With just one week remaining in the month of June, the 2Q was a decidedly bumpier and more uncertain experience than enjoyed in the first 3 months of 2019.  Make no mistake however, the most recent 18 months have been anything but smooth sailing (but aside from 2017, the market rarely is) as trade disputes and the path of monetary policy are recurring sources of tremor.  Still, as we look to the quarter’s final trading days this week, the S&P500 is very near to recapturing all-time highs.  This follows a strong week fueled by formal communication by the Fed that its monetary policy is shifting and a cut to rates will occur when it meets in July.  Also assisting the equity market is welcome news that Trump and China’s Xi will talk concerning the current trade differences at a G-20 meeting in Japan this week.  The news flow is again positive from the perspective of equity markets.  Yet as friendly as those developments are, this should also serve as reminder that risks remain.  Research firm Strategas recently put it this way: investors and markets are presently at the whim of three people – Fed Chairman Powell (unelected), President Trump (unpredictable), and President Xi (largely unaccountable).  This should caution investors from getting too complacent.

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Global equity markets are enjoying a swift recovery following their “distracting” adjustment last month.  The S&P500 is up +5% over the first 10 trading days in June (thru 6/14), even as the trade dispute between the US and China is yet to show tangible signs of renewed repair.  For the most part, improvement is being attributed to a more accommodating tone developing from Federal Reserve officials as they communicate their thoughts on the path of monetary policy and appear tipping their hat to a yield curve that is now inverted across some key maturities.  The inversion in shorter-dated maturities is long thought a message that monetary policy is too tight for the economic conditions and outlook.  It is in that regard that weaker economic data is now the market’s counter-intuitive friend.  Just as strong economic data suggests to the Fed that tighter monetary policy is appropriate to keep the threat of inflation at bay, weaker data gives the Fed support to shift to an easier and more accommodating monetary policy even though the economic cycle is long.  Bad news is good.

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With just four trading days remaining for May, the “rear-view mirror-ists” will be quick to say investors should have expected the noticeable pullback coming (nevermind that the month of May was firmly positive in each of the last 5 years).  The S&P500 is off -3.9% with most attributing the decline to renewed tension between the US and China over trade-related policy and the fact is that until recently, most investors anticipated a trade agreement was not just close, but a virtual certainty in early 2019.  Combined with a US Fed that now seems firmly on hold from any additional interest rate hikes this year, the stock market enjoyed support.  While the Fed still appears content with its patient posture (very important), a truce between the US and China on trade is no longer in clear sight.  Interesting is that smaller-size companies which are often believed to be more insulated from the dynamics over global trade and should in theory experience less influence from tension are actually faring noticeable worse in this latest war of words.  But more telling perhaps is that international equities and those domiciled in Asia especially are really getting crunched compared to US domiciled companies.

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Following one of the best four-month stretches for equity markets in recent memory, the month of May is proving more challenging with the S&P500 experiencing its worst week of the year.  Despite a better than expected quarter of economic growth during the 1Q and earnings that are not as soft as feared, optimistic sentiment of investors that propelled the markets to swift recovery is now deteriorating due to escalating tension between the US and China in its ongoing trade negotiation.  The US view is that China backed away/recanted from prior commitments and broke the deal.  As a result, the S&P500 suffered a setback of -2.1% last week even despite a late-day rise on Friday (perhaps a show of optimism that drama between the US/China might progress over the weekend).  That trade-related uncertainty and market pressure looks set to continue into a new week on headlines that discussions over the weekend made little progress and actually seem to be moving further apart.  Abroad, international equities and emerging markets in particular are being punished more acutely as evidenced by the MSCI EM index forfeiting -4.5% last week.

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It should be news to no one at this point that 2019 is off to a fantastic start – at least for investors who continued to “stand in the pocket” despite getting repeatedly knocked down during 4Q’18.  As many market participants believed at the time, the reaction by the financial markets to perceived slowing of economic growth that was anticipated (and is playing out) during the 1Q was overdone.  But in fairness to investors, perceived Government missteps (or perhaps more fairly described as inflexibility) both on monetary policy evolution (Fed tightening) and Trade (US-China) made it hard to maintain confidence in officials being able to do the right thing for the US economy in the face of persistent international economic weakness and uncertainty.  Since that time, sentiment on both items has turned more favorable, leading to a swift recovery for domestic equities.  Investors also find themselves questioning whether they have been too pessimistic over international economic and financial market prospects.  Significant economic, regulatory, and political uncertainties hampered international investing success for much of this 10-year cycle, but lesser acknowledged is how much has been done to improve monetary policy transmission in support of the banking system and economic growth.  This sets international markets for potential out-performance especially when considering valuations overseas are more attractive than domestic on a number of measures and the currencies are cheap relative to USD.

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