Equity markets rebounded in January, after one of the steepest monthly declines since the global financial crisis. U.S. equities had their best January performance in over thirty years, rising 8.0% despite a lackluster earnings period, where companies are currently beating expectations at one of the lowest rates in two years. Emerging and developed market equities also rebounded in January - rising by 7.2% and 5.5%, respectively.
After an abysmal quarter, oil bounced back with an 18.5% gain. Positive catalysts were Venezuela sanctions, a drop in U.S. fuel stockpiles and dovish Fed forward guidance.
The longest government shutdown in U.S. history, which lasted thirty-five days, came to a temporary resolution in January, allowing the government to reopen and providing House and Senate negotiators three weeks to reach a permanent deal. The Congressional Budget office estimates that the shutdown will result in a detraction of 0.4% from 1Q19 GDP.
US-China relations continued to dominate headlines, as the U.S. filed criminal charges against the Chinese tech giant Huawei and trade conversations with China’s delegation took place in Washington during the last week of the month. After the negotiations, President Trump expressed interest in meeting with President Xi during late February. Chinese equities stayed resilient to trade war headlines and rose 11.2%.
At the end of the month, the Federal Reserve dovishly shifted its forward guidance, stating that it will be “patient” with raising rates going forward and is also open to adjusting the balance sheet normalization process. After the Fed voiced cautious comments around economic conditions, gold hit its eight month high. U.S. government bond rates declined across the yield curve and the spread between 2-year and 10-year Treasury yields narrowed to 0.18%, where it sits below its longer-run average of 0.95%.
U.S. equity volatility, measured by the VIX index, ended the month at 16.6, a 34.8% drop compared to a month earlier. The historical average of the VIX is 19.3.
Short-Term Market Outlook
Our economic outlook weakened further at the end of January. A decline in global trade data and new orders inventory were the primary drivers of the drop.
QS Leading Economic Indicator
Our assessment of leading indicators is the largest drag on our outlook of global stocks versus bonds, which marginally favors equities. Furthermore, valuation between the two asset classes, which has been a leading factor favoring equities in prior months has moderated recently. We believe that U.S. stocks are positioned to outperform international developed market equities. Price momentum, options market data and equity volatility support this conclusion. We believe that U.S. high yield is positioned to outperform U.S. investment grade, a sharp reversal from our forecast from the prior month. This position has changed due to two factors. Firstly, we observed spread compression between high yield and investment grade bonds — this is an indicator of stronger performance in high yield bonds. Secondly, high yield bonds typically perform well during times of declining equity volatility, which we observed occurring this month via the VIX Index as a proxy. European bonds are forecasted to outperform European stocks in our model. This position is mainly due to the weakness in European economic leading indicators.
Asset Class Preferences
Asset Class Preferences are based on QS Investors proprietary quantitative factor models. These rules-based financial models use a combination of indicators that analyze asset valuations, investor sentiment, and the broad economy.
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Global Equities represented by the MSCI ACWI Gross Total Return Local Index; Emerging Market Equities represented by the MSCI EM Gross Total Return Local Index; International Equities represented by the MSCI EAFE Gross Total Return Local Index; U.S. Equities represented by the S&P 500 Total Return Index; U.S. Small Cap Equities represented by Russell 2000 Total Return Index; Italy Equities represented by MSCI Italy Index (MXIT Index); Spain Equities represented by MSCI Spain Index (MXES Index); Greece Equities represented by MSCI Greece Index (MXGR Index). China Equities represented by MSCI China Net Total Return Local Index; U.S. Dollar (USD)represented by the Bloomberg Dollar Spot Index; Global Fixed Income represented by the Bloomberg Barclays Global Agg Total Return Index Value Unhedged USD; U.S. Fixed Income represented by the Bloomberg Barclays U.S. Agg Total Return Index Value Unhedged USD; Emerging Market Fixed Income represented by J.P. Morgan EMBI Global Core USD Index.
QSCR18391 (February 2019)