Investment Commentary – March 26, 2019

Year to Date Market Indices as of Market Close March 26, 2019
Dow 25,673 (9.99%)
S&P 2,818 (12.43%)
NASDAQ 7,691 (15.92%)
Gold $1,332 (1.91%)
OIL $60.06 (27.71)
Barclay Bond Aggregate (2.84%)
Fed Funds Rate 2.50% (last increase was 12/19/18)

S&P 500, Nasdaq snaps 2-session skid but 10-year Treasury yield near 2017 low keeps stock market in check

U.S. stock benchmarks on Tuesday gained but finished well off their best levels of the session as equity-market investors wrestled with falling yields that usually imply that investors are worried about the domestic economy. Still, the Dow Jones Industrial Average DJIA, +0.55% gained 141 points, or 0.6%, to 25,657, after earlier rising as many as 279 points. The S&P 500 index SPX, +0.72% advanced 0.7% to 2,818, while the technology-laden Nasdaq Composite Index COMP, +0.71% climbed 0.7% to 7,691. All three benchmarks pared firmer gains but the day’s advance did snap a two-session slide for the S&P 500 and Nasdaq, even as housing data were lackluster and an accurate signal of impending recessions, continued to remain in force. The 10-year Treasury yield TMUBMUSD10Y, +0.77% was at 2.418%, holding near its lowest since 2017. A recent slip in 10-year U.S. Treasury yields below the level of three-month Treasury bills, known as a yield-curve inversion has been seen by some investors as foreshadowing of a potential recession in the coming 18 or 24 months, research show. The latest market data suggested that the U.S. economic growth may be softening in parts. Home builders broke ground on new-home construction at a seasonally adjusted annual rate of 1.16 million in February, that’s a 9% decline from the month before and well below levels seen last year. Home prices grew at the slowest pace in more than six years, with the S&P CoreLogic Case-Shiller 20-city index rising at a seasonally adjusted rate of 0.2% in January, compared with December. In corporate news, shares of Apple Inc. AAPL, +0.01% finished off by more than 1% after a judge ruled that the iPhone marker infringes a Qualcomm Inc. QCOM, +2.40% patent. Markets have been on edge after Friday saw the yield-curve inversion manifest for the first time since 2007 and as yields have remained lower. Bond prices and yields move inversely. A Federal Reserve that has signaled that it may hold off on further rate hikes in 2019 has helped to foster the current environment of ultralow yields, market experts say.

The bond market flashed recession. So why is the stock market booming?

A reliable recession predictor flashed in the US bond market last week: the most closely watched part of the Treasury yield curve inverted. At first, stocks shuddered. Then they shrugged it off.

The S&P 500, Dow and Nasdaq rose Tuesday as investors decided it was too soon to worry about a pullback — even as bond yields remain depressed.

“We’ve still got some run time,” said Brad McMillan, chief investment officer at Commonwealth Financial Network. The equities rally, he added, “can persist for a while.”

Stocks and bond yields have been moving in different directions for months, sending conflicting signals to investors watching for warning signs about slowing global growth. The S&P 500 has jumped 19% since its December lows, while the yield on the benchmark 10-year Treasury note has fallen off. Investors typically view falling bond yields as a sign of economic pessimism, because it points to higher demand for a safe haven asset.

Investors were forced to reckon with that divergence last Friday, when the yield on 3-month Treasuries rose above the rate on 10-year Treasuries for the first time since 2007. The so-called yield curve inversion, in which short-term rates jump above long-term rates, has preceded each of the last seven recessions, according to the Federal Reserve Bank of Cleveland.

Stocks plunged 460 points to close out the week after the inversion on Friday. But investors calmed down. They have an eye toward first quarter earnings, and appear to believe a sell-off would be premature.

Their primary rationale is that a partial yield curve inversion — and it has since narrowed — doesn’t mean a recession will strike immediately.

When the curve inverts, the average time to the next recession is 27 months, according to a Bank of America Merrill Lynch Global Research report this week. The range has varied between nine and 66 months.

Analysts generally say the inversion can indicate a recession in about a year. However, it’s not a given, and wait times remain imprecise.

“In addition to there having been ‘false positives,’ an inversion doesn’t help define either the length of runway between the inversion and the subsequent recession; or the severity of the recession,” Liz Ann Sonders, chief investment strategist at Charles Schwab, said in a note Monday.

Around the web:

Freaky Friday: Stocks were having a mostly positive week until the market swiftly reversed course on Friday amid further signs of a global growth slowdown and an inversion in the U.S. Treasury bond yield curve. The major U.S. stock indexes dropped around 2%, as did indexes in France, the United Kingdom, and Germany.

Rate relief: In addition to keeping interest rates unchanged, the U.S. Federal Reserve indicated that it’s unlikely to raise rates for the rest of 2019. Eleven of the seventeen Fed officials who play a role in rate policy don’t expect a rate hike will be needed this year. As recently as December, just two officials held that view.

Trade talks on tap: Prospects of a comprehensive U.S.-China trade agreement appeared to improve as the sides agreed to another round of talks. U.S. negotiators are scheduled to fly to Beijing for discussions beginning the week of March 24. The following week, Chinese negotiators are expected to visit Washington for further discussions.

Upcoming this week: Fourth-quarter GDP, second estimate
Other Notable Indices (YTD)
Russell 2000 (small caps) 12.51
EAFE International 9.14
Emerging Markets 8.48
Shiller Annuity Index 6.55

The views presented are not intended to be relied on as a forecast, research or investment advice and are the opinions of the sources cited and are subject to change based on subsequent developments. They are not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investments.