EWM Macro View-July 2018

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Domestic equity markets posted strong returns in the month of July, with most of the price appreciation coming in the first two weeks of trading. During the month, markets reached highs not seen since the end of January on news of strong economic data. The unemployment rate declined to 3.9%, the second lowest rate in the last 48 years, and second-quarter US Gross Domestic Product (GDP) grew 4.1%, the highest rate in almost four years. For the time being, it appears that the US’s strong economic activity is overshadowing the very serious concerns of a global trade war, as the Trump Administration aggressively renegotiates trade deals with the European Union and China. Even with valuations near all-time highs, companies are still repurchasing their own stock. Last quarter marked a record, as US companies spent almost $437 billion on buyback plans.

For the month of July, the S&P 500 Index and the DJIA returned 3.72% and 4.83%, respectively, as 83% of the S&P 500 companies reported earnings per share that exceeded expectations. For the first time since February, large cap domestic stocks outperformed small cap equities, as the Russell 1000 Index returned 3.45% and the Russell 2000 returned 1.74%. Mid cap stocks also outperformed small caps, with the Russell Mid Cap Index gaining 2.49%. Value stocks outperformed growth stocks, with the Russell 3000 Value Index returning 3.79% compared with 2.84% for the Russell 3000 Growth Index. Sector performance was strong, with positive returns across the board. The high-end Industrials and Health Care sectors generated returns of 7.32% and 6.61%, respectively, whereas the Real Estate and Energy sectors returned 1.08% and 1.42%, respectively. The Bloomberg Commodity Index, recently the worst-performing asset class for the quarter, incurred a loss of 2.13%.

International equity markets posted weaker results when compared with their domestic large cap counterparts, with the MSCI ACWI ex-U.S. Index returning 2.39% for the month of July. The European Central Bank (ECB) indicated no change to its accommodative monetary policy, pledging to keep interest rates the same for at least another year. Additionally, the potential for a trade war between the US and the European Union seems to have diminished after President Trump and European Commission President Jean-Claude Juncker agreed to work to lower trade barriers between the two trade partners. Both parties promised to forgo placing further tariffs while negotiations are under way. Economic activity continues to be positive, as the International Monetary Fund reported real global GDP growth of 3.64% for the first quarter. Furthermore, the ECB is forecasting real GDP growth to hit 2.4% for 2018. International developed equities and emerging markets equities posted similar returns for the month, with the MSCI EAFE Index up 2.46% and the MSCI EM Index 2.20%.

Fixed income markets produced mixed returns for the month, as longer-term yields trended higher. The yields on the 3-month Treasury Note and the 10-Year Treasury Bond increased, ending the month at 2.03% and 2.96%, respectively, resulting in a further flattening, albeit small, of the US Treasury curve. Despite the strength in GDP, driven by consumer spending and nonresidential business investment, Federal Reserve policy makers are expected to continue their gradual pace of interest rate hikes, with two more in store for the year.

The Bloomberg Barclays U.S. Aggregate Bond Index increased 0.02% for the month, with investment-grade corporates contributing 83 basis points for the month, whereas US government and Treasury securities were down 0.41% and 0.42%, respectively. Global bonds struggled relative to domestic fixed income, as the Barclays Global Aggregate ex-U.S. Index lost 0.17%. However, emerging markets debt was the best-performing asset class within fixed income, returning 2.50%. High yielding fixed income securities posted strong performance, returning 1.09% for the month.

Municipal bonds posted positive returns, and outperformed their taxable counterparts, with the Bloomberg Barclays Municipal Index returning 0.24% for the month. Within the municipal space, the shorter-term securities fared better, with the 1-2 Year Index beating the 22+ Year Index by 20 basis points.

EWM Macro View-June 2018

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The domestic equity markets posted modestly positive returns for the month of June. Despite positive performance across the board, the theme of heightened market volatility continued, with up and down trading weeks throughout the month. Trade was of particular concern for investors, as President Trump ratcheted up his tariff threats, not only toward China, but other US allies. Outside of the political arena, however, corporate fundamentals and earnings growth expectations remain strong, and many active managers have used the volatility as an opportunity to reposition their portfolios.

Growth generally outperformed value during June, as the Russell 1000 Growth Index was up 1.0%, whereas the Russel 1000 Value Index returned 24 basis points. Similarly, small cap growth outperformed small cap value by 17 basis points. The lone exception was in mid cap stocks, where value outperformed growth by 42 basis points. Small cap stocks slightly outpaced their large cap counterparts during the month, as a stronger US dollar weighed more heavily on large cap companies, which typically generate a larger portion of their revenues overseas. Consumer Staples was the leading sector across the market cap spectrum, whereas Financials and Industrials were laggards. The Energy sector, though essentially flat in June, was the best-performing sector over the trailing quarter, supported by higher oil prices.

Meanwhile, the Bloomberg Commodity Index was down 3.5%, despite the strong performance of crude oil, as precious metals and agricultural commodities weighed on returns. The FTSE NAREIT All Equity REITs Index returned 4.18% in June, making it the best month of 2018 for the broader Real Estate sector. The self-storage (7.0%), data center (6.7%), health care (5.8%) , and retail (5.8%) industries were the best performers during the month.

 

The international equity markets1  underperformed domestic markets in June, with the developed markets holding up better than emerging markets. The US dollar continued to strengthen against most currencies during the month, acting as a stiff headwind to international equity market returns. Emerging markets currencies were particularly vulnerable, with the Argentine peso falling the most, down more than 13% versus the US dollar. Additionally, trade concerns weighed on returns in June and affected markets around the globe, with China leading the fall and declining more than 5%. Trade tensions extended beyond China as the US threatened other restrictions, such as tariffs on cars imported from the European Union (EU). Political uncertainty in Italy along with the weakness in the euro also hampered results in the euro-zone. During the month, the MSCI EAFE Index declined 1.2%, and the MSCI Emerging Markets Index was down 4.2%.

 

Domestic taxable fixed income markets2 posted negative returns in June, as Treasury yields rose and credit spreads widened. The Treasury curve continued to flatten, with the Federal Reserve (Fed) raising the fed funds rate another 25 basis points to a target of 1.75%-2.00%, while intermediate and long Treasury yields ended the month only slightly higher, despite moving substantially throughout the month. Economic data remained solid, supported by a strong labor market and healthy consumer sentiment, and second-quarter gross domestic product (GDP) growth estimates are approaching 4%. With a supportive economic growth backdrop and increasing inflation, the Fed telegraphed two additional rate hikes over the remainder of the year.

The Aggregate Index declined by 12 basis points, with investment grade corporates weighing most heavily on returns (down 58 basis points). Credit spreads widened eight basis points to 123 basis points above Treasurys, attributable primarily to a supply-demand imbalance, as issuance rebounded in June with an increase in debt-funded merger and acquisition activity. Foreign demand for US investment grade corporate bonds also has declined due to higher short-term rates and a stronger dollar, which have made the cost of hedging more prohibitive. US high yield spreads remained more resilient than their investment grade counterparts, widening just 1 basis point to end the month at 363 basis points, and the Bloomberg Barclays High Yield Index finished the month up 40 basis points. However, those returns were heavily skewed to the lowest-rated high yield issues, as the BB component of the Index was up just seven basis points, whereas CCC-rated issues were up 1.23% in June.

Municipal bonds outperformed all of the investment grade taxable sectors (with the exception of treasury inflation protected securities (TIPS)) across the maturity spectrum. Short municipals in particular outperformed, as high demand pushed short muni rates lower, even as similar maturity Treasury yields were rising. Across the broad municipal market, the volume of new issuance remained in line with the average for the year, and continued to be met by healthy demand from investors looking to reinvest their June coupons ahead of the issuance slowdown that typically comes in July and August. The municipal market also was supported by a Supreme Court ruling that will allow states to collect taxes from internet retailers, providing an additional revenue source that is certain to be positive for municipal credit fundamentals. 

Outside the US, the strong dollar proved to be a headwind for foreign bond investors during June, as all of the major international bond indices posted negative returns for the month (with the exception of those hedged back to the dollar). European government bond yields spiked during the first half of the month on political concerns in Italy, though ultimately finished the month lower than they began. However, this price appreciation was more than offset by the depreciation of the euro against the dollar, and was a major contributor to the Bloomberg Barclays Global Aggregate Ex-US Index finishing the month down 70 basis points. Emerging markets were particularly hard hit by the strengthening dollar and growing trade concerns, with the local currency market down nearly 3% and hard currency emerging markets sovereigns down 1.2%. Emerging markets corporates faired the best, falling only 37 basis points.

 

1Unless otherwise noted, returns are for the appropriate MSCI Indices in US dollar terms.

2 Unless otherwise noted, returns are for the appropriate Bloomberg Barclays Indices.

EWM Macro View-April 2018

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The domestic equity markets were mixed in the first month of the second quarter, but generally ending just either side of breakeven. The two exceptions were the Russell 2000 Value Index, which was up 1.7%, and the Russell Midcap Growth Index, which was down 94 basis points. The indices were driven by the Energy sector in April, as oil prices rose more than 7% in the month and ended near a three-year high. This is particularly true of the value indices, in which the Energy sector makes up a much larger portion. Large cap energy stocks rose more than 9%, and their small cap brethren were up roughly 14%. Such a large contribution to return from a single sector makes it significantly more difficult for managers to beat the overall benchmark. In fact, only 25% of small cap value funds outperformed the benchmark, and the median return for the peer group (including expenses) was roughly 85 basis points, or half of the Russell 2000 Value Index’s return. Conversely, roughly 60% of small cap growth funds beat the Russell 2000 Growth Index’s ten-basis-point return.

After a relatively weak first quarter, even April’s modest returns were good news. The Russell 1000 was up 34 basis points, with the value and growth versions just one basis point on either side. Megacap stocks, as represented by the Russell Top 200 Index, increased by 53 basis points, with the growth component outperforming by roughly 25 basis points. As noted, small caps posted a much wider difference, as the Russell 2000 Value Index outperformed its growth counterpart by 1.6%. The Bloomberg Commodity Index was up 2.6%, but the precious metals component was down slightly. The Dow Jones Wilshire U.S. REIT Index was up 1.5%, after a 4.1% climb in March.

The international equity markets1 rebounded sharply in April and pulled ahead of the US markets on a year-to- date basis. European markets rallied during the month despite an apparently slowing economy. Leading indicators, such as industrial output, construction, and retail sales, all pointed to slowing growth, but markets were able to shake off the disappointing data. Unemployment across the eurozone remained stable at 8.5%, its lowest level since 2008. The outperformance is more remarkable given the rebound in the strength of the dollar. The EAFE Index jumped 2.3%, led by Italy, France, and Spain. The emerging markets underperformed their developed counterparts, as the Emerging Markets (EM) Index dropped 44 basis points. Russia was among the worst performers in any category, down nearly 7.5% for the month.

Domestic fixed income markets2 posted negative returns again in April, as Treasury rates rose 20 basis points in the short and intermediate maturities and 14 basis points for 30-year maturities. Economic data continued to show modest but consistent economic growth, including an increase in hourly earnings in March, slightly higher consumer confidence, and stable-to-falling unemployment. Inflation concerns picked up slightly toward the end of the month, as the Producer Price Index came in slightly higher than expected, whereas the Consumer Price Index hit 2.4% on a year-over-year basis. The US Treasury curve flattened during the early part of the month, as the 2yr/10yr gap narrowed to just 41 basis points, the lowest level since 2008. Issuance in both the corporate and municipal markets remained lighter than last year.

The Aggregate Index declined by 74 basis points, led by the agency mortgage-backed security (MBS) sector, which dropped just 50 basis points. Only the very shortest-maturity indices and the noninvestment grade indices managed positive returns in April. The S&P/LSTA Leveraged Loan Index was up 41 basis points, and the High Yield Index rose 65 basis points. The high yield market was aided by a large exposure to the Energy sector.

The municipal market continued to outperform the taxable market in April. New supply remains scarce, though the new-issuance calendar was more robust in the latter half of the month. The relative strength of municipals came despite significant outflows from retail mutual funds, more than $700 million over the first half of the month, as individuals and corporations withdrew funds set aside to pay taxes. The Municipal Index was down just 36 basis points, whereas the 1-15 Year Index was fell 27 basis points.

The international fixed income markets also fell during April, as the Global Aggregate, excluding US securities, was down 2.3%. Yields on 10-year German Bunds, UK Gilts, and Japanese Government Bonds all ended the month higher, though the increase was less than the increase in the US 10-year Treasury Note. International corporate credits, especially noninvestment grade, performed better, as their higher coupon income created a bit of cushion against rising rates. The biggest drag on performance was the currency component, as the dollar rallied sharply over the course of the month. The dollar hedged Global Aggregate was down just ten basis points. The dollar rally and rise in developed markets yields also triggered a sell-off in emerging markets bonds, particularly local currency bonds. Hard currency EM bonds declined roughly 1.5%, whereas the local currency bonds were down nearly 3.0%.

1 Unless otherwise noted, returns are for the appropriate MSCI Indices in US dollar terms.

2 Unless otherwise noted, returns are for the appropriate Bloomberg Barclays Indices.

EWM Macro View-March 2018

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Domestic equity markets rallied in the first half of March, but ended the month with heightened volatility, with the major equity indices falling to February’s lows. The first quarter ended in negative territory, as stocks faced downward pressure amid concerns over rising inflation, stretched valuations as we marked the ninth anniversary of the current bull market, and protectionist measures from the Trump Administration combined with a looming trade war with China. For the quarter, the S&P 500 and Dow Jones Industrial Average (DJIA) were down 0.76% and 1.96%, respectively, as February and March selloffs erased all of this year’s earlier gains. Despite the recent pullback and return to volatility, many market participants, citing solid fundamentals, remain optimistic about the near-term prospects. Recent economic reports show strong outcomes from the US economy, with the labor market continuing to strengthen, job gains showing strong growth in recent months, and the unemployment rate remaining low. Additionally, economic activity has been rising at a moderate rate, given the solid growth rates of household spending and business fixed investment.

For the month, the S&P 500 and DJIA returned -2.54% and-3.59%, respectively. Small cap stocks outperformed large cap equities, as the Russell 2000 Index posted a return of 1.29% compared with the Russell 1000’s loss of 2.27%. Mid cap stocks trailed small cap as well, with the Russell Mid Cap Index gaining 0.06%. Value stocks outperformed growth stocks, which is a break in trend from growth’s dominance over value in the past few quarters, with the Russell 3000 Value Index returning −1.54% compared with -2.44% for the Russell 300 Growth Index. Sector performance was mostly negative, with positive returns from only three sectors. Utilities and Real Estate were the strongest performers, returning 3.76% and 3.78%, respectively, whereas Financials was the largest straggler, posting a loss of 4.31%, followed by Materials, with a loss of 4.24%. Year to date, the Information Technology and Consumer Discretionary sectors are the only sectors in positive territory, at 3.53% and 3.09%, respectively. The Bloomberg Commodity Index was down for both the month and quarter, returning -0.62% and -0.40%, respectively, but has outpaced many of the more traditional equity and fixed income asset classes.

International equity markets generated better results when compared with their domestic large cap counterparts, with the MSCI ACWI ex-U.S. Index returning -1.76% for the month of March. Eurozone economic growth remains solid, and the European Central Bank expects the economy to expand in the near term at a faster pace than was previously expected, forecasting real GDP to hit 2.4% in 2018. Both international developed and emerging markets equities experienced a pullback for the month, with the MSCI EAFE Index and MSCI EM Index posting losses of 1.80% and 1.86%, respectively. Regionally, Europe was a top international performer from a relative standpoint, declining only 1.20%, whereas the Pacific region ex Japan was down 4.16%. The MSCI China index was down 3.29% in March but still was able to log a 1.82% gain for the quarter. Within emerging markets, EM Latin America continued to be a strong performer, losing only 0.96%, but maintaining a sizable advantage over its peers year to date, with an 8.02% gain in Q1.

Fixed income markets posted mostly positive returns for the month, as longer-term yields trended lower. The first rate increases for 2018 were implemented in March, as the Federal Open Market Committee (FOMC) voted to hike the fed funds rate 25 basis points to a range of 1.50% to 1.75%. Despite this increase, the yield on the 10-Year Treasury Note decreased, ending the month at 2.74%. This resulted in a flatter US Treasury curve at month’s end, as the yield on the longer 20- and 30-year bonds fell 17 and 16 basis points, respectively, whereas at the shorter end of the curve, the yield on the three- and six-month Treasury notes rose eight and seven basis points, respectively. This rate hike was the first of three or four increases that the FOMC, under new Federal Reserve (Fed) Chairman Jerome Powell, is expected to make in 2018, as the Fed continues to normalize rates in response to favorable economic activity. The Bloomberg Barclays U.S. Aggregate Bond Index increased by 0.64% for the month, but was down 1.46% for the quarter. Global bonds continued to outperform domestic fixed income, as the Barclays Global Aggregate ex-U.S. Index returned 1.43% and 3.62% for the month and quarter, respectively. Similar to their taxable bond peers, municipal bonds posted mostly positive returns, with the Bloomberg Barclays Municipal index returning 0.37% for the month. Within the municipal space, longer-term securities fared better, with the Bloomberg Barclays Municipal Long 22+ Year Index outpacing the Bloomberg Barclays Municipal 1-3 Year Index by 64 basis points. Both the US Corporate Investment Grade Index (up 0.25%) and the US Government Index (up 0.93%) outperformed high yield fixed income, which returned -0.60% for the month.

EWM Macro View-February 2018

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The domestic equity market reminded investors in February that volatility does still exist. The modest weakness in the final week of January turned into a rout over the first few trading days of February, as investors were spooked by data showing the first signs of inflation, including continuing upward wage pressure. This data sent all of the major indices down 7.5%-9.0% by February 8. However, ongoing positive earnings reports, including the significant projected impact of the tax reform bill passed in December, allowed the market to recover a little more than half of those losses over the remainder of the month. Energy was one of the worst performing sectors, as rising US inventories caused oil prices to fall nearly 8.0%. The more defensive segments of the market were also hit hard, particularly the dividend payers and other bond proxies, as interest rates rose sharply during the first three weeks of February. The Information Technology sector had the only positive return for the month, very modest in the large cap space and essentially flat in small caps.

 

February was the first month since last March that posted a negative return in all three of the major US Indices: the Dow fell 4.0%; the S&P 500 was down 3.7%; and the NASDAQ dropped by 3.7%. Large caps, as represented by the Russell Top 200 Index, were down 3.5% for the month, marginally outperforming small caps (Russell 2000 Index declined 3.9%) and mid caps (Russell Midcap Index fell 4.1%). The growth indices, led by their technology weights, outperformed their value counterparts by 1.8%-2.2%, across the market spectrum. The Bloomberg Commodity Index as a whole was down 1.7% but up 0.7% when the energy component is removed. The Dow Jones Wilshire U.S. REIT Index was down 7.6% for the month.

 

The international equity markets1 modestly underperformed the domestic markets in February, falling in sync during the first two weeks, but failing to rally nearly as far as the US indices during the latter half. Eurozone GDP growth remains strong, relative to recent history, and has shown signs of expanding beyond the core countries, as recent data from Spain and Portugal were particularly strong. Unemployment continues to fall across the common market as well. Yet the most recent CPI data shows inflation still well below the European Central Bank’s (ECB) target of 2%. Japan also reported the eighth consecutive quarter of positive GDP growth; however, the 0.5% annualized reading was well below the market’s expectation of 0.9%. The EAFE Index declined 3.7%, dragged lower by Greece, Spain, and Germany, all of which fell more than 6.8%. The emerging markets outperformed their developed counterparts, as the Emerging Market (EM) Index was down just 3.3%. Russia led the way, up more than 3.0% for the month.

 

Domestic fixed income markets2 largely posted negative returns in February, as interest rates rose sharply. Economic data continued to show modest but consistent wage growth, and January’s CPI numbers surprised to the upside. The US Treasury curve steepened slightly during the month, as the yield on the 2-year Treasury note rose 12 basis points, while yields on both the 10-year note and 30-year bond were up 15 basis points. Short-term indices hovered around the breakeven point, but losses increased the further investors moved out the yield curve.

 

The Aggregate Index (down 95 basis points) was dragged lower by a 1.5% decline in corporate credit, its main driver over the last several years, and both the mortgage-backed security (MBS) sector (down 66 basis points) and Treasury’s (down 75 basis points) also struggled. The non-investment grade indices fared slightly better, as the higher coupons of the High Yield Index (down 85 basis points) partially shielded investors from the rise in rates, and the floating rate nature of the S&P LSTA Leveraged Loan Index created a gain of 20 basis points for the month.

 

The municipal market continued to outperform the taxable market in February. New supply remains scarce, while municipal mutual funds received substantial inflows in two of the first three weeks. The 1-3 Year Index was up 14 basis points, while the 22+ Year Index was down just 42 basis points. Negative monthly returns, even those as modest as February’s, have traditionally led to substantial outflows from municipal funds. When combined with the presumed seasonal outflows in late March and early April, as individual investors pay their taxes, it would be easy to predict a difficult few months for the muni market. But new issuance averaged less than $5 billion a week in February, and the 30-day forward calendar has remained stable at $9.5 billion, meaning it may take a very significant drop in demand before munis begin to under-perform the taxable market.

 

The international fixed income markets also fell during February, at least in dollar terms. Yields on German Bunds, UK Gilts, and Japanese Government Bonds all ended the month lower, creating a modestly positive return for the currency hedged version of the Global Aggregate ex-US Index. However, the dollar ended higher against most currencies in February, the first month of appreciation since last October, both wiping out the gain and leaving the unhedged version of the Index down 85 basis points. The dollar also rallied against a broad swath of emerging markets currencies, which weighed on the local currency JP Morgan Government Bond Index (JPM GBI) performance (down 1.0%). Negative performance was even more pronounced for the hard currency JP Morgan Emerging Market Bond Index (JPM EMBI) (down 2.0%), as rising Treasury yields put upward rate pressure on dollar-denominated emerging markets government bonds, which trade at a spread over Treasury’s.

EWM Macro View-January 2018

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Domestic equity markets kicked off 2018 with a very strong January, as most stocks experienced gains, and the major equity indices reached new highs throughout the month. This was the best monthly return for the S&P 500 and Dow Jones Industrial Average (DJIA) since March 2016, and the best monthly return for the NASDAQ since October 2015. The DJIA surged above the 25,000 threshold for the first time ever during the first week of January, only to break through 26,000 on January 16, seven trading days later. Market participants continued to embrace the potential benefits from the Tax and Jobs Act of 2017, which provided lift to equities at year end and helped to kick-start 2018. The advance estimate of fourth-quarter gross domestic product (GDP) showed the US economy grew at a 2.6% annualized rate, which was slightly lower than expected and a dip from the two previous quarters that were both above 3%. Despite the slip in growth, the personal consumption component displayed a positive read, up 3.8%, leading many to look past the dip, as consumer spending drives roughly two-thirds of the economy. In the State of the Union address, President Trump urged Congress to pass a bill for $1.5 trillion in new infrastructure spending. Overall, we experienced many positive economic and market events to start the year.

 

Within this context, the S&P 500 gained 5.7%, despite closing the month with some selling pressure. The S&P 500 has now finished higher for 15 consecutive months on a total return basis. Large cap domestic stocks outperformed small cap equities, as the Russell 1000 Index was up 5.5% and the Russell 2000 gained 2.6%. Mid cap stocks trailed large cap as well, with the Russell Mid Cap Index gaining 3.8%. Growth stocks widely outperformed value stocks, with the Russell 3000 Growth Index returning 6.8% compared with 3.7% for the Russell 300 Value Index. In terms of sector performance, Consumer Discretionary was the strongest performer, gaining 9.3%, followed by Information Technology, which gained 7.6%. Utilities and Real Estate were the main laggards and the only two negative sectors, losing 3.1% and 1.9%, respectively. Over the last 12 months, the S&P Information Technology sector is up 43.1%, more than 1300 basis points ahead of the second-best performing S&P sector, Financials, which is up 29.8%. Broad-based commodities rose 2.0%, as energy prices surged and the dollar declined.

 

International equity markets posted strong results to start the year, with results mostly in line with large cap domestic stocks, as the MSCI ACWI ex-U.S. Index increased by 5.6% in January. International growth continued to show strength at the end of 2017, with the Eurozone posting GDP growth of 2.5% for the full year, which was above economists’ expectations, and its strongest reading since 2007. In December, the European Central Bank (ECB) lifted its growth estimate for 2018 to 2.3% from a previous estimate of 1.8%. The MSCI EAFE Index, which measures performance of international developed equities, gained 5.0%. Emerging markets continued to surge after a very strong 2017, gaining 8.3% in the first month of the year. EM Latin America and EM China were the top performers regionally, rising 13.2% and 12.5%, respectively. Regionally, Europe was a strong performer, increasing 5.4%, while Pacific ex-Japan posted a gain of 3.9%, trailing other regions.

 

Fixed income markets mostly traded lower for the month, as yields moved higher. The yield on the 10-Year Treasury Note surged higher on the month, increasing to 2.72% from 2.41% at year end, with the 31-basis points move higher reflecting the largest monthly increase since November 2016. The rise in yields has been widely expected to occur for over a year, as the Federal Reserve (Fed) has continued to shift rates higher at the lower end of the curve. Despite this expectation, the 10-year yield actually declined during 2017, even with three rate hikes. Shorter-term rates have been rising, but now the long end of the curve has caught up quickly. With expectations that the Fed, under the leadership of incoming Chair Jerome Powell, expects to increase rates three or four times in 2018, there is even greater likelihood that longer-term rates may trend higher as well. The Barclays U.S. Aggregate Bond Index declined by 1.2% for the month. Showcasing the benefit of diversification across fixed income, global bonds continued to outperform domestic fixed income, as the Barclays Global Aggregate ex-U.S. Index gained 3.0%. Similar to their taxable bond peers, municipal bonds posted slight losses, declining 1.2%. High yield fixed income produced stronger results relative to investment grade, gaining 0.6%.

EWM Macro View-January 2018

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Domestic equity market returns were mixed, but generally modestly positive in December, with out performance shifting to the value indices in large and mid cap stocks, after growth dominated most of the year. December was a busy month in terms of impactful news and events. As widely expected and clearly telegraphed, the Federal Reserve (Fed) raised short-term interest rates in early December to a range of 1.25%-1.50%. This is the highest level for the federal funds rate since the third quarter of 2008. Retail sales numbers were strong leading into the holiday season, and consumer confidence remains positive. The major event of the month was the hurried completion of the 2017 Tax Reform and Jobs Act, right before Congress adjourned for the year. As expectations for a completed bill rose during the month, the equity markets responded in tandem, particularly in those sectors where companies’ average effective tax rate was higher than the new bill’s target, namely consumer staples, energy (also boosted by rising oil prices), and consumer discretionary. A number of individual issues climbed sharply on expectations those firms would take advantage of the “tax holiday” included in the bill, a one-time lowering of the tax rate due on profits held overseas. Congress also passed a temporary spending measure to keep the government open until mid-January, but several thorny issues must be addressed by both houses early in 2018.

Within this context, domestic equities were mostly higher for the month, as the Russell 3000 Index gained 1.00%.

Large caps, as represented by the Russell Top 200 Index, outperformed mid cap issues by a small margin, but the value-oriented indices were well ahead of their growth counterparts in both asset classes. The one outlier in the domestic market was small caps: The Russell 2000 Index was down -0.40% for the month, and the growth component outperformed the value component by more than 1%. The Financials sector, the primary driver of this reversal, and comprising roughly 31% of the value index and 18% of the core index, was down 2.50% for the month. The Bloomberg Commodity Index as a whole was up 2.99% for the month, as the rally in energy (crude oil was up 5.3% in December) continued through the end of the year. The Dow Jones Wilshire U.S. REIT Index declined 0.13% for the month.

International equity markets continued to perform well during the month, building on momentum throughout 2017. In particular, emerging markets were the strongest performer and gained 3.6% during December, easily outpacing their developed market counterparts, which gained 1.6%. Local currency returns were slightly lower, as the dollar was broadly weaker on continued moderate US inflation data, which calls into question the Fed’s ability to implement three rate hikes in 2018. Japan is still a laggard among the developed markets (+0.70%), but several positive signs are apparent. Inflation picked up slightly, though still well below target, and the unemployment rate fell more quickly than expected, to 2.7%, while household spending also ticked up. Additionally, the Eurozone enjoyed good economic news, as consumer prices were up 1.5% from a year earlier, nearing the European Central Bank’s target. In addition, unemployment has fallen to 8.8%, its lowest level since January 2009. Although China’s markets cooled during December, they still rose 1.9% and finished the year up over 54%.

Domestic fixed income markets largely posted very modest returns in December, but even that was a surprise. The US Treasury curve flattened even further in December, driven by the expected Fed rate hike at the short end and lower inflation expectations and strong investor demand for longer dated issues. Yields rose 10-14 basis points in the first two years of the curve in December, tapering off to just a 2-basis point rise on the 7-year maturity. The yield on the 10-year Treasury Note fell by 2 basis points in the month and by 9 basis points on the 30-year maturity. This led to the 1-3 Year Treasury Index falling 0.28% for the month, while the 20+ Year Index was up 2.55%. The Aggregate Index (+0.39%) was led by investment grade corporate credit (+1.05%), which outperformed both Treasurys (+0.05%) and mortgage-backed securities (+0.15%). Current corporate fundamentals remained solid, and the anticipation of increased cash flow from the lower corporate tax rate in 2018 drove spreads tighter by 4 basis points. These same drivers led the high yield index up 0.30% and the S&P LSTA Leveraged Loan Index up 0.40% for the month.

December’s biggest news in domestic fixed income was the municipal bond market, as details of the tax reform bill crystallized and clarified that the municipal market was about to undergo a significant change. The key provision in the bill was removing the ability for municipal bond issuers to refinance their debt through the pre-refunding process. This created a rush to market by issuers wanting to get ahead of the December 31 deadline. New issuance was up more than 30% in November over the previous year, and December posted a record $62.5B in issuance. Despite this massive wave of issuance, there was more than enough demand for these issues, causing spreads to tighten further and creating positive returns for even short-maturity municipal bonds.

The international fixed income markets were also modestly positive during December, aided by the dollar’s aforementioned weakness. The Global Aggregate ex USD Index was up 0.27% on an un-hedged basis, while the hedged version of the Index was up just 0.04%. Emerging markets debt also posted positive returns for the month, led by local currency bonds returning 2.00% versus 0.73% and 0.24% for hard currency sovereigns and emerging markets corporates, respectively.

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EWM Macro View-September 2017

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Domestic equity markets continued their move higher in September, with the major US indices closing the month at or near record-level territory. The S&P 500 and NASDAQ Composite both ended the month at record levels. In a familiar theme throughout 2017, investors once again filtered out much of the noise and largely discounted concerns that would typically have a negative impact on markets. Several of these anxieties include geopolitical headlines from North Korea, a more hawkish Federal Reserve (Fed), the financial impact from several large scale storms that hit Texas, Florida, and Puerto Rico, and a slight setback in a push for a centralized and more efficient euro zone from German elections. Despite these events, the S&P 500 recorded its least-volatile September in history and has continued the trend of 2017 being the least volatile year on record. However, October is historically the most volatile month, so we may see some of that calmness abate. At its September meeting, the Federal Open Market Committee (FOMC) voted to begin trimming the $4.5 trillion balance sheet, through its balance sheet normalization program that had built up through quantitative easing since the Great Recession. The third reading on 2nd quarter (Q2) gross domestic product (GDP) was +3.1%, a slight uptick from the prior reading. Strength in consumer spending, which makes up more than two-thirds of the US economy, at +3.3%, was a larger driver of the overall improvement from +1.2% in the 1st quarter (Q1).

Within this context, domestic equities were mostly positive during the month. The S&P 500 gained +2.1%, pushing its year-to-date return to +14.2%, while the NASDAQ Composite posted slightly weaker returns of +1.1% but closed out a strong third quarter with a gain of 6.1%, improving its year-to-date performance to 21.7%. Small cap widely outperformed large cap by over 400 bps in September, as the Russell 2000 Index returned +6.2%, compared with +2.1% for the Russell 1000 Index. The small cap outperformance story carried across investment styles, with the Russell 2000 Growth posting a gain of 5.5% and Russell 2000 Value gaining 7.1%. Also reversing a large trend from this year, value stocks outperformed growth stocks, with the Russell 3000 Value gaining +3.3% vs. +1.6% for the Russell 3000 Growth. Despite the gain for value in September, the year-to-date difference of growth outperforming value stands at 1270 bps. In terms of sector performance, Energy was the strongest performer, gaining 10% in the month, followed by Financials, which gained 5.4%. Utilities and Real Estate were the main laggards, losing -2.7% and -1.4%, respectively. Energy prices rose, but more broad-based commodities were relatively flat, as metals sold off.

International equity markets were relatively mixed versus domestic equities. The MSCI ACWI ex-U.S. Index increased by +1.9% for the month and is now up +21.1% year-to-date. International developed markets rallied behind continued improvement in the global economic landscape, which has fueled much of the return this year. Eurozone GDP growth was +2.3% year-over-year in Q2, picking up speed from Q1, behind higher consumer spending. The MSCI EAFE Index, which measures performance of international developed equities, gained +2.5%. In a break in the trend from what has already been a very strong year, emerging markets equities traded lower on the month, finishing down -0.4%, but are still up +27.8% year-to-date. Regionally, Europe and Japan were strong performers, gaining +3.3% and +2.0%, respectively. After the strong month, the MSCI Europe Index is now up +22.8% year-to-date. China struggled relative to its peers, with only a +1% gain, cooling off from the strength it has shown this year, with a nine-month return that stands at +43.2% year-to-date.

Fixed income markets mostly traded lower for the month, as yields moved higher. The yield on the 10-Year Treasury Note began the month at 2.12%, and traded as low as 2.03% earlier in September, defying market expectations. However, as markets began to give more credence to central bank tightening, and the Federal Reserve announced its plan to begin unwinding its balance sheet, government bonds sold off and yields spiked, with the yield on the 10-Year Treasury Note closing the month at 2.33%, up 21 bps for September. The Barclays U.S. Aggregate Bond Index fell by -0.5% for the month, and is now up +3.1% year-to-date. Global bonds trailed on the month but are still out ahead of domestic fixed income in 2017.The Barclays Global Aggregate ex-U.S. Index lost -1.3% behind a stronger US dollar, and is now up +8.7% year-to-date, with a weaker US dollar fueling much of the this year’s returns. Municipal bonds posted slight losses comparable to their taxable peers, losing -0.5%, and are now up 4.7% year-to-date. High yield fixed income performed better, in accordance with the risk-on sentiment that also has been visible within fixed income, as the Barclays U.S. Corporate High Yield Index increased by +0.9% and is now up +7.0% year-to-date.

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EWM Macro View-June 2017

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Domestic equity market returns were generally positive again in June, though there was a sharp reversal in the trends from the first two months of the quarter. US economic data was again mixed in June, with positive news in employment, slowing inflation, and another increase in the first quarter GDP estimate offset by negative news in retail sales, durable goods, and consumer sentiment. On the employment front, initial jobless claims were under 250,000, and continuing claims were under 2,000,000 each week in June. Headline inflation dropped by 0.1% in May, making the year-over-year change just 1.9%, and core CPI (ex-food and energy) was up 0.1% in May, but just 1.7% over the trailing 12 months. And the final revision to first quarter GDP pushed the figure to 1.4%, double the original 0.7% estimate in April.

 

On the downside, US retailers reported the largest decline in sales since January of 2016, -0.3%. More than 300 retailers have filed for bankruptcy in the first half of the year, up 30% from last year. There have been 5,300 further store closings announced through June this year, three times the number last year, and more than 85% of the number of closings in all of 2008, the worst year on record. Durable goods orders fell 1.1% in May, following a similar decline in April. Those two drops were preceded by four months of reasonably strong increases, a sign that businesses and consumers are less confident in the Trump administration’s ability to effectively implement its agenda of healthcare and tax reform, in addition to more regulatory changes. Throwing more confusion into the mix is the housing market, which had very mixed signals this month as well. Nationally, average home prices rose by 1.2% from April to May and by 6.6% over the trailing 12 month period. Despite the jump in prices, both new and existing home sales were significantly stronger in May. However, home builders’ confidence fell in both May and June (though still remains positive), evidenced by reduced new housing starts in May, the third straight monthly decline. Finally, the pending home sales index fell 0.8% this month, also the third straight decline.

 

Within this context, domestic equities were mostly higher during the month, but performance was strongest in the smaller cap and value indices. The Russell 1000 Index gained just 0.70%, while the Russell 2000 finished the month up 3.46%. This was a significant change from May, when the large cap index outperformed by more than 3.25%. Within the large cap index, the growth component was actually down 0.26% vs. the value component’s return of 1.63%, again a reversal from the growth index outperforming the value index by 2.50% in the previous month.  There was a difference of just 6 basis points in the value and growth segments within the Russell 2000. The top-performing sectors in the month (across all market caps) were Financials and Health Care, while Information Technology and Telecommunications Services sharply under performed. The Bloomberg Commodity Index as a whole was down 19 basis points in June, but that disguises a wide range of returns within the commodity sectors. The Agricultural and Industrial Metals sub-indices both returned more than 3.00% for the month, while both the Energy and Precious Metals sub-indices were down more than 3.00%. REITs rebounded after a poor showing in April and May, as the Dow Jones U.S. Select REIT Index was up 2.45% in June and up 1.64% for the quarter.

 

International equity markets were mixed in June, with most returns either in line or slightly lower than domestic returns. The MSCI World ex-U.S. Index posted a return of just 9 basis points for the month, as strong returns from New Zealand and Australia were offset by negative returns from most of Europe. The MSCI Emerging Markets Index posted a gain of +1.01% for the month, with strength in Asia offsetting weakness in Eastern Europe and the Middle East (mostly Russia and Qatar). The dollar depreciated against most major currencies in June, despite the increase in short-term interest rates. The significant exceptions were against the Russian ruble and Columbian peso, against which the dollar appreciated by roughly 5% and 4%, respectively. The dollar was also marginally stronger against the Japanese yen and South Korean won.

 

Domestic and global fixed income markets pulled back slightly in June, after posting strong performance in April and May. The Federal Reserve’s (Fed’s) second rate hike of the year in early June helped push yields higher in the short and intermediate portion of the curve. U.S. Treasury yields for maturities from two to ten years rose by 10-13 basis points, though thirty-year yields fell by 3 basis points. Inflation continues to soften, as trailing 12-month CPI, both headline and core, fell below 2.0% as of the end of May. Demand for fixed income assets remains strong, particularly for riskier credits, as flows into mutual funds and ETFs have already eclipsed last year’s flows. Most of the broad taxable fixed income indexes had modestly negative returns for the quarter, ranging from -10 to -40 basis points. Only the credit indices (both investment grade and high yield) showed nominal gains, as higher coupon income and modest spread tightening overcame the increase in rates. The worst performer for the month was the Bloomberg Barclays U.S. TIPS Index, down 95 basis points in June. Municipal bonds under-performed their taxable counterparts in June, as municipal yields also rose between 8 and 12 basis points for maturities out to seven years. Long maturity municipal rates rose as well, but by less than the front end of the curve, resulting in a slightly flatter muni curve at the end of June. Limited issuance (roughly 15% less than last year) and steady demand continue to support the tax-exempt market. The global fixed income markets followed the same pattern, as the Bloomberg Barclays Global Aggregate ex-U.S. Index was down 9 basis points, while the JPMorgan EMBI Global Diversified Index was down 14 basis points. On the credit side, the Bloomberg Barclays Global Credit Corporate Index was up 42 basis points, and the Global High Yield Index was up 17 basis points for the month.

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EWM Macro View-May 2017

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Domestic equity markets continued their move higher in May, with the major US indices closing the month near record-level territory. Despite the strength in stocks, the month was not without drama, which led to a brief dip in optimism amid President Donald Trump removing FBI Director James Comey, fueling fears that this action could result in further Congressional gridlock and slow the potential fiscal reforms. However, the market filtered out the noise (as it has done this year) and focused on positive developments. First-quarter earnings reported through month- end were strong, with S&P 500 companies reporting earnings that were up roughly +14% and revenues that were higher by +7%, when compared with the prior year, with nearly 75% exceeding estimates. Volatility, as measured by the CBOE Volatility Index (VIX), reached levels not seen in more than 20 years and broke below 10 several times throughout the month. Although the Federal Open Market Committee (FOMC) left its key benchmark rate unchanged in May, as was expected, the Federal Reserve (Fed) meeting minutes indicate that a June increase is likely, with Fed Funds futures traders pricing in over a 90% likelihood of a 25 bps increase. The second estimate of first-quarter GDP of +1.2% was better than initially reported. Consumer spending, the largest part of the economy, was revised higher to +0.6%, which was double the +0.3% pace in the advance reading.

 

Within this context, domestic equities were mostly higher during the month. The S&P 500 gained +1.4%, pushing its year-to-date (YTD) return to +8.7%, while larger gains were seen in the tech-heavy NASDAQ Composite, which advanced +2.7%,  and is now up +15.7% YTD. The Russell 2000 Index of small cap stocks under-performed relative to the Russell 1000 Index of large cap stocks, with a monthly return of -2 %, compared with +1.3%, respectively. Growth stocks outperformed value stocks, with 268 bps of difference between the Russell 3000 Growth’s return of +2.34% and the Russell 3000 Value’s return of -0.34%. In terms of sector performance, the top performers were Information Technology and Utilities, with returns of +4.4% and +5.1%, respectively. Energy and Financials continued to struggle in 2017, with both sectors producing negative returns, -3.4% and -1.2%, respectively. Commodity prices declined by -1.34%, while REITs were down slightly, at -0.6%.

 

International equity markets mostly outperformed their domestic peers in May. The MSCI World ex-U.S. Index increased by +3.2% for the month and is now up +13.7% YTD. International developed markets rallied behind improved economic sentiment in Europe and the future of the European Union (EU), following the French election victory of Emmanuel Macron over Marine Le Pen. The MSCI EAFE Index, which measures performance of international developed markets, gained +3.7%. Emerging markets posted strong results, with a gain of +3% on the MSCI Emerging Markets Index, which is now up +17.3% YTD. Regionally, China, Europe, and EM Asia were the best relative performers, with returns of +5.3%, +4.9%, and +4.5%, respectively. EM Eastern Europe and EM Latin America were the poorest relative performers, losing -3.4%, and -2.4%, respectively.

 

Fixed-income markets mostly posted gains during the month. The yield on the 10-Year Treasury Note began the month at 2.28%, moved higher to 2.42% at one point, and closed at 2.20%, a drop of 8 bps for the month. Investors flocked to treasuries mid-month, leading to yield contraction amid concerns that the Fed intends to raise rates despite potential delays in fiscal stimulus. Within this environment, the yield curve flattened in May, as intermediate- and long-term yields declined from April levels, while short-term yields mostly held steady. Broad-based fixed income posted gains, with the Barclays U.S. Aggregate Bond Index increasing +0.8% for the month. Global fixed income markets performed slightly better, as the Barclays Global Aggregate ex-U.S. Index gained +2.2%. The Barclays U.S. Corporate High Yield Index increased by +0.9% and is now up +4.8% YTD. Municipals posted a gain of +1.6% during the month and are up 3.9% YTD.

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