For the last several quarters, I’ve posted returns by asset class (by representative ETF), as well as year-to-date, last twelve months, and last five years. While there is still no predictive power in this data, I updated those charts as of the end of Q3 2018 for those of you that are interested (see below).
A few call-outs from the data:
- US stocks, especially large caps (+7.6%), led the way in Q3, with small caps a bit behind them (+4.9%). International developed markets were slightly positive (+1.3%), with emerging markets lagging (-1.7% for both stocks and local currency bonds). Commodities were the worst performers (-2.5%) for the quarter. US aggregate and short-term corporate bonds finished around the flat-line, despite another hike in interest rates by the Fed (rising rates are a short-term negative for fixed rate bond funds because their value falls, though as those bonds mature, they are replaced with new bonds that pay a higher rate which makes that a long-term positive). Overall, most diversified portfolios saw gains of a couple of percentage points with more aggressive allocations (more stocks) seeing a slightly more gains and more conservative (more bonds) being closer to flat on the quarter.
- Over the last year, there is a wide divergence between the performance of US stocks, both large and small caps, and the rest of the world. While it’s impossible to know the exact cause, we suspect it’s because the US tax cuts (corporate and individual) are providing a stimulus here that simply isn’t present around the globe. The boost from those tax cuts and some deregulation has offset the negative impact of rising rates and economic uncertainty caused by building trade wars. In other parts of the world, especially emerging markets, trade tensions and rising US rates are putting pressure on currencies and bloated budget deficits, leading to even more political instability which feeds a vicious cycle (Turkey, Argentina, etc.). Valuations fully reflect this though, with emerging markets being the far cheapest equity asset class and fairly cheap by historical standards, and US large cap (especially growth) stocks, being the most expensive and fairly expensive by historical standards. As I said last quarter, while everyone would love to see all asset classes moving up, a well functioning market has some dispersion in asset class performance. The fact that US stocks can rise while emerging markets fall is a sign (at least for now) that a 2008-like meltdown is probably not on the horizon.
- The Fed raised rates again in Q2 at their September meeting, continuing the once-per-quarter hike trend that they’ve set for the market. The Fed Funds rate target is now 2.00-2.25%. Futures markets show the market expecting the Fed to stay on that course for most of the next year, with an ~80% chance of one more hike this year and about a 50-50 chance of rates approaching 3% a year from now. While increasing rates put pressure on bond prices, the advantage of shorter term bond funds is that they mature quickly and are replaced by new, higher paying bonds. As a result, floating-rate bond funds are now yielding over 2%, with both US aggregate bonds and short-term US corporate bonds in the 3.25-3.50% range. Emerging market bonds (in local currency) are now yielding over 7%.
- Not much has changed from last quarter’s 5-year chart. Commodities are still deep in the red due to big losses in 2014 and 2015. US stocks continue to be the outperformers, with rest of the world lagging behind and trying to play catch up. US stocks also continue to be the most expensive from a valuation perspective, with the rest of the globe, and especially emerging markets, looking cheap.