PulsePoints November 2013

PulsePoints is a quarterly update from Denver-based financial services firm Gill Capital Partners about what's happening with the economy and the markets. Enjoy.

• EQUITIES:  Second Quarter’s PulsePoints focused on “A Tale of Two Markets” and the underperformance of foreign markets compared to the S&P 500. Despite a strong 5.24% performance for Q3, the S&P 500 lagged behind the robust 11.56% return of its’ developed foreign counterpart, the MSCI EAFE. Emerging markets also made a strong recovery, returning 5.77% in the third quarter as fears of a liquidity crisis in China subsided and currencies in developing nations made a comeback. There was still an appetite for risky assets such as tech, materials, and commodity-linked stocks posted the strongest returns here in the US. Small cap stocks also posted a double –digit return, far outpacing the mostly large cap S&P500.
• FIXED INCOME:  Fixed income experienced a large amount of volatility, although it was not reflected in the third quarter’s returns. The Barclay’s Aggregate Bond Index (“the Agg”) returned a ho-hum .57%. Interest rate volatility was the main culprit in quickly moving bond markets: the bellwether 10 Year Treasury’s yield hit an intra-day high of 3.005% (although it never closed above 3%), but soon plummeted to below 2.5% during the beginning of the fourth quarter. Despite the drop in interest rates precipitated by Bernanke’s mid-September declaration of “no taper,” the Agg is still down 1.89% YTD through the third quarter.
• ECONOMIC OUTLOOK:  The market has been extremely reactive to the perceived timing of the start of “Tapering” (the Fed’s process of reducing purchases of Treasuries). The Fed has emphasized the importance of economic data in determining when to taper: as speculation the Fed would taper in September increased, interest rates spiked and markets stalled; when the Fed referenced weakness in labor markets and credit conditions, rates receded and markets rallied.  Sub-par economic reports were met with brief rallies. As a result, the economic outlook is likely to have a profound impact through the end of the year.  Fortunately for the markets, the economic outlook is not as robust as many had hoped at the beginning of the year.  Uncertainty caused by political wrangling in Washington DC, coupled with shutdown-related furloughs, has already affected the labor market and could have a significant effect on GDP growth.
• MARKET PERSPECTIVE:  In the last edition of PulsePoints we emphasized our view that international markets would revert to the mean and catch up with developed markets. This view came to fruition quicker than expected as the MSCI EAFE drastically outperformed the S&P 500 in the third quarter: 11.56% vs. the S&P’s 5.24% quarterly performance.  We still see upside in foreign markets and are adamant emerging markets will provide the most value over the long term. We also believe fixed income will benefit from rate stability as a dovish chair(woman) of the Federal Reserve enters office. Janet Yellen’s dovish track record and less optimistic outlook suggest the Fed will remain accommodative over the next few quarters. As a result, we are recommending clients stay overweight foreign markets and remain tactical with their fixed income holdings.
• TOP OF MIND:  The outlook for interest rates into 2014 drastically changed when it was announced Janet Yellen was to be nominated as the next chairman of the Federal Reserve. Rates continued their ascent while the market assumed the nomination would be awarded to Lawrence Summers; however, bond markets started a sharp rally upon the news of Yellen’s appointment. Yellen, considered one of the Fed’s most “dovish” (prefers low rates) members, is perceived to be far friendlier to fixed income markets.  As a chief architect of “Quantitative Easing,” Yellen is likely to be slower in tapering asset purchases than many others who were considered for the position. Yellen’s impressive forecasting record throughout her tenure at the Fed has also instilled confidence in both equity and bond markets. Although Yellen’s views are often viewed as closely aligned with Bernanke’s, her track record suggests she would like to be more aggressive in stimulating the economy and is less fearful of inflation. Both perspectives bode well for both fixed income and equity markets in the short term.