The first quarter served as a reminder that expectations can change, and change quickly. Financial markets went gangbusters after the election, particularly those areas thought to be in line to benefit from the new administration’s policies. But in Q1 many of the leading contributors to this bull run reversed course. This week, we review several notable reversals as we look back on an eventful quarter.
Post-election state of play
First, a brief recap of the way we were: From the election to year-end 2016, talk of potential U.S. protectionist policies had investors showing a strong preference for companies that do most of their business domestically, such as small-cap stocks. Meanwhile, investor appetite for international equities was muted, especially emerging market stocks. Also, fixed income sold off, U.S. Treasuries in particular, with many pointing to the near guarantees of higher interest rates as the new administration’s policies were widely viewed as pro-growth and inflationary.
Market rotates in Q1
Enter 2017 and markets continued to rip. But some of the post-election narratives changed in Q1, with investors finding opportunities in areas they may not have expected. We highlight the following:
- Emerging markets took off. Fears of potential adjustments to U.S. trade were a driver of the emerging markets plunge following the election. But investors soon found a weakened dollar against most currencies and valuations cheaper relative to those in the U.S. Rebounding commodity prices and better macro data may have helped investor confidence as well. In the end, international equities soared to their best quarter since Q3 2013, led by emerging markets. While the S&P 500® gained a healthy 5.5% in Q1 and dominated the headlines, the MSCI Emerging Markets Index soundly thumped that number, returning 11.5%, led by Asia’s 13.3% gain and Latin America’s 12.0%.
- Taste in U.S. stocks changed. Information technology is a case study in changing thought processes. Tech’s momentum slowed toward the end of 2016 with investors looking to position for potential tax reform and deregulation elsewhere, including in sectors like financials, telecom, and industrials. However, The Wall Street Journal† notes tech stocks soon found favor among investors again, with market observers pointing to strong earnings, companies clamoring for hardware, and the improving global economy, to which tech has significant exposure. Tech’s 12.5% return in Q1 was top among S&P 500 sectors as U.S. markets continued to move higher throughout the quarter with minimal pullback.
- Treasury yields hardly moved. The Federal Reserve raised the Fed funds rate by 25 basis points in December and by another 25bp in March. (A basis point is one one-hundredth of a percent.) Most would expect at least short-term Treasury yields to move in-step with the Fed, but that didn’t happen. After selling off following the election, by the end of November the 2-year Treasury yield was at 1.1% and the 10-year at 2.3%. Yields ended Q1 slightly higher at 1.2% and 2.4%, respectively. Some say the lack of significant movement could be a sign the bond market is skeptical about the number of projected Fed rate hikes, or that it sees potential problems for the economy.
Long-term goals beat short-term expectations
In the grand scheme, reversals are to be expected—the market is going to move based on what’s in front of it. By focusing on long-term goals and keeping a diversified portfolio, we believe investors can view such reversals as opportunities instead of causes for concern. Using Q1 as an example, the market appeared to find some clarity from areas it didn’t expect, especially relative to market sentiment following the election surprise last November.
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† Driebusch, Corrie. “Stock Surge in First Quarter of 2017 Rides the Tech Wave,” The Wall Street Journal, 31 Mar. 2017. https://www.wsj.com/articles/stock-surge-rides-the-tech-wave-1490999580
The S&P 500 Index is a market capitalization-weighted index of 500 widely held stocks often used as a proxy for the US stock market.
All components of the S&P 500 are assigned to at least one of eleven S&P Select Sector Indexes, which track major economic segments and are highly liquid benchmarks. Stock classifications are based on the Global Industry Classification Standard. The Select Sector Indexes are: Consumer Discretionary Select Sector; Consumer Staples Select Sector; Energy Select Sector; Financials Select Sector; Health Care Select Sector; Industrials Select Sector; Technology Select Sector; Materials Select Sector; Telecommunication Services; and Utilities Select Sector.
The MSCI Emerging Markets Index is a free float-adjusted market capitalization index that is designed to measure equity market performance of emerging markets. The MSCI Emerging Markets Index consists of the following 23 emerging market country indexes: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Greece, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Peru, Philippines, Poland, Qatar, Russia, South Africa, Taiwan, Thailand, Turkey and United Arab Emirates.