Amy Magnotta, CFA, Senior Investment Manager
Markets were off to a good start in 2017 as risk assets posted modest gains for the month. After taking a brief pause from the post-election fourth quarter rally, risk assets continued to climb at a more tempered pace, with returns driven more by healthy fundamentals than post-election hype. Economic data leaned positive and a solid earnings reporting season helped bolster consumer confidence. Inflation risk continued to increase with rising wages and stabilization of commodity prices and will likely continue to rise as the new political administration begins implementing its pro-growth policies.
The S&P 500 was up 1.9% for the month. Cyclicals outperformed more defensive sectors with both materials and information technology up over 4%. Energy was down -3.6%, a reversal from the sector’s strong returns in 2016. Telecom was down -2.5% as income-focused stocks continue to experience pressure from the rise in interest rates. Growth outperformed value and mid cap led small and large cap equities.
International equities were up 3.6% in January. Economic data in the European Union pointed to signs of a modest recovery as GDP growth rose and unemployment fell. Progress, however, remains uneven amongst countries, creating headwinds for the European Central Bank to implement future effective monetary policy. Likewise Japan saw beginning signs of an economic recovery but no indication was given that the Bank of Japan is ready to start tapering it’s accommodate monetary policy. Emerging markets were up 5.5%, outperforming developed international markets. After experiencing a drawdown in the fourth quarter last year, the asset class rallied due in part to stabilization of commodity prices.
Fixed income was slightly positive with the Bloomberg Barclays US Aggregate Index up 0.2% and Bloomberg Barclays Municipal Bond up 0.7%. The 10 year Treasury yield ended at 2.46%, relatively unchanged from the start of the month, but down from the 2.59% peak in mid-December of last year. High yield was the best performing sector, up 1.5%, as spreads slightly contracted. Going forward we expect fixed income returns to remain muted as the Fed continues with its interest normalization efforts.
The Brinker Capital investment team remains positive on risk assets over the intermediate term, although we acknowledge we are in the later innings of the bull market and the second half of the business cycle. While our macro outlook is biased in favor of the positives and recession is not our base case, especially considering the potential of reflationary policies from the new administration, the risks must not be ignored:
- Reflationary fiscal policies: With the new administration and an all‐Republican government, we expect fiscal policy expansion in 2017, including tax cuts, repatriation of foreign sourced profits, increased infrastructure and defense spending, and a more benign regulatory environment.
- Global growth improving: U.S. economic growth is ticking higher and there are signs growth outside of the U.S., in both developed and emerging markets, are improving.
- Global monetary policy remains accommodative: The Federal Reserve is taking a careful approach to policy normalization. ECB and Bank of Japan balance sheets expanded in 2016 and central banks remain supportive of growth.
However, risks facing the economy and markets remain, including:
- Administration unknowns: While the upcoming administration’s policies are currently being viewed favorably, uncertainties remain. The market may be too optimistic that all of the pro‐growth policies anticipated will come to fruition. We are unsure how Trump’s trade policies will develop, and there is the possibility for geopolitical missteps.
- Risk of policy mistake: The Federal Reserve has begun to slowly normalize monetary policy, but the future path of rates is still unclear. Should inflation move significantly higher, there is also the risk that the Fed falls behind the curve. The ECB and the Bank of Japan could also disappoint market participants, bringing the credibility of central banks into question.
The technical backdrop of the market is favorable, credit conditions are supportive, and we have started to see some acceleration in economic growth. So far Trump’s policies are being seen as pro‐growth, and investor confidence has improved. We expect higher
volatility to continue as we digest the onset of the Trump administration and the actions of central banks, but our view on risk assets remains positive over the intermediate term. Higher volatility can lead to attractive pockets of opportunity we can take
advantage of as active managers.
A PDF version of Amy’s commentary is available to download from the Brinker Capital Resource Center. Find it here >>
Source: Brinker Capital. Views expressed are for informational purposes only. Holdings subject to change. Not all asset classes referenced in this material may be represented in your portfolio. Indices are unmanaged and an investor cannot invest directly in an index. All investments involve risk including loss of principal. Fixed income investments are subject to interest rate and credit risk. Foreign securities involve additional risks, including foreign currency changes, political risks, foreign taxes, and different methods of accounting and financial reporting.
Barclays Municipal Bond Index: A market-weighted index, maintained by Barclays Capital, used to represent the broad market for investment grade, tax-exempt bonds with a maturity of over one year. Such index will have different level of volatility than the actual investment portfolio. S&P 500: An index consisting of 500 stocks chosen for market size, liquidity and industry grouping, among other factors. The S&P 500 is designed to be a leading indicator of U.S. equities and is meant to reflect the risk/return characteristics of the large-cap universe. Companies included in the Index are selected by the S&P Index Committee, a team of analysts and economists at Standard & Poor’s. World Index Ex-U.S. includes both developed and emerging markets. Bloomberg Barclays U.S. Aggregate: A market capitalization-weighted index, maintained by Bloomberg Barclays, and is often used to represent investment grade bonds being traded in the United States.
Brinker Capital Inc., a Registered Investment Advisor.