delivered by the House, but markets were unfazed. The base case remains House impeachment, no Senate conviction, and a coin toss in November.
• The U.S finished the year and the decade in the midst of the longest expansion on record (126) but was the lowest of the top 10 longest expansions in terms of annualized GDP growth.
• The 2019 return for the S&P 500 (+31.5%) was a banner year by any measure, nearly three times the historical 12mo average BUT the two-year return is less than 2% above average.
• Bianco research noted the percentage of OECD CLIs over 100 (LT average) has turned notably higher (15.8%) in October, including each of the G3 economies for the first time since July 2017.
• Refinitiv Lipper reported $135.5b in equity mutual fund/ETF outflows YTD through mid-December, on pace to maintain the trend of seven consecutive quarterly outflows.  2019 is on pace for the largest outflow on record (data to ‘92).

Economic Release Highlights

• December’s inflation readings included headline/core CPI of 2.1% and 2.3% and headline/core PCE 1.5% and 1.6% respectively.
• December’s ISM Non-Mfg Index of 55.0 and ISM Mfg Index of 47.2 were a mixed bag. It was the lowest Mfg level since June 2009 but Svcs exceeded expectations. The ISM Composite blends to a moderate growth reading of 54.1, up over the prior month of 53.3.
• S. PMIs of 52.2, 52.4, and 52.8 (C, M, S) paint a more constructive overall picture, largely meeting expectations and making the case that modest improvement is the domestic trend.
• Composite global PMI data moved higher in December with both DM (50.8) and EM (51.0) improving from last month. 
• The December jobs report showed payrolls increasing by 145,000(a) v 158,000(e), with the unemployment rate remaining steady at 3.5%.  U-6 unemployment hit a record low (data to ‘94) for Dec. of 6.7% and for the first time in 10 years, the number of women in the workforce exceeded men by 109,000.
• Average hourly earnings of 2.9% were slightly below consensus calls for 3.1%.
• November new home sales of 719k slightly missed expectations but are at their highest levels in 12 years, a large factor driving 20-year record high homebuilder sentiment indicators.
• Housing starts and permits for November continued their sharp acceleration, now both at 12-year highs.
• The December housing market index surged well beyond consensus (76 v 70), marking a new 2019 high.
• December’s consumer confidence reading came in at 126.5, slightly below the consensus estimate of 128.  UofM consumer sentiment of 99.3 came in as expected, a healthy reading to close out the year.

We entered October with ‘huge’ trade dispute concerns, ISM numbers at GFC levels, over 50% probability of two Fed rate cuts before year end, and tangible pessimism in both earnings and sentiment.  We exited October with the market breaking out to new record highs, one courtesy rate cut, firming fundamentals, and the global economy seemingly on a low but stable path forward. The combination of healthy financial conditions (rates, spreads, equity markets, liquidity) and a tangible reduction in geopolitical risks (Brexit, Trade) set the stage for risk markets finding their footing.  The outlook remains relatively constructive while policy stimulus continues to work its way into the global economy.  

Market Anecdotes

• The FOMC cut rates by 25bps in their October meeting to the 1.50%-1.75% range with a relatively upbeat overall economic assessment highlighting strength in the labor market and household spending offsetting weakness in exports and business investment. 
• Probability of a 25bps cut in December fell from over 50% to 11% during the month as the outlook stabilized.
• For the month of October, performance was extremely broad-based as virtually every US and international equity index was up on the month (with the exception of Canada) .
• Larger caps and riskier (no yield, high short interest, high priced) segments led the market in October.  The S&P 500 was up over 2%, but the average stock was up just 1.19% as the largest stocks pushed cap-weighted indices higher, meaningfully outperforming smaller stocks.
• International stocks outperformed domestic stocks, a trend we’ve been noting lately.  Stocks in the S&P with the highest international revenues gained 3.3%, while the bottom decile (low or no international revenue) underperformed or lost ground on the month.
• Currency movements factored into U.S. versus international asset performance as the Bloomberg US Dollar Index fell nearly 2%, its worst monthly performance since January 2018.
• The UK parliament approved December 12th elections where the Conservatives hope to win majority in order to approve the Brexit Agreement prior to the January 31, 2020 deadline.
• Markets have calmed meaningfully on the U.S.-Sino trade dispute as both parties edged closer to a ‘partial Phase 1’ deal in lieu of a larger scope deal.
• Bianco research pointed out that, for the first time in the post-WW2 era, the U.S. has the highest developed-world interest rates across the yield curve (FF, 3m, 10yr, 30yr).  Only the 30yr UST is over 2% and half of the developed world rates are in negative territory.  
• The second longest bull market on record marked new highs in October at over 3,890 days.  In order to top the 1987 –2000 bull market in terms of length or strength this bull will need to run through July 2021 and rally more than 50%. 

Economic Release Highlights

• Q3 GDP came in at 1.9%, down slightly from 2Q’s 25 level supported by a healthy 2.9% consumer spending rate and residential investment (5.1%) provided a boost for the first time since Q117.  Non-residential fixed investment fell 3% in a troubling sign for business investment and manufacturing.
• September’s PIO report had core PCE at consensus 1.7% (headline 1.3%).  Income moderated to 0.3% with wages & salaries pretty soft while personal consumption came in as expected at 0.2%.
• October’s employment report was solid at 128,000 jobs (3.6%), which is on the high side of the consensus range and came with notable upward revisions to the prior two months.  Wage pressures remained benign.
• Average hourly earnings in the October jobs report of0.2% MoM and 3.0% YoY alongside the Q3 Employment Cost Index of 2.8% are not indicating any stress in labor capacity at this time.
• October PMI (51.3) and ISM (48.3) manufacturing surveys showed improvement over September.  The PMI has improved sequentially off August’s 10yr low reading and remains less daunting than ISM survey which showed improvements in new orders and exports but material weakness in backlogs and production.  
• October housing market index jumped 3 points to 71 (68 expected) in a sign that low mortgage rates are positively influencing homebuilder sentiment.

The August Narrative     

The dog days of August were anything but sleepy, dominated by three “T’s” – trade, tariffs, treasuries.  Brexit, trade, Hong Kong and the economy moved markets in an up/down fashion throughout the month. U.S.-China trade war ‘tariffied’ markets, driving volatility and raising questions as to if and when the disruption risks pushing global economies into recession.  From the start of the month to the end, we saw ten rallies of 1% or more separated by nine declines of 1% or more. As bad as the month felt, equity markets ended down only slightly while bond yields fell sharply. U.S. (-1.8%), developed international (-2.6%), emerging markets (-4.9%), and commodities (-6%) ended in negative territory on the month but global stocks remain up 8.8% YTD. A strong rally in long bonds pushed the 2yr/10yr slope closed into negative territory for the first time in over ten years. 

Market Anecdotes

• Market behavior over repeated cycles of tough trade talk followed by can’t we just be friends (ie ‘trade war’) has become clear.  USD up, spreads up, VIX up, curve flattener, and equities down on a bad day.  USD down, spreads down, curve steepener, and equities up on a good day.
• An early August equity market washout saw the S&P 500 give back 40% of its gains in six trading days. Monday 8/5 saw S&P 500, Nikkei 225, STOXX 600, and CSI 300 finish with only 63 stocks collectively up for the day – less than 4% of over 1,600 stocks.
• The early August trade tit for tat saw 40% of the S&P 500 YTD gains disappear in six trading days.  
• August saw Brexit go from imminently ‘hard’ to spectacularly squashed.  PM Johnson moved to suspend Parliament in a tactic that backfired as Parliament mandated an EU exit without an agreement requires Parliamentary approval and they shot down snap elections the PM sought.
• A relief valve presented itself in the Hong Kong protests as CEO Carrie Lam agreed to withdraw the extradition bill at the root of all the protests. 
• The run on treasuries pushed yields to all-time lows and the yield curve slope into (and deeper into) inversion.  The 30yr UST fell below the S&P 500 dividend yield for the first time since March 2009.

• The 3m/10yr inversion entered its fourth month and notched new lows (-0.50%), sitting solidly in compelling territory as it speaks to Fed policy. The 2yr/10yr became inverted briefly in August for the first time in over 10 years sparking questions around the future economic outlook.
• A 30yr TIPS auction settled at 0.501%, down significantly from the last auction’s 1.091% (Feb) and the lowest since 2012. YTD through 8/20, long-term treasuries were up over 20% for the first time since daily data became available in 1987.
• August left the U.S. as the highest yielding developed market government bond issuer (save Singapore) and Germany saw their entire yield curve moved into negative territory.
• July’s FOMC minutes portrayed a divided Fed not quite ready to commit themselves to further rate cuts despite expectations priced into the financial markets. They viewed the July cut as a mid-cycle ‘adjustment’ rather than the beginning of a rate cut cycle.
• Fed funds futures are currently pricing in an 88% probability for a 25bps rate cut at the upcoming September 18th FOMC meeting.
• The current third quarter Atlanta Fed GDPNow forecast is 1.9%.
• The August backdrop of a strong USD, falling commodity prices, volatile trade talk, and an Argentinian (-41%) move backward toward Peronism made for a rough month across emerging markets.
• The annual Jackson Hole central bank symposium served to soothe markets.  Powell’s speech was viewed with an easing bias but other narratives worked to calibrate the market’s policy rate expectations.  
• An August $200b downward revision in corporate profits and a -500,000 revision in jobs data (year through March) from the BLS served to bolster Fed doves and seems more consistent with trends in household surveys’ showing weaker readings in employment. 

Economic Release Highlights

• The August employment report missed expectations (130,000 v 163,000) but held steady at 3.7% unemployment. Private payrolls only managed 96,000 which is 40,000 short of the low estimate while tight labor markets contributed to a healthy .4% wage growth (3.2% YoY).
• July’s JOLTS report was mixed from a Fed perspective with lower job openings (7.217mm) offset with a sharply higher quit rate (3.592mm).
• Headline and core PCE inflation of 1.4% and 1.6% respectively came in very tame while income growth of 0.1% remained very subdued.
• August headline and core CPI came in at 1.7% and 2.4% respectively. YoY and MoM (0.3% v 0.2%) core readings both beat expectations and are at expansion highs. 
• PCE consumer spending jumped 0.6% MoM with strength across both durable and non-durable categories.
• August ISM Manufacturing index missed expectations (49.1 vs 51.3), a fifth consecutive monthly decline and end to a 35 month >50 streak – the longest >50 streak since February 2008.
• August ISM non-manufacturing index registered its best reading since May and easily surpassed expectations (56.4 vs 54.0) highlighted by strong breadth and a jump in new orders.
• U.S. August flash PMI (50.9, 50.9, 49.9) saw the manufacturing reading fall into contractionary territory which hasn’t happened since the GFC. However, the report internals and regional Fed surveys both remain stronger than ‘12 and ‘15 mid cycle pullbacks. 
• Global August flash PMIs were largely unchanged with Japan (51.7, 53.4, 49.5) and EZ (51.8, 53.4, 47.0) holding onto expansionary service sector and sub-50 manufacturing readings. 
• August consumer confidence reading weathered stock market volatility and trade wars very well, beating consensus (135.1 v 130).  An example of consumer resilience, the current conditions component jumped 6 points to 177.2, a 19-year high.
• UofM consumer sentiment registered a disappointing 89.8, well below expectations (92.3) and the lowest reading since October 2016.

With an S&P 500 gain of 18% in the first four months, 2019 ranks as the fourth best start to a year on record and is one of only 15 times since 1950 with four consecutive positive months to begin the year.  Key events on the month included kicking the Brexit can again down the road, Q1 earnings calls, central bank policy decisions, and China trade/credit stimulus developments. Relative economic strength in the U.S. bolstered the US dollar for the month, now up over 6% in the prior year.  Strong earnings in Europe and building credit impulse in China drove non-U.S. risk markets higher as well. Global economic manufacturing momentum remained lackluster while both monetary and fiscal policy were supportive.

Market Anecdotes

• FOMC voted 10-0 to keep rates on hold at 2.25-2.5% noting patience and muted inflationary pressures.  Powell’s presser made clear rate cuts were not the Fed’s next step.
• Q1 earnings season has been fairly constructive. Estimates started at -4.8% and are sitting today at only -0.8% with beat rates of 65.9%/55.6% (earnings/revenue).  Forward guidance has been flat while outlooks have skewed notably to the positive.
• The EU voted to extend Brexit “only as long as necessary”, but no longer than October 31st.  Also, the UK must hold elections on May 23rd for the European Parliament. If they do not, they will ‘hard exit’ the EU on June 1st.  
• Stoxx 600 (Europe) earnings and sales are +17.5% and +4.3% respectively with financials (+57%) as the upside outlier and real estate/energy on the downside.
• Aggregate credit in China rose by 11.6% or RMB 8.5 trillion ($1.3 trillion U.S.).  Chinese credit stimulus is on.  BCA noted the Chinese credit impulse tends to lead both mainland China and the global manufacturing cycle by approximately 9 months.
• U.S.-Sino trade negotiations progressed in April, but a resolution remained elusive.  Difficult to tell whether POTUS saber rattling in early May is a negotiating tactic or signaling a true impasse.
• An Arbor Research keyword scan of earnings transcripts noted the high frequency of ‘wage and price increase’ comments which is a good reason to monitor the pivot from soft data point to hard data observation very closely.
• Ryan Detrick from LPL noted that periods where new highs took place with a six month or more gap in between, returns over the next 12 months averaged 12.9% and 17 of the 18 periods recorded a positive return.
• The average stock was up 3.54% in April with valuation factors fairly pronounced.  The lowest P/E stocks (+6.52%) handily outpaced the highest P/E stocks (+1.37%).
• High yield spreads bottomed in middle April and have trended sideways to slightly higher since (S&P up 1.2% in that timeframe).  This may be an indication of profit taking in high yield which is off to its sixth best start to a year since 1987 (+7.4%).

Economic Release Highlights

• Q1 GDP posted a very solid 3.2%, well above the 2.3% consensus and best Q1 in four years.
• March headline/core PCE came in at 1.5%/1.6% YoY increases, respectively.  March consumer spending beat expectations, increasing 0.9%.
• March retail sales came in strong at 1.6%, beating expectations (+0.8%) and posting the best reading since the GFC. The March result offsets the 1.6% surprise decline in December.
• April’s ISM Manufacturing Index registered its weakest reading in 2 years at 52.8 (-2.5) while the ISM Non-Manufacturing Index of 55.5 came in below consensus.  ISM combined was 55.2, the lowest reading since the 2016 election.
• The April U.S. PMI Manufacturing Index increased 0.2 to 52.6.  Global Manufacturing PMIs improved slightly to 50.4 (DM 50.7, EM 50.2).  Year ago levels were 53.8 (DM 55.6, EM 52.0).
• The April employment report was goldilocks. The unemployment rate fell to 3.6%, the lowest since December 1969. Importantly, wages stayed flat at 0.2%/3.2% MoM/YoY.
• Labor market tightness remained evident with low levels of available workers (10mm @ record low).  
• The Conference Board’s Consumer Confidence index registered 129.2, beating calls for 127.1 with a notable jump from the March 124.2 reading.  This is more than 8 points off its high, but still well above the long-term historical average of 95.0. 
• March new homes sales of 692,000 was the best reading since November 2017, likely propped up by falling rates as 30-year conventional mortgages fell from 4.64% in December to 4.27% in March. Pending home sales +3.8% handily beat expectations for 0.7%, pointing to a good start for housing in the second quarter.
• The MBA mortgage home purchase applications report hit a nine-year high.

March followed up the best two-month start for the S&P 500 in 32 years with a bow on top of the best quarter since Q3 2009.  Global equity markets were led by the U.S. (1.8%), India (9.2%), and China (2.4%) but overall global equities (0.6%) where tempered due to weakness in Germany (-1.4%), Turkey (-14.9%), and Brazil (-3.8%).  Oil moved sharply higher on the back of a strained global production backdrop (Venezuela, Iran, Saudi) while small caps and financials lagged – the latter due primarily to the late-March U.S. yield curve inversion.  Politics remained a bit worrisome as U.S.-China trade negotiations continued but with slow progress and scant details while U.K. Brexit plans were again rejected by Parliament with a mid-April deadline looming. Global bond markets rallied (yields fell) sharply on renewed central bank dovishness and the overall global growth concerns.  

Market Anecdotes

• The 3m/10yr yield curve inverted in March, garnering significant attention as a forward predictor of recession. A bull flattener of this nature is indicative of the Fed thinking hort rates are fine but market signaling declining growth and inflation risk premiums longer term.  
• While it’s true that every recession since 1962 has been preceded by a yield curve inversion, not every yield curve inversion has been followed by a recession.  Whether and how long the curve remains inverted will be closely watched.
• British PM May’s Brexit withdrawal agreements have failed in Parliament three times as did several (8) non-binding ‘indicative’ votes on alternatives including remain in the EU Customs Union, hold a second referendum on Brexit, and revoke Article 50. The EU is to decide on a second extension shortly which may push things out to June 30th or even later.
• U.S.-China trade negotiations are increasing looking outcome oriented, not time oriented which is both a positive (result) and negative (lingering uncertainty).  China’s equity marke rebounded nicely in Q1 which signals reduced risks of a hard landing.
• The Fed kept rates steady at 2.375%, projected no more rate hikes in 2019, reduced their 2019 growth forecast (2.1%), and announced a tapering of the balance sheet normalization program with a conclusion by September – much sooner than anticipated.
• The pace of Chairman Powell’s pivot from a hawk last October to an outright dove in March has been remarkable. Fed funds futures markets have taken it further, now pricing in over 50% odds of a rate CUT in 2019.
• The February NFIB small business survey had a record high 10% of companies cite labor costs as their most important problem.  Labor shortages were also noted as 22% (near record high) of companies cited labor quality as their most important problem.
• A report by Goldman Sachs noted 2018 S&P 500 stock buybacks jumped 52% to $819b with expectations that figure will grow to $940b in 2019.  Business capital expenditures also increased 13% last year to $1.1 trillion with expectations for 9% growth to $1.2t in 2019.

Economic Release Highlights

• Most recent headline and core PCE inflation readings of 1.4% and 1.8% respectively raised no eyebrows and probably supports the dovish tone from the Fed and markets.
• PCE consumer spending (0.1%m/m) didn’t bounce off depressed December levels as hoped and PCE personal incom remained subdued at 0.2% in Feb.
• The March employment report registered 196,000 new jobs, a 3.8% unemployment rate, 0.1% wage growth (3.2% annual), and a slight draw down in the pool of available workers to 11.4mm.
• March non-manufacturing ISM index softened more than expected to 56.1 coming off a three-point surge in February. The ISM manufacturing index came in at 55.3, rising and beating expectations – an encouraging result.
• The February retail sales report slipped 0.2%MoM, below the low end of expectations but January was revised sharply higher to a very solid 0.7% gain.
• Most recent consumer confidence reading of 124.1 was far short of expectations thanks to deteriorating views of the economy and wage growth while consumer sentiment jumped to a 6-month high of 98.4, reflecting favorable current conditions and forward expectations.
• Recent housing market data was mixed with declining starts (-8.7%) and permits (-1.6%) offset by surging existing homes sales (+11.8%) and new home sales (+4.9%).

February capped the best two-month start for the S&P 500 in 32 years, +11.1%.  Key drivers were anecdotal progress on U.S.-Sino trade negotiations, renewed dovishness from the Fed, and a decent wrap on Q4 earnings.  Stock and bond markets alike delivered positive returns with the only exception being long duration and non-U.S. bonds due to interest rates and the U.S. dollar moving higher.

Market Anecdotes

• Investors welcomed yet another delay in raising tariffs with U.S. officials citing significant progress being made.   Mainland China A-shares rose over 15% in February on the news.

• Brexit’s March 29th deadline drew closer and, as of this writing, an extension or possible second referendum look like the most likely outcomes.

• The first two months of Q1 saw a 6.5% cut to Q1 S&P 500 earnings estimates.  Average front two-month guidance over the past 10 years has trimmed estimates by 2.6% each quarter.  negative guidance outpacing positive guidance by a 2 to 1 margin.

•  U.S. equity market breadth reached impressively high levels during the month when cumulative Advance/Decline made a new record high, percentage of stocks above 50/200 Day Moving Avg spiked, as did the percentage of stocks at new 52-week highs.  The equal weight S&P 500 is outperforming the market cap weighted S&P 500 by nearly 3% year to date.  Robust breadth is evident in Europe as well with the Stoxx 600 A/D soaring to levels frequently seen over the past 5 years.

• The EU reduced its 2019 GDP estimate from 1.9% to 1.3% wherein Italy’s projection fell from 1.2% to 0.2% growth.  An ECB board member floated the idea of another round of loans to banks in advance of next year’s TLTRO maturities, indication that the ECB spigots may open back up again.  The European Commission expects a positive fiscal thrust across the Eurozone of 0.40% of GDP in 2019, up from 0.05% in 2018.

Economic Release Highlights

•  4Q GDP revealed solid 2.6% growth (2.9% 2018).  2018 GDP matched 2015 as the highest growth years since the GFC. Consumer spending grew 2.8%, despite December’s disastrous retail sales figure, but softened from Q2/Q3 (3.5%, 3.8%).  Robust 6.2% business spending was offset by weak residential investment (-3.5%), a fourth consecutive quarterly decline.

•   February NFP had the unemployment rate at 3.8% (16yr low) but added only 20,000 jobs, far below the 175,000 expected.  The government shutdown and severe weather likely factored into the alarming headline number.  We remain in the midst of a record 209 weeks of jobless claims under 300k and 100 consecutive months of job creation.  We have more job openings than job seekers and increasing wages.

•  The February ISM Non-Manufacturing Index jumped 3.0 to 59.7 on the back of strong export demand and new orders.  Service exports are a big component of the U.S. economy.  The ISM Manufacturing Index dropped 2.4 points to 54.2, missing estimates.

•  February headline and core CPI (1.5%, 2.1%) both came in at consensus.  Soft housing and medical prices contributed to the report which probably doesn’t sound any alarms with the Fed.

•  January retail sales increased a mere 0.2% but both core readings (ex-auto/gas 1.2%, core 1.1%) posted strong rebounds off the outlier weak December of -1.6%.

•  February housing starts spiked 18.6% MoM aided by an increase in single family starts of 25.1%.  This was the biggest monthly increase since March 1979 and the third largest on record.

•   New Home Sales jumped 3.7% in December (621,000 annualized), a strong monthly number while January Existing Home Sales (-1.2%m/-8.5%y) came in on the low end of consensus range despite discounted prices as median prices fell 2.8% to $247,500.

•  February EZ PMI Composite improved slightly to 51.9, PMI Services moved up to 52.8, a 3mo high, and business confidence measures moved up to a four-month high.  EZ January Retail Sales also improved to 1.3%m/2.2%y levels from a slump in December.

•   February consumer sentiment bounced back to 93.8, up from the government shutdown window but still 4.5 short of December levels.  Of note were sizable decreases in 1yr (2.6%) and 5yr (2.3%) inflation expectations.

•  February NFIB Small Business Optimism (101.7 v 102.5) didn’t bounce back as much as hoped from the large drop in January (-3.2) due to the government shutdown and trade conflict. 

Equity markets rebounded sharply in January after the sharp December decline.  The S&P 500 is now up approximately 17% from the December lows and credit spreads are trading back near mid-November levels.  An early January pivot by the Fed, progress on China trade negotiations, and some modest improvements in macro bellwethers were the primary drivers.  Interest rates moved slightly lower, but commodity markets rallied in sympathy with global risk markets. Energy, grains, industrial metals, and precious metals all posted strong gains in January.  Crude oil was +18% on news of non-U.S. production quota progress.

Market Anecdotes

• An early January Fed change of heart on 2019 interest rate hike expectations and softened language surrounding the balance sheet unwind both factored largely into the market relief rally that ensued throughout the month.
• Fed officials made clear that revisiting both pace and scope of Fed balance sheet reduction is very much under deliberation which markets applauded.
• U.S. – China trade negotiations continued throughout the month with a looming March 1st deadline for additional 25% tariffs on $200b of Chinese imports.  Signs of progress are evident, but March 1st deal is seen as unrealistic. Post deadline parameters remain unclear, but a time extension seems to be the most likely path.
• A recent Strategas analysis suggested 2019 incremental fiscal stimulus of $122b and, depending on the range of outcomes, incremental 2019 tariff (tax) projections of $50b-$215b.
• Q4 reported earnings are coming in solidly mid-teens, a fifth consecutive double-digit quarter, and we are seeing the earnings beat rate approaching 70% (just below normal).  
• Very notable is the significant downward Q1 and 2019 calendar year guidance. Because, excluding energy market crashes, earnings recessions (two consecutive negative quarters) typically precede economic recessions, this warrants careful monitoring.  
• U.S.-EU negotiation are set to heat up with a Commerce Department auto trade report due on 2/17.  The ensuing 90-day negotiation window is expected to become more of a tangible market concern as progress (or lack thereof) becomes more evident.
• Another U.S. government shutdown came and went, this time setting a record for duration of 34 days.  Border wall funding was the sticking point and a mid-Feb deal looks imminent.
• A mid-January Brexit vote in the UK Parliament failed handily, leaving the path forward uncertain with a March 9th deadline looming.  Deadline extension, new referendum, Article 50 withdrawal, and ‘hard Brexit’ all remain in play with a kick the can down the road (extension) the most likely/preferable.
• Credit markets mirrored the equity market recovery with high yield spreads plummeting from a high of 544 (near long-term averages) down below 430 during the month.
• ICI mutual fund flows confirmed the retail market ‘capitulation’ we felt was occurring in late December with data showing mutual fund outflows across all major asset classes surpassing what we saw at the depths of the 2008/2009 GFC.

Economic Release Highlights

• January CPI came in straddling the Fed’s 2% target with headline and core registering 1.6% and 2.2% respectively. Headline CPI was unchanged for a third straight month, with energy prices keeping a lid on price changes. 
• January payrolls surged 304,000, far surpassing expectations.  The unemployment rate increased to 4% thanks to government shutdown and increasing participation rates. Average hourly earnings were +0.1% in January and remained unchanged year-over-year at 3.2%.
• The January ISM Non-Manufacturing index registered 56.7, right on consensus and one point lower than December but properly categorized as a healthy growth reading.
• Markit U.S. manufacturing and Services preliminary January PMIs were healthy at 54.9 and 54.2.
• January Global PMI (50.7) confirmed continued weakness overseas with Eurozone (50.5), Germany (49.9), China (48.3), and Japan (50) all teetering on contraction territory. Europe weakened for a sixth consecutive month, now at its lowest levels in 6 years. A constructive reading from the U.S. (56.6) has been the hallmark of the global economy over the past 2 years.
• The January U.S. housing market index (58) beat consensus estimates, posting its first increase since October and only the second increase since May 2018.

A small rebound in November was followed up with the worst month since February 2009 and the worst December since the Great Depression.  Early December constructive G20 meetings regarding U.S.-China trade negotiations were followed up with a “Tariff Man” tweet (trade), a persistent Fed (rates), EU budget standoffs (policy), Brexit concerns (policy), European protests (policy), slowing Chinese GDP (growth), negative earnings guidance, and an oil bear market taking most global equity markets well into bear market territory and the U.S. equity market to its biggest correction since 2011.   Interestingly, in a highly volatile month, it was emerging markets that provided the greatest protection. A strong December jobs report and a dovish Fed in early January led to a nice rally but many questions linger.

Market Anecdotes

• The Fed delivered a ‘dovish’ 0.25% rate hike in December which was clearly not seen as ‘dovish’ enough by the market and walked back 2019 rate hike forecasts from 3 to 2.
• It seems clear that the interest rate the economy can take is higher than what the financial markets are comfortable with.
• The duration of U.S. stock market corrections in 2011 (109 days) and 2015 (184 days) were similar in magnitude but took place over a much longer time frame than 2018 (63 days).   
• December saw the gap higher in credit spreads lead to the first month of $0 high yield issuance since November 2008.   Additionally, the U.S. leveraged loan market experienced the worst monthly performance in over seven years.
• Leveraged loans experienced significant retail outflows in December despite U.S. loan default rate falling to a 13-month low of 1.61%.  The (ETFs) most liquid names were sold as the 100 largest names in the S&P/LSTA LL Index lost -3.16% vs. the broader index at -2.54%.
• The ECB halted net QE purchases at the end this month but said they will maintain reinvestment past the date of the first rate hike which isn’t expected to until 2020 at the earliest.
• Tariffs have had little inflationary impact thus far.  Tariff collections have grown from $3b/mo (Feb) to $6b/mo (Nov).  However, tariff costs, which have averaged 0.15% of GDP and 1.5% of total imports, have grown to 0.3% (2x) and 2.3% (1.5x) respectively – a relatively small figure.
• Since March 2018, China’s exports to the U.S. have risen by $2.6b/mo (7.2%) while China’s imports from the U.S. have fallen $4.7b/mo (-34.2%) leaving China’s trade surplus with the U.S. at its widest level ever – not the intended result of the tariff policies.  
• The U.S. and China announced a 90-day tariff truce after the G20 meetings in early December.
• China’s hand is weakening.  They registered only 6% GDP growth, a 49.7 PMI reading, a 15yr low in retail sales (8.1), and a 10yr low industrial production (5.4%).  
• PBOC 2019 rate cuts are on the table after four cuts to bank required reserves 2018 and one in early January. China also cut taxes to unleash approximately $188b in fiscal stimulus.
• Chinese credit impulse has begun to move up, meaning credit is slowing at a diminishing pace.  Typically, this indicates a bottoming in Chinese growth with a possible bounce in commodity prices, EM out-performance, and a softening of the U.S. dollar.
• Strategas estimates $598b of repatriated earnings in the first three quarters of 2018 and between $200-$250b next year.  YTD buybacks and dividend increases total $217b, leaving notable dry powder for wages, mergers, investment, pensions, and debt reduction.

Economic Release Highlights

• The December U.S. jobs report far surpassed expectations (180,000) with payrolls expanding 312,000 – the biggest beat since June 2009 and among the strongest of the whole expansion. Unemployment climbed 0.2% to 3.9% due to a welcomed increase in the number of people seeking work – labor force participation rose to 63.1%, the highest mark since 2013.
• Average hourly wages grew 0.4%m/m, 3.8% 3m/3m, and 3.2%y/y which are the hottest readings since December 2017. The month over month growth rate has been annualizing over 4% the past two months.
• The November JOLTS reported a welcomed reduction in job openings of 6.888mm but there remains 870,000 more openings than those actively seeking work. That figure is down from a record 1.096mm in August.
• December CPI fell slightly to 1.9% due to lower energy prices and core CPI remained steady at 2.2%.  These tame consumer prices certainly did not raise any urgency at the Fed.
• December’s ISM Non-Manufacturing Index show some welcomed moderation, easing 3.1 points to 57.6.  We saw the second strongest new orders reading (62.7) of the past 8 years, particularly from foreign demand, and business activity cooled 5 points to a still lofty 59.9.
• December’s ISM Manufacturing fell over 5 points to 54.1, the lowest showing since December 2016.  Weakness was clear in new orders (51.1) and across the energy sector.  We view this reading with slight caution but ultimately is one of ‘easing strength’.
• Global December PMIs were released for Manufacturing (51.5) and Services (52.6), both are down from one year ago levels of 55.2 and 54.9.  10 of 30 readings are in contraction territory which is up from 8 in November and 2 last year. 
• December’s Conference Board Consumer Confidence survey fell sharply to 128.1, missing consensus estimate calls for 134.  The weakness was pronounced in the expectations components more so than current conditions.