ON THE HOMEFRONT
During the month of May, U.S. stocks rose to record highs on record low volatility. The technology heavy NASDAQ Composite gained 2.50% with the S&P 500 adding 1.41%. Much of the market’s gains can be attributed to the “FANG” stocks (Facebook, Amazon, Netflix, and Alphabet, the parent of Google).
The CBOE Volatility Index (VIX) broke below 10 for the 13th time since 1990 as equities set record highs. Low levels of volatility are a sign there is very little fear or skepticism among investors. The VIX posted an average close of 10.86 in May—its second lowest monthly average in history.
As we have seen many times since the election, the market has decided to ignore what could have been destabilizing events: a less accommodative Federal Reserve, a bombing in the United Kingdom, a downgrade in the debt of China, and continued distractions in the Trump administration. In the past, any one of these events could have caused the market to fall, but instead, equity prices powered ahead.
The minutes from the May Federal Open Market Committee meeting indicated that it would “soon be appropriate” to raise short term interest rates. Most analysts anticipate two more rate hikes in 2017, one in June followed by another in December. The Fed also recognized the need to begin shrinking its $4.5B balance sheet. It’s anticipated the strategy will likely slowly reduce the balance sheet of securities by allowing a small number of assets to mature every month without reinvesting the proceeds.
The most recent U.S. job report showed the unemployment rate dropping to 4.4%, near a 10-year low. Nonfarm payrolls surged adding 211,000 jobs. The tightening labor market affirms the case for an interest rate increase at the June Federal Open Market Committee meeting.
The Fed’s preferred measure of inflation, the core Personal Consumption Expenditures (PCE) index, slipped to its worst level since December 2015 on a year over year basis—nearly half a point below the FOMC’s publicly stated target. Despite the weaker recent inflation reports, Fed officials anticipate further increases in inflation citing the tightening labor market and a growing U.S. economy. The Federal Reserve Bank of Atlanta’s GDPNow model is predicting GDP growth of 3.8% in the second quarter of 2017—up from the first quarter’s 1.2% growth rate.
Equity markets trading at all-time highs are at odds with the bond market’s recession warning and lower inflationary expectations. Interest rates fell over the month. The yield on the benchmark 10-year U.S. Treasury Note fell to 2.29% from 2.34% after climbing to 2.42% mid-month.
May was a very good month for both developed and emerging markets. The MSCI EAFE Index, designed to track developed markets outside the U.S. and Canada, rose 3.76%. The emerging markets as measured by the MSCI EM Index gained 2.97%.
Eurozone economic growth continued to run at its fastest pace in six years. The IHS Markit Eurozone Purchasing Managers’ Index (PMI) held steady at 56.8—unchanged from April’s six-year high. Volatility could rise on the continent as we move into the summer. British Prime Minister Theresa May’s lead is slipping in the polls. Her win in the June 9th election will be essential to success in the looming Brexit talks with the European Union. Investors are also watching for signals that the European Central Bank (ECB) will start preparing to reduce its monetary stimulus amid mounting evidence that growth and inflation are strengthening. ECB President Mario Draghi acknowledged that the Eurozone’s economy was recovering but said “It’s still very early to make us think we are going to change the monetary policy stance.”
Emerging markets shrugged off Moody’s Investor Services downgrading of China’s rating for the first time in 30 years. The one notch downgrade is just two grades above junk status. The downgrade highlights lingering worries that the country’s reliance on credit could eventually cause problems. Chinese economic data is also coming into focus with the Chinese PMI falling below 50 for the first time in 11 months. Could this be a signal of a contraction in output perhaps showing that China’s strong economic growth seen earlier this year is in retreat?
The market is quite constructive on both a short- and long-term basis confirming recent price action. The major domestic and global equity indexes are trading well above their respective 50-day and 200-day moving averages. Breadth is also supportive but could stand some improvement. The S&P 500 Advance-Decline line is at all-time highs. Growth stocks (big tech) are outperforming value stocks, and international is outperforming domestic. It is encouraging to see growth stocks leading the way, but broader participation from smaller stocks would broaden out the uptrend.
So far, this year has been good for both stock and bond investors. We believe that relying on that benign picture could be risky. Current events can and do matter. The major markets dropped almost 2% in one day when reports showed that President Trump asked then-FBI Director James Comey to back off the investigation of former National Security Advisor Michael Flynn. It is not the time for complacency. “Buy the dip” mentality will come to an end at some point. We believe the Stadion strategies are properly positioned for the current risk environment. Should market conditions warrant, we will adjust asset allocations accordingly based on our models.
Past performance is no guarantee of future results. Investments are subject to risk, and any of Stadion’s investment strategies may lose money. The investment strategies presented are not appropriate for every investor and financial advisors should review the terms and conditions and risks involved. Stadion’s actively managed portfolios may underperform during bull markets. Some information contained herein was prepared by or obtained from sources that Stadion believes to be reliable. There is no assurance that any of the target prices or other forward-looking statements mentioned will be attained. Any market prices are only indications of market values and are subject to change. The NASDAQ Composite is a stock market index of the common stocks and similar securities listed on the NASDAQ stock market and it is highly followed in the U.S. as an indicator of the performance of stocks of technology companies and growth companies. The S&P 500 Index is the Standard & Poor’s Composite Index of 500 stocks and is a widely recognized, unmanaged index of common stock price. The VIX is the Chicago Board Options Exchange Market Volatility Index, a popular measure of the implied volatility of S&P 500 index options. Often referred to as the fear index or the fear gauge, it represents one measure of the market's expectation of stock market volatility over the next 30 day period. IHS Markit Eurozone Purchasing Managers’ Index (PMI) is an indicator of the economic health of the manufacturing sector. The MSCI EAFE (Europe, Australasia, and Far East) Index is a stock market index that is designed to measure the equity market performance of developed markets outside of the U.S. & Canada. The MSCI Emerging Markets Index is a float-adjusted market capitalization index that consists of indices in 21 emerging economies: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Morocco, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand, and Turkey. It is not possible to invest directly in indexes (like the S&P 500) which are unmanaged and do not incur fees and charges. The U.S. 10-Year Treasury Note is a debt obligation issued by the United States government that matures in 10 years. The Sharpe ratio measures the excess return per unit of deviation, or risk. Yield is the annual return on an investment, expressed as a percentage of the price. For stocks, yield is the annual dividend divided by the purchase price, also known as a dividend yield. For bonds, it is the coupon rate divided by the market price, called current yield. The core personal consumption expenditures index measures the prices paid by consumers for goods and services without the volatility caused by movements in food and energy prices. Any references to specific securities or market indexes are for informational purposes only. They are not intended as specific investment advice and should not be relied on for making investment decisions.
Past Performance is no guarantee of future results. Investments are subject to risk, and any of Stadion's investment strategies may lose money.