In March, we continued with our global Stagnation outlook for the twelve-month forward period. Expectations for the world economy in 2017 are relatively unchanged from last month. The U.S. economy is expected to stagnate as Trump fiscal stimulus is not expected until 2018. Political clouds on the horizon include the first round of the French election and the official start to the U.K.’s “Brexit” negotiations. Meanwhile, Trump’s “America first” approach to international relations and trade policy is an evolving challenge for the rest of the world and will be assessed on an ongoing basis for impact on the global recovery.
The Federal Reserve raised its benchmark rate to 1% (+25 basis points) on March 15th, a move that was widely expected. The Fed’s decision to hike interest rates in light of the apparent weakening in economic data since the start of the year, with the Atlanta Fed’s Q1 GDP tracker having fallen below 1% annualised, was expected. Treasuries rallied and the dollar weakened because a hawkish Fed did not turn incrementally more hawkish, and Yellen’s press conference largely stuck with the tone of her previous speech on the outlook. The committee’s confidence in the economy remains intact while recent inflationary pressure has been downplayed and the March intervention does not represent an acceleration in the normalization process. The FOMC upgraded its assessment of business investment that “appears to have firmed somewhat”.
One of the main stories from February’s employment report was the turnaround in employment growth in the three main goods-producing sectors of mining, manufacturing, and construction. When looking at the overall employment picture, inconsistencies remain (hours worked, wages, soft non-energy exports and investment intentions) and lack of clarity on U.S. tax and trade issues contributes to uncertainty. Residential investment grew to a historic peak of 7.6% of GDP, more than half of which representing renovations & transfer costs which could ease even as new construction remains elevated.
Stock market optimism has helped loosen financial conditions in the U.S. since December, even as short-term borrowing costs have advanced following the Fed rate hike. Credit spreads have fallen while the U.S. dollar has struggled to maintain its post-election ascent so far this year. This constitutes stimulus to the global economy that offsets the tightening cycle.
U.S. equities performed strongly in February, with the S&P 500 gaining 4%, S&P Midcap 400 gaining 3% and S&P SmallCap 600 up 2%. Canadian equities posted slight gains in February, with the S&P/TSX Composite TR up 0.2%. The S&P Europe 350 TR added 2.9% and moved into positive territory for the year. After a somewhat lackluster start to the year, the S&P/ASX 200 returned 2.3% in February. Results for U.S. fixed income were positive for the month, with investment grade corporates and high yield continuing to perform better than Treasuries. Commodities performance was mixed, with Gold Spot up 3.1% and Nymex WTI Crude 0.9%.
Following the Fed’s move, we made some small changes to the portfolio models in March. In the Conservative and Moderate Growth models, we increased the allocation to U.S. Small Caps over Mid Caps. In Aggressive Growth, we shifted a portion out of U.S. Mid Caps into European Equities. In fixed income, we shifted a portion from 3-7 year Treasury and added to the U.S. Muni bond exposure in the Conservative, Moderate Growth, and Growth models. This furthers the shift to Muni Bonds that began in February.
We will continue to monitor the data for growth signals from employment, consumer spending, business sentiment, Fed policy, the yield curve, inflation, and global economics. Our focus is on protecting portfolios from downside risk, and we believe that our investment process is working to achieve that goal.
Deborah Frame, President and CIO
Data Source: Bloomberg