Bull markets climb a “wall of worry.” The “wall of worry” consists of various fears and challenges that either alone or in conjunction with each other would seemingly bring an end to a bull market. After a relatively tranquil 2017, this year has been characterized by numerous fears and challenges. Fears surrounding trade and tariffs, inflation, interest rates, an inverted yield curve, and more recently fears surrounding Turkey and the potential for emerging market contagion have presented challenges to the bull market. However, despite these fears and challenges, the bull market has persisted.
Our outlook for the U.S. economy and equity markets is positive and we believe the bull market is alive and well. On the economic front, the U.S. economy is still growing solidly with real GDP growth of 4.2% in Q2. Additionally, the labor market remains healthy with the unemployment rate at 3.9% as of July. As for inflation, while recent measures of inflation have been somewhat elevated, overall inflation remains modest and consistent with Federal Reserve targets. At its August meeting, the Federal Reserve held the target for the federal funds rate steady at a range of 1.75% – 2%. While we expect additional increases in the federal funds rate later this year, the Federal Reserve has been gradual and transparent regarding the path of future interest rate increases. As for corporate earnings, Q2 earnings have been strong and 2018 earnings are projected to grow by double digit percentages. Lastly, the U.S. equity markets have been performing well with many of the major equity indexes recouping the losses experienced earlier this year. The S&P 500, Nasdaq Composite, Nasdaq 100, S&P 400, and S&P 600 indexes are all trading within 2% of all-time highs.
While the U.S. equity markets have performed well in 2018, international markets have not fared as well. Chinese equity markets are down materially since they are directly impacted by U.S. tariff actions. The Chinese Shanghai and Shenzhen indexes are down approximately 16% and 23%, respectively. Additionally, emerging and frontier markets have been areas of weakness with the MSCI Emerging Markets Index (EEM) and MSCI Frontier 100 Index (FM) down approximately 8% and 11%, respectively. Given the uncertainly surrounding future trade and tariff actions, international equity markets may remain challenged going forward with specific countries more impacted than others.
As we move into the latter part of the year, we remain focused on the risks and opportunities in the market. The risk is always that the “wall of worry” morphs into the “slope of hope.” An escalation of trade and tariff frictions, a more aggressive Federal Reserve, an emerging market crisis, and the upcoming U.S. mid-term elections are all significant risk factors that could result in heightened market volatility. At this time, it is important to remain diversified and to ensure your portfolio is closely aligned with your goals, risk tolerance, and time horizon.
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