Third Quarter 2019

A Breather or a Fall?

During the first half of the year, we saw strong gains in stocks in the first quarter, with far fewer gains in the second quarter. An overview of the third quarter shows large stocks managing a modest increase while mid, small and international stocks fell. Drop-in interest rates underpinned the third quarter, increasing the value of bonds.

The impact of the trade dispute between the U.S. and China is clear, with manufacturing slumping, corporate earnings stagnant, and finally, consumer spending trending downwards. Corporations and consumers are looking for a clear sign from the government on where the trade war is going, and whether it will escalate on the European front. Until then, caution pervades the markets.

The big question that remains unanswered: is this a breather in the markets that will result in an uptrend once the trade wars are settled, or a deterioration of confidence that will lead to a significant loss in the markets?

Viewing the Situation

When investors, in large numbers, move funds out of stocks and into Treasury bills, that is an indication of fear, which is what we have been seeing during the third quarter. We are also seeing a shift from high-priced tech stocks into value stocks. What is interesting about this shift is that value stocks have been out of favor for years. Value stocks are often considered as being less volatile and more stable.

Historically, the last quarter of the year is good for the S&P 500. In 19 of the last 25 years, the index has been up for the quarter. We do not have to go back very far, however, for an example of when it took a big plunge during the final quarter. In 2018, we saw the S&P 500 lose 15.2% in the fourth quarter. This year’s gains have helped to offset that third quarter loss from 2018.

Uncertainty about world affairs is currently stoking fear. Where is the trade war with China going? Will the escalation of tariffs with Europe cause deterioration in the economy? Where is the Federal Reserve going with interest rates?

 What is happening in Washington? Will the GM strike end soon?

What Should We Do?

Sometimes when everything is appearing to be chaotic, taking stock of what matters over the long-term is a good idea. If we could predict the future, we could all become exceedingly rich. Sorry to say, we can’t predict the future. We can, however, look at the past to determine what actions to take now. Clients who have been with me for years can guess the answer. We need diversification, we have diversification and we will continue to diversify. The S&P 500 may be up again in the fourth quarter of 2019. We will see and will know the answer at the end of the year. In the meantime, a balanced approach to investing is appropriate.

Numbers Review

The S&P 500 ended the third quarter at 2977, up 35 points over the second quarter, for a gain of 1.2%. When we add this to the cumulative gain from the first two quarters of the year, we have a gain for the year of 18.7%.

The S&P Mid Cap index went from 1946 at the end of the second quarter to 1935, down 11 points, for a loss of about 0.6%. From the beginning of the year, when the index began at 1663, to the end of the third quarter, this index is also up 16.4%. Small cap stocks, as measured by the S&P Small Cap 600 index, didn’t do quite as well. From 953, they dropped to 948, losing 5 points or losing 0.5%. For the year to date, the index is up 12.2%. The DJ Global ex U.S. index for international stocks moved from 248 at the end of the second quarter down to 242, a loss of 6 points or -2.4% for the quarter. Added to the first two quarterly results, this index is now up 8.9% for the year.

Bonds, unlike stocks, had a solid gain for the quarter. The 10-year Treasury went from 2.49% down to 1.67%, resulting in a major investment gain for these bonds. In a like manner, the Bloomberg Barclays US Aggregate Bond Index fell from a yield of 2.49% to 2.27%, another nice gain for holders of bonds (remember, when interest rates drop, the value of bonds rises).

Conclusion

As noted above, many trends are shaping the markets at this time. The Fed has reduced the discount rate to help stimulate the economy. Inflation measurements point to a level of about 2%, which in turn would indicate the economy is still chugging along. While consumer spending was down slightly in August, it is still very strong. To some extent, the markets are reacting to what they don’t know is going to happen, rather than what they do know.

Ed Mallon

Posted October 17, 2019