Backward-looking economic signals continue to be positive, with 2Q-17 real gross domestic product (GDP) revised up to 3.1%. While manufacturing and producer surveys remained positive, core PCE, the Federal Reserve’s preferred measure of price inflation, moved down to 1.3% on a year-over-year basis.
The unemployment rate dropped to 4.2% in September, even as nonfarm payrolls unexpectedly declined by 33,000, the first monthly subtraction in seven years. The impact of hurricanes Harvey and Irma largely explains the drop, which is subject to revision and final reporting. Average hourly earnings increased by 2.9% year-over-year, matching a post-recession high established in July.
The Federal Open Market Committee (FOMC) met on September 19 & 20, with the consensus expectation that rates would remain unchanged but that quantitative tightening was ready to commence. Effective in October, the Fed’s $4.5 trillion stockpile of assets will begin to dwindle as principal payments from US Treasury (UST) and Agency MBS will be reinvested only to the extent that they exceed gradually rising caps.
The FOMC’s revised economic projections and the new “dots plot” were viewed as mildly hawkish. Even as they are “monitoring inflation developments closely”, the Committee continued to project another 25-basis point (bps) hike by the end of the year, followed by three more quarter-point hikes in 2018. At this point, the market is showing more than 70% probability of another rate hike in December, but much less upward migration next year than FOMC participants themselves are forecasting.
The European Central Bank (ECB) is expected to discuss reducing the pace (taper) of its asset purchases in October, although it is not expected to raise rates anytime soon. China’s 19th Party Congress will meet in October and will likely allow President Xi Jinping to solidify power.
With limited exceptions, September was a solid contributor to the ongoing advance in global equities. The S&P 500 index closed at new all-time highs on ten separate occasions during the month, including the final trading day of September. With a total return of +2.1%, the benchmark index has now recorded eight consecutive quarterly gains.
The focus on potential tax reform sent small cap stocks higher in September, with the Russell 2000 outperforming the S&P 500 by more than 4%.
In the international markets, the developed nations significantly outperformed the emerging countries. The MSCI EAFE index was up +2.5%. MSCI Pacific Ex-Japan was the laggard within develop markets, down -0.9% as the Yen suffered relative to the U.S. dollar.
The MSCI Emerging Markets index was down -0.4% for the month, with wide divergence among the sectors and regions. Latin America (+1.6%) and Eastern Europe (+1.5%) led the way, with Europe, Middle East, Africa (-3.8%) solidly in negative territory.
Real estate was down for the month, with both the FTSE NAREIT U.S. Real Estate index (-0.6%) and the FTSE EPRA/NAREIT Developed index (-0.2%) reversing course from last month. The Alerian MLP index (+0.7%) continued its volatility as of late, this month benefitting from the strong upward movement in oil (+9.4%).
With the risk-on attitude in place, and given the direction of interest rates and the U.S. dollar, gold finished down -2.8%. The Bloomberg Commodities index as a whole lost -0.2% for the month.
Despite an initial flight to safety that benefited high-quality issues, fixed income assets ultimately suffered losses in September. The Bloombar Global Aggregate index gave back -0.9% during the month, erasing a portion of the summer’s gains.
Even as intra-month movements lacked convention, the UST yield curve steepened modestly in September. Policy sensitive 2-year UST yields pushed higher as the market became increasingly convinced of the FOMC’s resolve to follow through with its projected path of policy normalization. The 1.49% closing level was last touched in October 2008, which coincides with the height of the global financial crisis.
The Bloombar US Aggregate index returned -0.5% in September, with government-related issues lagging the primary market’s other key sectors. IG corporate credit spreads finished 9 bps tighter. Although this results in a new YTD low, and nearly matches 10-year lows, underlying rate sensitivity still resulted in a -0.2% loss for the Bloombar US Corporate Investment Grade index during the month.
The Bloombar US Corporate High Yield index was able to more effectively ride the credit wave to a +0.9% gain in September. Overall spreads for the category moved tighter by 31 bps, and it was the lowest-rated CCC layer that captured the most benefit.
Emerging market bonds were essentially flat overall, but remain strong performers YTD given the attractiveness of higher local interest rates and steady/improving economic fundamentals. With sub-6% yields now common across these more equity-sensitive categories, careful security selection is certainly warranted.
Disclaimers: The data contained in this report is provided from Asset Consulting Group (ACG). This is not an offer to buy or sell securities. No investment process is free of risk and there is no guarantee that the investment process described herein will be profitable. Past performance is not indicative of current or future performance and is not a guarantee. In preparing these materials, we have relied upon and assumed without independent verification, the accuracy and completeness of all information available from public and internal sources. Gryphon Financial Partners shall not in any way be liable for claims and make no expressed or implied representations or warranties as to their accuracy or completeness or for statements or errors contained in or omissions from them. This was created for informational purposes only. Gryphon Financial Partners, LLC is a Registered Investment Adviser.