Steady As She Goes: The Market Grinds Higher During The Third Quarter With Volatility Nowhere To Be Found
Equity markets continued their steady ascent during the third quarter, as the S&P 500 registered a 4.5% gain. Once again little volatility could be seen. The largest (peak to trough) decline came in under 3%, matching the smallest first 9-month decline in history. As discussed last quarter the absence of market corrections historically has generated positive returns, but also elevates the potential for choppiness during the final quarter of the year. We agree with this assessment. There are many fundamental reasons for strong market returns – accelerating corporate profits, confident US consumers, and coordinated global economic growth. As such, we remain constructive on global equities especially relative to bonds. But, it is not a stretch to question overall investor complacency given elevated valuations, an uncertain political environment (tweets abound, failed healthcare reform, uncertain tax policies) and a tense worldwide geopolitical situation (North Korea, etc.).
The US Economy Is Healthy Despite A Rain Soaked September Jobs Report
The US economy is still a workhorse, despite being in the midst of an expansion spanning 99 months and counting. This marks the third-longest expansion in history and one that could be poised to become the longest. A recent quibble we’ve heard lies within the September jobs report, which saw a loss of 33,000 jobs. This was the first monthly decline in jobs since September 2010, during the early innings of the post-crisis recovery. However, we’d be very careful reading too much into this data point for two reasons. First, hurricanes Harvey and Irma caused major disruptions. Restaurants alone accounted for 105,000 lost jobs as many locations closed. Secondly, the unemployment rate fell to 4.2% which marks the lowest level since the dot-com days around the turn of the century. We’ll withhold judgment on jobs data for a few months to let the effects of the storms wash out.
We’d like to spend a moment discussing International economic growth. US investors can be hyper-focused on the domestic economy, giving little thought to the global picture. We’d advise against this. Global growth is building and expanding at levels not seen in years. For example, the global manufacturing PMI (a broad indicator of economic health) recently hit 53.2, or its highest level since May 2011 and above the US level. Not only is global PMI data at a 6-year high but all 17 major developed and emerging countries are expanding (above 50). This is at a time when international equities broadly trade at lower valuations with higher yields than their US counterparts. We’re not saying there aren’t risks, but we believe more attention to international economies and equities is warranted.
A Calm Year Has Been Welcome, But We Would Prepare For A Bumpier Ride (Just In Case)
Following the turbulence during the second half of 2015 and early 2016, we have been just as pleased as anyone to see 2017’s calm progress. We’re even more pleased by the fact it has been driven mostly by fundamentals and not investor excess. Corporate profits have exited a three-year stall, oil has stabilized at a palatable level and credit spreads have tightened helping companies better manage debt and capital expenditures. Despite these positive developments, we do not expect volatility to stay at record low levels into perpetuity. Trying to time exactly when volatility returns to markets is next to impossible. But, with valuations on the higher end of historical ranges, political uncertainty at elevated levels and threats of war pinging around the ether, we think prudence lies in preparation for higher levels of volatility.
We want to be clear, preparing for more volatility does not mean that we think the world is about to end. We at CIA continue to have a favorable view of global equities, especially compared to a stretched bond market held together primarily by global central banks and low interest rates. We only are using these paragraphs to highlight our belief that record levels of complacency are highly unlikely to continue. We are keenly aware of this and feel the best defense for our worldview is a well-constructed diversified portfolio of stocks and bonds that can withstand any investing climate.
As always, please reach out with any comments or questions you may have.
The Investment Committee
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