Economic reports out of the U.S. were mostly disappointing as 2017 came to a close. Initial jobless claims and inventories were higher than expected, while consumer confidence was lower than expected. Internationally, Japan once again reported positive economic data—with both inflation and industrial production coming in better than expected and a lower-than-anticipated jobless rate.
In the U.S., stocks (as measured by the S&P 500) ended December by posting their ninth consecutive month of positive returns—the longest such streak since 1983. Energy stocks outperformed as frigid temperatures sent natural gas prices higher and as oil prices hit their highest level in years due to strong global demand. In contrast, financial services stocks—banks, specifically—underperformed as investors realized the recently passed tax law will have a negative short-term impact on banks’ capital ratios (a gauge of banks’ financial strength). Tech stocks also lagged, due mainly to disappointing sales of Apple’s newest iPhone.
Overseas, emerging markets outperformed for the week as commodity prices rose. European equities underperformed, however, due primarily to the negative impact that the new U.S. tax law will have on financial institutions’ capital ratios.
In the fixed-income markets, long-duration bonds outperformed as interest rates fell. Such bonds are more sensitive to changes in rates than are shorter-term securities. Preferred stocks underperformed, mainly due to weakness in bank-issued preferred stock (again because of the negative impact of the new tax law on capital ratios).
GAIN: Active Asset Allocation
In what was a quiet week for financial markets, the returns for most asset classes were relatively flat. The top-performing asset class in our portfolios for the week was emerging markets stock. However, our European equity holdings declined on the week. In the broad fixed income markets, long-duration bonds did well. That said, the portfolios have durations similar to that of the aggregate bond index, and, as a result, they did not participate significantly in long-duration bonds’ gains. We continue to maintain our corporate credit exposure, as we did for most of 2017.
We begin 2018 with full equity exposure and will remain watchful to see if the major trends of 2017—such as foreign stocks over domestic, growth over value, and large-cap over small-cap—re-establish themselves in the year ahead.
PROTECT: Risk Assist
2017 was a stellar year for most financial assets, and it ended as many years do—with low volume and in a tight trading range. Risk Assist portfolios remain fully invested as we begin 2018.
Going forward, we will remain vigilant about monitoring market volatility. Certain structural sensitivities in the market involving short-volatility ETFS and systematic strategies like risk party and trend following could exacerbate a sell-off in the equity markets (should a sell-off occur, that is). While this situation is unlikely to occur, it is meant to illustrate just one possible outcome that we will watch for as we position the portfolios.
SPEND: Real Spend
Returns for global stocks and broad-based U.S. bonds were fairly flat during the final week of 2017, and the year-to-date spread between the two assets remained in excess of 20%.
In the Real Spend portfolios, international holdings performed the best for the week, while small-cap positions underperformed.
The Federal Reserve’s preferred gauge of inflation—the PCE—for November was released right before Christmas, and came in at 1.5% on a year-over-year basis. That was in line with estimates, but quite low. (For example, it registered 1.8% year-over-year in November 2016.) Meanwhile, market expectations for inflation were down for the week, at just under 2.3%.
In the yield space, long-duration bonds were the top performer—up by nearly 2% for the week—followed by REITs and corporate bonds. Master limited partnerships were down slightly, in spite of stabilizing oil prices.