The S&P 500 index is back near an all-time high last seen in September of 2018, closing today less than 2% from that mark and notching a 7-day winning streak. Cyclical sectors such as materials, financials, and consumer cyclicals outperformed while the defensive sectors like staples, utilities and healthcare lagged. International equities slightly outperformed the U.S. with emerging markets showing the strongest weekly gain. Sentiment was overall positive for the week, with stronger manufacturing numbers out of Asia to start the week, and optimism over U.S. China trade talks that took place in Washington this week. The 10-year treasury yield spiked this week back to 2.50%, reversing the brief inversion in the 3-month and 10-year yield curve.
S&P 500: 2893 (+2.06%)
FTSE All-World ex-US (VEU): (+2.47%)
US 10 Year Treasury Yield: 2.50% (+.09)
Gold: $1,291.4 (-0.05%)
EUR/USD: 1.1216 (-0.02%)
- Monday – The Chinese purchasing managers index rose to 50.5 in March signaling a return to growth and signs of stabilization in Asia after poor February numbers.
- Monday – Lyft dropped below Friday’s IPO price of $72 and closed the trading day at $69.01.
- Tuesday – Walgreens Boots Alliance missed earnings and cut profit expectations acknowledging challenging economic conditions such as falling generic drug prices.
- Wednesday – President Trump lightened his rhetoric on closing the southern border wall from the threat of a complete cutoff to less drastic measures targeting illegal immigration.
- Thursday – Tesla stock dropped 8% after it reported weak earnings that showed lower than expected production and delivery numbers and uncertainty about Model 3 demand.
- Thursday – Jeff and MacKenzie Bezos announced an agreement to their divorce terms where Jeff will keep 75% of his shares and still retain voting control of MacKenzie’s 25%.
- Friday – Theresa May asked the European Union for another deadline pushback ahead of next week’s European Summit, hoping to avoid the current April 12th deadline with no deal.
- Friday – Payrolls came in above expectations at 196,000 in March, wage gains cooled, and the unemployment rate was reported at 3.8% near a 49-year low.
The headlines the past few weeks have been about the yield curve recently inverting, so let’s cover that to mix things up a bit from trade war and Brexit.
A yield curve is simply a graphical representation of prevailing interest rates plotted from short to long term maturities. In normal environments it is upward-sloping, reflecting the term premium of locking up money for a longer period (long term rates are higher). The Fed controls the short end which is what sets lending rates. As part of their policy tools, the Fed will raise and lower rates to try and keep pace with growth and inflation. Long-term rates reflect future expectations for growth and inflation and when bond buyers are pessimistic on these, they will drive long-term rates down by buying up long-term bonds. The risk of recession increases late in the cycle during restrictive periods where banks have higher reserve requirements they must meet and have lower incentive to lend creating tight credit conditions. The risk of Fed policy mistakes also heightens as the Fed must accurately time rate changes to reflect economic conditions in order to not push the economy into a recession. Therefore, it makes sense there is a reasonably strong relationship between yield curve inversion and a subsequent recession.
Recently the 10-year treasury yield dropped below the 3-month yield, meaning short term rates were higher than long term rates, causing an inversion in this key portion of the yield curve. The 3-month to 10-year relationship has inverted before the last 7 recessions. In the past, these were significant inversions that gave little indication on the timing of the recession that followed. The recent inversion was very small, only a few basis points, which has now reversed and is no longer inverted as of this week. The overall yield curve is flat, and we do not think this recent inversion is significant or indicative on the next recession. There has been an unprecedented amount of central bank intervention globally which causes distortions in the yield curve and therefore this must be taken in the context of the current environment. We think it is unlikely we get a materially inverted yield curve this year and are not currently concerned with a few basis points move either way.