The advance reading for third quarter US Gross Domestic Product showed the American economy grew at a 1.9% annualized rate, slightly better than analysts estimates for 1.6% growth, but below Q2’s 2.0% rate. Personal consumption grew at a healthy 2.9% rate during the quarter while the Core Personal Consumption Expenditure (PCE) number reflected a 2.2% advance.
Despite this, and other positive economic data, the Federal Open Market Committee saw fit to cut the shortterm federal funds rate by 25 basis points, citing weak exports and lackluster business fixed investment. Also referenced were “global developments” (read: trade war) and “muted inflation pressures” as reasons for cutting rates. The weakness in manufacturing (highlighted in last month’s NMMW) remains – the ISM Manufacturing gauge came in at 49.3 for October – while the trade war drags on further postponing capital spending.
The unemployment rate for October held steady at 3.6% as 128k nonfarm jobs were created. Average hourly earnings ticked up 0.2% for the month to a 3.0% annualized rate while the Labor Force Participation Rate edged up modestly to 63.3%. Weekly Initial Jobless Claims averaged 213k for the month, hovering near recent lows as the chart below shows. While the NFIB Small Business Optimism survey dipped in September, the University of Michigan Sentiment index popped to 95.5 from the prior month’s reading of 93.2.
The Conference Boards Consumer Confidence Index remained strong at 125.9 with the Present Conditions index at a healthy 172.3. Overall the US consumer remains the driver of the American economy and it is yet to be determined when the slowdown in manufacturing will catch up with the employment picture. Until then, monetary policy will likely stay accommodative and investors appear to be favoring risk over caution.
Domestic Equity
U.S. Equities posted positive returns across market capitalizations in October, with Large-Caps leading the way. The benchmark S&P 500 Index rose +2.17% during the month, only to be outdone by it’s Environmental, Social, Governance (ESG) counterpart.
The MSCI USA Extended ESG Focus Index returned +2.44% during October, and is up +23.79% YTD, also outpacing the non-ESG focused S&P 500 Index. What’s more, ESG as a proxy for high quality companies has also outperformed the S&P 500 on a 3-year basis. Mid- and Small-Caps also finished the month in positive territory, returning +1.13% and +1.95%, respectively on the month. For the year, Small- and Mid-Cap indices have underperformed Large-Caps by a decent margin, returning +15.65%, and +19.19%, respectively.
Moving forward, positive breakthroughs on global macro issues (geopolitics, 2020 election, Brexit, trade, etc.) could lead to a resurgence in risk taking and favor those parts of the markets such as Small-Caps that have lagged YTD. From a style perspective, Value outpaced Growth during the month, with the S&P 500 Citi Value Index returning +2.65%, beating the S&P 500 Citi Growth Index by +91bps. For the year, Growth and Value are neck and neck, up +23.17% and +23.19%, respectively; however, Growth has outpaced Value by nearly +500bps per annum over a trailing 3-year period, and nearly +400bps per annum over the past 5-years.
As the U.S. economy begins to show signs of stabilization and global macro risks abate, Value oriented sectors could be ripe for a rebound. Sectors such as Financials, Healthcare, and Industrials may benefit from a rotation from Growth to Value, or from Defensives to Cyclicals. Financials and Healthcare returned +2.41% and +5.12%, respectively on the month, with various idiosyncrasies for each.
As a whole, earnings season has been quite favorable for Banks and Financials, while Healthcare earnings have trumped political risks (i.e. 2020 election) at least in the short run. Defensively oriented sectors such as Utilities, Staples, and Real Estate lost ground on the month, giving back -0.76%, -0.15%, and -0.11%, respectively, while Technology remains the best performer YTD up +36.46%. The Technology sector continues to be propelled by Apple and Microsoft, both nearly 20% weights a piece in the Tech sector. The two stocks have returned more than +60% and +40%, respectively on the year, handily outpacing the broader S&P 500’s +23.16% return YTD.
International Equity
International equities rebounded sharply in October with both developed and emerging markets equities outperforming the S&P 500. Developed international equities, as measured by the MSCI EAFE Index returned +3.60% in October, only to be outpaced by their Environmental, Social, Governance (ESG) oriented counterpart.
The MSCI EAFE Ext. ESG Focus Index returned +3.85% during the period, and has outpaced the non-ESG Index by +82bps YTD. Emerging Markets, as measured by the MSCI EM Index bounced back in a strong way, gaining +4.23% in October. They too were outpaced by their ESG counterpart, the MSCI EM Ext. ESG Focus Index, albeit by only +0.04%; however, on a year to date basis the ESG Index has outperformed by +53bps, continuing a global trend of strong ESG performance.
At the regional level, the Eurozone, as measured by the MSCI EMU Index, continues to stealthily outperform the MSCI EAFE Index on a year to date basis. In USD terms, the Eurozone has returned +18.67% for the year versus +17.50% for MSCI EAFE. It should be noted that countries like Germany and regions like the Eurozone remain heavily dependent on China, even more so than the U.S., meaning any breakthroughs in trade talks may significantly benefit the Eurozone too.