March 2019
Progress on U.S./China trade negotiations and the Federal Reserve’s more dovish rhetoric regarding further interest rate hikes have not convinced us to change our forward outlook that expects the U.S. economy to experience stagnation over the next twelve months. Geopolitical risks remain elevated with Brexit’s outcome uncertain, upcoming elections in the European Union, and the leadup to the U.S. 2020 presidential election campaign likely to impact economic growth and markets. In addition, the combined effects of sanctions on Iran’s and Venezuela’s oil sectors, Saudi Arabia’s need to push oil prices up in order to get its finances in order, and the recent agreement by OPEC and other countries to cut production, means that geopolitics could have an outsized impact on oil prices over the next several months.
The Eurozone quarterly economic growth was confirmed at 0.2% in the fourth quarter of 2018, slightly above the previous period’s revised figure of 0.1%.1 Both Germany and Italy have been hit hard, partly due to slowing demand for their exports. While Germany has plenty of fiscal room, Italy, with public debt of more than 130% of GDP, has less ability to address its problems.2 The growth slowdown in China last year was a concern to businesses and market participants and was amplified by the escalation in trade tensions with the United States. Progress on U.S./China trade talks occurred as the March 1st deadline for hiking the tariff on $200 billion of China’s goods was deferred, pending further progress on structural reforms and enforcement measures. Outside of China, U.S. trade issues include USMCA ratification, metals tariffs, and a threatened U.S. duty on European autos.
The trade spat with China has resulted in a record increase in the U.S. goods trade deficit. China, which accounts for over half of the deficit, has significantly reduced purchases of U.S. oil after importing a record amount last summer.3 The trade gap is challenging U.S. growth, one of the reasons that U.S. real GDP slowed to 2.6% (annualized) in Q4 from 3.4% in Q3.3 Also challenging was the shockingly small February 20,000 headline job gain. Monetary policy is expected to remain accommodative through 2019.
Canada’s GDP expanded at an annualized pace of just 0.4% in the fourth quarter of 2018, well below the 1% expected by consensus.4 Domestic demand was a major drag on Q4 growth as consumption stalled (the worst performance since 2012), while government spending, business investment, and residential investment all subtracted from growth.
Following the significant drawdowns and large price swings in risk assets in late 2018, realized market volatility has dropped sharply across equity markets in 2019. U.S. equities managed to continue their winning streak in February. The S&P 500 gained 3.2% for the month, and smaller caps did even better, with the S&P MidCap 400 and S&P SmallCap 600 up 4.2% and 4.4%, respectively. Apart from U.S. Treasuries, bonds gained. Canadian equities were up in February, with the S&P/TSX Composite up 3.2%. Benefitting from global risk-on sentiment, European equities jumped in February, as the S&P Europe 350 gained 4.1% on the month. With less than four weeks to go until Brexit, U.K. equities rallied, sending the S&P United Kingdom up 2.4% on the month. In a major concession, U.K. Prime Minister Theresa May promised Parliament an opportunity to vote to extend Article 50 by up to three months and to prevent a no-deal Brexit, if it rejected her updated withdrawal agreement. German equities gained in February, despite the country narrowly avoiding a recession. Italian equities were also up on the month, even after Italy officially entered into recession. February was a positive month for Asian equities, with the exception of Korea and India. Commodities continued to post gains in February, driven by the boost in oil prices as a result of supply cuts from OPEC.
In March, we held our asset allocation constant at the February allocations. Allocation to Equities remains at 30% in Tactical Conservative, 40% in Tactical Moderate Growth, 50% in Tactical Growth, and 60% in Tactical Aggressive Growth, continuing the exposure to U.S. equities, with the balance in all models allocated to U.S. municipal bonds and mid-term U.S. treasuries. This asset allocation continues to reflect our concerns that the U.S. economy is slowing but is more stable than other global equity markets, and the relative attractiveness of interest rates in the U.S. versus the rest of the world.
We will continue to monitor the data for growth, inflation, and recession 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
1Trading Economics, Europe GDP. March 2019.
2Trading Economics, Italy Government Debt to GDP. December 2018.
3BMO Capital Markets. North American Outlook. March 4, 2019.
4Trading Economics, Canada GDP. January 2019.
Index return data from Bloomberg and S&P Dow Jones Indices Index Dashboard: U.S., Canada, Europe, Asia, Fixed Income. February 28, 2019. Index performance is based on total returns and expressed in the local currency of the index.
