3 Things to Watch at the Start of Q3
By Tim Courtney, Chief Investment Officer, CIMA®
June 2018
The economy hasn’t been quiet this past quarter. The yield curve has been flattening1, markets were volatile2 and tariffs began to spark the makings of a trade war3. On the flip side, economic growth has continued to be strong4, the jobs market is booming5 and consumer confidence is high6. Among all this moving and shaking, investors appear to be in an overall attractive position.
Moving into the third quarter of 2018, we believe the economy will stay positive overall. In the meantime, we’ll continue to keep an eye on three of the most impactful areas of the market.
1. The Federal Reserve. One of the key things to watch in Q3 will be the Fed, which is set to continue raising interest rates this year7. Amid the threat of rising inflation levels8, the Fed will likely speed up the process of raising rates in the coming months. Raising rates could exacerbate the fear of a yield curve inversion, which has historically been a sign of recession9.
On the other hand, raising rates will continue to increase capital flow to the U.S.10 When you can get 2 percent yield on a U.S. Treasury bill11, the rates in the rest of the world don’t look as appealing. Because of this, along with the stability of the U.S. economy as a whole, more capital continues to flow into the U.S., thus appreciating the dollar. In the coming months, it will be interesting to observe how the Fed’s increasing rates affect the markets.
2. Increased market sensitivity. As markets have grown more expensive, they’ve become more reactive. High prices come with high expectations; any whiff of imperfection sends them into volatility. With company earnings coming in strong12 and the job market full, these high expectations only continue to move higher.
News that interrupts these high standards, such as an escalating trade war with China, sends the market into periods of volatility. This will most likely continue into Q3, affecting both stocks and bonds. However, industries that are not priced for perfection (such as small businesses13) will trade at lower levels and feel this volatility less than the high-flying stocks.
3. Global growth. Between 2014 and 2016, most of the world – including certain U.S. sectors – fell into a recession14. Since that recession, global economic activity has been steadily and synchronously increasing. The world’s largest economies have been in growth mode, trade has increased and prices have been up15.
However, disappointing numbers in Europe over the last couple of quarters16 have indicated this synchronized world growth may be drawing to a close. Their stocks have been priced for problems, rather than perfection as in the U.S. And while the U.S. has not quite felt the global effects yet, it could if this trend continues.
We will keep our eye on these issues and while we expect volatility to continue, we think overall economic growth appears steady and markets are priced appropriately globally.
Sources:
1 marketwatch.com/story/the-us-economy-is-roaring-but-the-yield-curve-is-flattening-what-gives-2018-06-14
2marketplace.org/shows/marketplace-morning-report/06192018-markets-edition
3 cnbc.com/2018/06/22/increased-threat-of-a-trade-war-is-ramping-up-fears-of-a-full-blown-recession.html
4 marketwatch.com/story/the-us-economy-might-hit-this-milestone-for-the-first-time-in-11-years-if-corporate-america-keeps-it-up-2018-06-23
5 thehill.com/policy/finance/390202-may-jobs
6 marketwatch.com/story/consumer-confidence-sticks-near-18-year-high-2018-05-29
7 npr.org/2018/06/13/619212907/interest-rates-expected-to-go-up-with-more-hikes-to-come
8 marketwatch.com/story/consumer-inflation-rising-at-fastest-pace-in-6-years-cpi-shows-2018-06-12
9 investopedia.com/terms/i/invertedyieldcurve.asp
10investopedia.com/ask/answers/040315/how-do-changes-national-interest-rates-affect-currencys-value-and-exchange-rate.asp
11 bloomberg.com/markets/rates-bonds/government-bonds/us
12 money.cnn.com/2018/05/06/news/companies/stocks-week-ahead-earnings-peak/index.html
13 finance.yahoo.com/chart/%5ERUT#
14 fortune.com/2014/10/28/global-recession-us-europe-china/
15 cnbc.com/video/2018/04/20/were-seeing-synchronized-global-growth-fed-gov-lael-brainard.html
16 cnbc.com/2018/05/03/european-markets-focus-on-earnings-and-us-china-trade.html
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