July was kind to the domestic equity markets as the major indices all advanced meaningfully. The S&P 500 and the Dow Jones Industrial Average were up 300 basis points or better. The NASDAQ which has lead markets higher all year was up almost 250 basis points for the month. While it may not feel like it the S&P 500 is on track to post normal annualized gains in 2018. All three major indices are positive year to date: S&P 500 index up 5.34%; the NASDAQ up 11.13%; The Dow is up 2.82%.
Global equity markets also improved on the month but are negative for the year the MSCI EAFE index (Europe, Australia, and the Far East) is down just over 2% and the Emerging Markets index is down mid- single digits. These returns pale in comparison to last year and have a lot to do with the dollar strengthening and currency fluctuations.
The broad domestic bond market stood still in July and returns continue to be negative for the year. Returns on high yield and money market investments continue to improve and are slightly positive year-to-date. The yield on the 10-year Treasury continues to flirt with 3%. Global bond returns are also flat to negative for the year.
During July money rotated into the Health Care and Financial sectors both of which have been middle of the pack performers all year. Health Care was the best performing sector up over 6% for the month; the positive performance is welcome given the difficulty many biotechnology and pharmaceutical stocks have suffered all year. Industrial stocks also did well but were somewhat volatile because of tariff and trade war saber rattling. Technology stocks also did well for the month posting close to a 5% gain. Consumer Staple issues recovered a bit but continue to lag along with Telecommunication stocks for the year.
In a turnabout Value stocks outperformed Growth stocks for the month – by approximately 50 basis points. That said Growth stocks (think technology) continue to handily outperform value stocks (think telecommunications and consumer staples) by a wide margin. Through the end of July, the S&P 500 /Citigroup Growth index is up north of 10%; the S&P 500 Citigroup Value index is up .30%. As of now we think the short term move towards value issues is temporary and growth stocks will continue to post better performance through 2018.
Currently, three big issues, in our view, are driving the domestic capital markets – 1) Q2 earnings 2) monetary policy and 3) tariff and trade war talk (and action). The earnings season is 80% complete and results continue to be excellent for investment management. An unusually large number of companies have beat both earnings and revenue estimates. Earnings for the S&P 500 look to be strong into next year.
Economic news continues to be good but not too good meaning growth is picking up (stronger GDP) with inflation still being relatively mild. Two more interest rate hikes are anticipated this year - one in September and one in December. The Federal Reserve continues to signal its intentions unambiguously. The only negative is continued concern in some quarters about the flattening yield curve. In aggregate both monetary policy and earnings are constructive for the capital markets.
Current trade tensions are a wild card for the capital markets. To an extent the markets have gotten use to the headlines but potential unintended consequences present uncertainty. We can’t accurately predict an outcome but the information we are getting from our research providers indicates that currently the U.S. has the upper hand in negotiating with China. To that end we have included as attachments three research pieces we received during the last week. The first is from Johnson Smick International – this is the piece Kelly sent out Thursday and frankly is nothing we had heard in the popular press. The second piece is from Laffer Associates and argues why China currently has more to lose in a trade war with the U.S than the U.S does. If nothing else, try to digest Figure 1 and Figure 6 - the two together may confirm your beliefs about the Chinese economy but also provide context and perspective. The final piece is from TrendMacro (Don Luskin) and confirms there really is a strategy to all this talk. At a minimum read the “Update to strategic view” on the right-hand side of the front page.
Finally, to provide some context: the U.S. and China are the two largest economies in the world. U.S. GDP is around $20 trillion (23% of world GDP); China $14 trillion (16% of world GDP).
Major market index returns year-to-date thru July were as follows:
S&P 500 5.34%
Dow Jones Industrial Average 2.82%
Barclay’s Aggregate Bond Index -1.59%
High Yield Bonds 1.25%
3 Month Treasury Bill 1.01%
MSCI EAFE (International Equity) -2.18%
Emerging Markets -6.13%