Around the World in 80 Seconds - Q3 Recap
The third quarter of 2018 saw domestic equity markets rally to new record highs. European and Asian equity markets were slightly higher but once again trailed the U.S. The US Dollar was stronger vs. all major currencies. By far, the most interesting move of the quarter was in emerging markets. Mexico rallied 11.92% after signing a new trade deal with the United States. "Arriba Arriba" China fell 10.16% as their trade war with the U.S. escalated. U.S. Equity Markets continue to dominate International Markets long term.
United States - It looks like volatility is here to stay. Stronger domestic economic data continues to push both U.S. stocks and U.S. interest rates higher. This sets up the classic showdown between the positives of economic growth and the negatives of higher rates. Our bet continues to be that growth will win out, at least for now. Eventually higher rates will take their toll on economic growth, but for now higher rates are more bark than bite. Nevertheless, higher rates will certainly bring fear and volatility to the markets in the meantime. The Fed tightened again, the 8th time in less than 2 years. The 25 basis point hike now puts short rates at 2.25%. The 10 Year Treasury hit 3.20%. U.S. Rates, both short and long, now stand in sharp contrast to the rest of the world. European and Asian rates are hovering around 0%. We believe this creates a ceiling for U.S. Rates. International investors prefer owning U.S. debt because of the yield differential. Their purchases of U.S. Bonds should keep U.S. rates in check. The larger the rate differential between U.S. and International, the more desirable U.S. Bonds become. Europe – Local market European returns were in line with U.S. returns, however a weaker Euro and British Pound deteriorated those returns for unhedged U.S. investors. The European Central Bank announced an end to their ultra-easy monetary policy during Q2, but there hasn't been noticeable tightening acton by the European Central Bank. We don't expect much tightening by the ECB until there is a preponderance of evidence that the European economy is on sold ground. Currently that evidence is lacking. Asia – Japan is doing it's best to show some sort of economic life. The good news is their economic numbers are slightly improved, the bad news is their numbers are still anemic. It's hard to get excited about Japan and Asia. Here's an amazing number, The Japanese Nikkei 225 Stock Index is down 36.8% since 1989. That compares to U.S. and European stock markets that are up close to ten-fold during the same period. We continue to favor stocks over bonds and domestic equities over international equities. We expect rates to continue to rise domestically and we expect a much more volatile bond market. We disagree with the consensus view that longer term rates will be dramatically higher over the next year. Some pundits are calling for a 5% yield on the 10 Year Treasury within a year. Unless other countries also raise rates, which they won't, we believe the substitution effect will create demand for U.S. bonds. Investors will buy the higher yielding U.S. bonds instead of international bonds. This creates an anchor on how high U.S. rates can go unless International Rates also rise. We made a timely move when we shortened duration (interest rate exposure) before this latest episode of higher interest rates. If long term rates push 3.50%, we will look to add that duration back into the portfolios. Enjoy the weekend, The GreenPort Team