Mid-May 2017 Commentary
May 15, 2017
May 15, 2017
The basic market trend continued in April, with equity markets rising marginally across the globe. The prospect of the French elections leading to a “Frexit”, and ultimately the death of the Euro and the economic basis of the European Union, was significantly decreased after the first round of the French elections saw the moderate, pro-EU candidate garner the most support. That event alone created a relief rally that propelled global markets into positive territory for the month. In April, the S&P 500 returned 1.03%, the Dow gained 1.45%, and the tech heavy NASDAQ composite returned 0.93%. Internationally, developed markets gained 2.27%, and emerging markets gained 2.02%.
The Dollar continued its weakness on the news, though it continues to trade in a relatively narrow range. Fixed income instruments continued to trade in a narrow range as well, with the yield curve persistently flattening. For the month, the 2-year Treasury note fell 1 basis point while the 10-year fell nearly 11 basis points. Gold gained slightly, rising 1.37%, while silver, a measure of both precious and industrial metals, fell 5.75%. Oil continued to struggle under increased production from US shale producers, and closed the month at $49.77 from $51.07 (down 2.55%).
Overall, it was a relatively quiet month except for a few exciting days around the aforementioned preliminary French elections. Although the market reacted positively to the results, we think that it provides yet another example of the myopic view of the world, and of the equity market in particular, that has persisted for several years. While it is true that some of the candidates with more extreme anti-EU views did not make the final cut, the candidates from the 2 main political parties, those that dominate the rest of French politics, were eliminated as well. The choice between a “reformed” Socialist, who is pro-EU, and a “reformed” Ultra-Far-Rightist, who is anti-EU, in Europe’s second biggest economy doesn’t seem like much of a choice to us. While the pro-EU candidate won, we believe that regardless of who won, it is going to be incredibly difficult for all the parties to work together to govern and manage a feckless economy. It is possible that the outcome of the French elections had the potential to have some impact in the short term, and a massively negative impact at worst, the global economy is going to have to deal with a new rise of anti-globalism, xenophobia, and nationalism.
Domestically, the market continues to bet on the Trump administration and its potential for pro-growth, free market policies passing into law. The Trump administration has faced strong headwinds in its first four months and the latest proposal, fitting for the month of April, is a sweeping overhaul of the tax structure. Given the short, but contentious, tenure of the Trump Presidency, and the Democrats’ seeming unwillingness to compromise so far, we believe that the tax proposal is very likely to face hefty opposition and challenges as well. Nevertheless, the sentiment that this would potentially be positive for the market caused an immediate bump in the equity market. While in general, we believe that lower taxes in a simpler form with more competitive corporate tax rates are all positive for the economy, and therefore the equity market, we simply have little confidence that any of the proposal will pass easily in what is its current form.
In short, we haven’t seen anything that would inspire us to change our conservative view of the markets. We do believe that fixed income presents a better opportunity as a safe harbor and as a place to “park” investable capital, certainly relative to the equity markets.
Market bubbles have a tendency to persist longer and grow larger than any rational person would guess. Markets may continue to squeeze out upside from today’s elevated levels. We believe that valuations, at current levels, leave very little margin for error. As “hope” as an investment strategy for the masses inevitably gives way to the reality of political gridlock, frothy valuations, and little substantive change from the political or economic status quo, the equity market will likely reflect these new realities at lower levels over time. There are prudent strategies that we continue to deploy, to preserve capital and grind out growth, and we believe that these are as important now as ever, if not more so.
As always, please do not hesitate to call if you have any questions or comments.
The Quadrant Team