State of the Markets
The momentum of 2019 continues. Every asset class had positive performance in the second quarter which lead to significant gains for the first half of the year.
As of the end of June, the U.S. stock market (Russell 3000) increased 4.1% for the quarter and 18.7% year-to-date. International developed markets (MSCI World ex USA IMI) returned 3.5% for the quarter and 14.4% year-to-date. While emerging markets (MSCI Emerging Markets IMI) were essentially flat for the quarter, they still had a significant return of 10.2% for the first half. Publicly traded real estate (S&P Global REIT) was up 1.3% for the quarter and 15.5% year-to-date.
The bond market has continued to adapt to the Federal Reserve’s pivot from hawkish to dovish (more on that later). Yields have continued to go down and the return for the U.S. bond market (Bloomberg Barclays U.S. Aggregate Bond Index) has been significant – 3.1% for the quarter and 6.1% year-to-date.
The total returns for major asset classes are below.
The Fed, the Markets, and Soft Landings
It is remarkable how dramatically the markets have reacted to actions of the Federal Reserve, and vice versa. According to some market pundits, the stock market was predicting a recession in late 2018 and the bond market’s inverted yield curve is predicting one now. The relationship between the Fed and the markets is complicated and deserves a more nuanced explanation. Let’s imagine the Federal Reserve, the Stock Market, and the Bond Market sitting together at a bar.
Fed: The economy is doing great and we really want to normalize rates. We can’t raise short-term rates high enough or fast enough.
Bonds: That’s why our rates are going up as well.
Stocks: We don’t like it. You are being too aggressive and there’s a chance you’ll overdo it. Have you looked at trade? Have you looked outside the U.S.? Higher rates can take us all down.
Fed: We need to be independent and make our own decisions. We won’t follow the advice of the President or react to the markets.
Stocks: Hold my beer while I go down 20% and test that premise.
Fed: Ah…. upon reflection, we are willing to be more flexible and patient on our interest rate policy.
Stocks: Our plan worked. We are heading back up.
Bonds: You two are saying the economy is not as strong as we all thought. Our rates are going down and yes, now I’m worried.
Stocks: Trust me, Fed’s got this.
Fed: I just looked at this thing called inflation and it doesn’t seem to be a significant risk, so I take back what I said last year. We are going to be more flexible than ever. We might even cut rates.
Stocks: We like it. All-time highs, here we come.
Bonds: Wait, does that mean the recession is around the corner?
Stocks: No, it means Fed is willing and able to be as dovish as needed. Crisis averted. Soft landing here we come.
Bonds: OK, but if Fed’s thinking of cutting rates, we’ve got to price that in. Our rates are going lower still.
Fed: It seems like we are now all on the same page. Let’s get another round. Cheers!