Quarterly Client Letter – Q3 2018
- October 10, 2018
- Investment Insight
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Dear O’Brien Wealth Partners Investor,
The third quarter marked the ten year anniversary of the Lehman Brother’s bankruptcy at the apex of the great financial crisis of 2008. As we continue to experience market growth, albeit more muted, it serves as a humbling reminder that ten short years ago many investors fled the markets as almost all investments fell together in a worldwide market contagion. As long term investors, we find such humbling milestones constant reminders that markets don’t always go up. This guides us to reflect back on why we remain continuously invested in accordance with our long-term philosophy. As we remain invested as a firm, we encourage our clients to stay the course during periods of market corrections. While the events of 2008 and 2009 were markedly unsettling to most investors, the ten years since the crisis have seen one of the most profitable market cycles in history. Our philosophy of remaining fully invested has benefitted our clients over that time. Many clients are asking “How long can this continue?” The comparative data shows that while this has been the longest bull market in history, it has also been the shallowest recovery. While corrections are inherently impossible to predict, today we have a market that is still supported by sound economic fundamentals. Robust U.S. GDP growth, driven in part by tax reform, coupled with tempered inflation, low unemployment and manageable wage growth, continue to provide an environment where stocks have some room on the upside.
Much of the worry in the market during the third quarter continued to swirl around the actual and potential impact of trade disputes around the world. While the U.S. dispute with China continues its slow escalation, there was a collective sigh of relief at the very end of the quarter when Canada came back to the negotiating table and agreed to the terms of the United States Mexico Canada agreement (USMCA). Each side was able to score some wins for their country, and the current U.S. administration was able to fulfill the promise of replacing NAFTA (if only in name). Normally, the markets react to uncertainty in a negative fashion so the USMCA accord helped calm the nerves of investors who are optimistic that a similar deal can ultimately be worked out with China.
U.S. equity markets saw solid returns over the quarter driven by continued strong corporate earnings growth. Earnings growth so far year-to-date has been generated roughly equally from margin improvement and revenue growth, with only a small amount due to escalating share buybacks. We view this as an encouraging sign that returns are being driven by quality earnings and not multiple expansion. Against this backdrop the U.S. large-cap stock market was up 7.71% over the quarter (as measured by the S&P 500 Index). Growth stocks, and in particular technology, led for the quarter as these companies continued to grow despite some privacy and information security setbacks.
International markets struggled over the quarter on trade concerns. China was the biggest recipient of concern over the quarter as the escalation of tariffs from the United States contributed to a weakening in China’s manufacturing sector. China’s stock market was down -7.51% (USD) over the quarter (as measured by the MSCI China Index) as investors pared back their holdings. This decline in China contributed to an overall decline in the emerging markets index of -1.09% for the quarter (as measured by the MSCI Emerging Markets Index) despite an uptick in oil prices which lent support to oil producing nations. International developed markets fared better with their markets up 1.35% (as measured by the MSCI EAFE Index).
Within fixed income the market continues to watch the pace of interest rate hikes by the Federal Reserve. The Fed raised their interest rate target range in September for the third time this year by 25 bps to 2.00-2.25% in a widely anticipated move. In a confirmation of the positive state of the economy, Fed Chairman Jay Powell commented that “Growth is running at a healthy clip. Unemployment is low, the number of people working is rising steadily, and wages are up.” In the face of rising rates the bond market was able to squeak out a marginally positive 0.02% return for the quarter (as measured by the BBG Barclays Aggregate Bond Index), with the income component of total return being largely negated by reduced bond prices caused by rising interest rates. The expectation is for the Fed to continue to raise rates in a slow but steady manner, in an attempt to stay ahead of inflation as historically low jobless claims cause wages to creep up.
What does this mean for my portfolio?
Client portfolios continue to benefit from the current strength of the economy. Our overweight positions in U.S. large-cap stocks (and growth in particular) were additive. While our clients are also invested in emerging markets, our underweight to this part of the market was also a boost to our performance relative to our global benchmark, the MSCI All Country World Index. In fixed income, our active managers were able to add value over and above the benchmark leading to performance that was in aggregate better than the BBG Barclays U.S. Aggregate Bond Index. We continue to monitor all of our managers on a regular basis and are constantly looking for ways to improve and protect our clients’ portfolios especially as we move later into the cycle. We continue to build higher quality investments into our portfolios to participate in the markets as they move higher but also to protect our portfolios when we see an inevitable correction. The last ten years have been a great benefit to our clients’ financial goals, and adhering to our discipline of being fully invested has served our clients well.
If you have any questions or would like to discuss the specifics of your portfolio, please contact your O’Brien Advisor.
Your O’Brien Wealth Partners LLC Investment Team