Review of First Quarter
The first three months of the year were relatively calm and productive for investors. The S&P 500 rose by 6% for the quarter. International stocks did even better, with developed market stocks increasing by 7% and emerging market stocks rising by 11%. Despite the rate increase by the Federal Reserve, bonds went up by 1%.
Below is a table showing key economic and market indicators (as of March 31st)*:
The above metrics show that the economy remains strong. Other measures, evaluating confidence of consumers and purchasing managers, are also positive. Moreover, corporate profitability growth has been high, and is expected to continue for the next year.
What we don’t know yet are the status of changes to tax and trade policy, which creates a great deal of uncertainty. Not only do we not know what the proposed policies are, the impacts of those policies are subject to endless debate. We do know that the initial proposed healthcare changes did not pass, which might suggest that broad policy changes will be less severe than initially thought.
Stock Market Outlook
Valuations in the stock market remain high. We believe that valuation is caused mostly by continued anticipated growth in profitability, which in turn might be further supported by slight increases in real GDP growth. For that reason, we’re not concerned by the relatively strong valuations. That being said, we don’t believe that the very low level of daily stock volatility will continue going forward. Stock market movements, at least over short-term intervals of time, are tough to predict, and slight changes in economic data or policies can have large ramifications for valuations. That should not be a grave concern to long-term investors, but it shouldn’t be a surprise if we see some large fluctuations (both up and down) throughout the year.
As we stated three months ago, we should expect the Federal Reserve to increase interest rates between 1/2% and 3/4% throughout the year. We saw the first of those increases in February, and that 1/4% increase had little impact on stock or bond valuations – an announcement that nearly everyone anticipates shouldn’t have much effect on security prices. Assuming the Fed continues this policy, we believe bond markets will be relatively stable. Also, as we’ve stated many times in the past, over the long-term, higher interest rates are good for bond investors, as long as they remain invested in short and intermediate term bonds.
If you believe this commentary seems similar to the one we posted three months ago, you’re correct – and, we’re thrilled that you’re paying attention. The only thing we’re surprised about is we thought we’d have a much clearer picture of proposed economic policies by now. Over the past three months, economic data and Fed policy have followed predictable patterns, so there is little new insight to add (although, we’ll note, that doesn’t seem to stop various bloggers from trying). Hence, we also offer no new insight on investment strategy – we advise investors remain consistent with their past policy.
I will add a bit of personal outlook. I’ve had the opportunity over the past year to do some international traveling, and get a bit of perspective on how the rest of world sees the U.S. and their own economy. While certainly not comprehensive, these include visits to Europe and Asia, and to both developed and emerging markets on each continent. It’s difficult for me not to be optimistic. There’s no doubt that there are political rifts and potential military conflict – there’s always been potential (or actual) conflict somewhere in the world. But seeing construction projects in Warsaw, entrepreneurial spirit in (supposedly communist) Vietnam, or the modern and expansive skyline of Singapore, I’m left with an enormous sense of hope.