3Q 2019 Market Summary
Global equity markets were a mixed bag during the third quarter of 2019. While large cap domestic stocks continued their slow and steady grind forward, small cap U.S. stocks and non-U.S. equities experienced declines. The S&P 500 Index returned 1.7% during the quarter and is up 20.6% year-to-date through September 30. The impressive year-to-date return for the S&P 500 marks the best first nine months of a calendar year since 1997, however much of this gain came during the first quarter of the year.
Consumer staples, utilities, and real estate sectors were winners during the quarter, while energy, basic materials, and healthcare stocks lagged. Value and growth stocks were neck-and-neck during the quarter, although the month of September saw a shift in market sentiment following a temporary spike in oil prices, which allowed value stocks to outperform growth for the month. Year-to-date, the Russell 1000 Growth Index returned 23.3% compared to 17.8% for the Russell 1000 Value Index.
The Russell 2000 Index (representing small cap stocks)dropped 2.4% during the quarter, while the Russell Microcap Index declined 5.5%. The negative quarter for smaller companies contributed towards the continued divergence from larger companies. Over the trailing 12 months ending September 30, the Russell 1000 Index (representing large cap stocks) has lost 8.9% of its value, microcaps are down almost 16%, while the S&P 500 returned a positive 4.3%.
Non-U.S. stocks continued to lag domestic large cap stocks. The MSCI EAFE Index dropped 1.0% during the quarter, but returned 12.8% year-to-date. Emerging markets also struggled, with the MSCI Emerging Markets Index down 4.3% during the quarter and up only 5.9% year-to-date.
The Federal Reserve lowered its key Federal Funds rate for the second time this year in September, down to a range between 1.75% and 2.00%. This easing caused interest rates to decline across the yield curve during the quarter. One-year Treasury yields dropped 0.16% during the past quarter to 1.77% while 10-year yields dropped 0.32% to end the third quarter at 1.68%. Ten-year yields have dropped a full percentage point since the beginning of 2019.
As interest rates declined across the yield curve, most fixed income sectors generated strong returns. The Bloomberg Barclays U.S. Aggregate Bond Index rose 2.3% during the quarter and is up 8.5% year-to-date. High quality corporate bonds were especially impressive during the quarter with the Bloomberg Barclays U.S. Corporate Bond Index returning 3.1% during the quarter and 13.2% over the past nine months. High yield bonds lagged investment grade corporate bonds but still generated robust returns of 1.3% for the quarter and 11.4% year-to-date. Municipal bonds also benefited from declining interest rates, returning 1.6% during the quarter and 6.7% year-to-date.
The Bloomberg Barclays U.S. Aggregate Bond Index returned 3.1% during the quarter, while the Bloomberg Barclays U.S. Corporate Bond Index returned 4.5%. The Bloomberg Barclays Municipal Bond Index returned 2.1% during the quarter. Lower-quality bonds continued to generate decent returns as the Bank of America Merrill Lynch U.S. High Yield Index returned 2.6% during the quarter.
The Bloomberg Commodity Index fell 1.8% during the quarter despite surging gold prices. The LBMA Gold Price Index returned 5.4% during the quarter and 14.6% since the start of 2019. Oil prices fell during the quarter from $59 to $54 for a barrel of WTI Intermediate crude oil.
Equity and bond markets continue to send conflicting signals. Bond markets are flashing a clear warning sign as rates plunged largely due to expectations of an economic slowdown. Headline risk also remains high, largely due to geopolitical events including impeachment talks in the U.S., BREXIT, Hong Kong protests, and oilfield attacks in Saudi Arabia.
However, while volatility returned to the stock market in recent months and small cap stocks have struggled, U.S. large cap equities remain near all-time highs, suggesting some investors remain optimistic about the near future.
Rather than attempting to predict short-term economic outcomes, investors should continue to focus on their long-term investing goals. In equities, that means focusing on the subset of high quality companies trading at reasonable valuations based on their long-term earnings prospects. For bond investors, that means avoiding the temptation to reach for yield, and instead focus on capital preservation.