January thaw: As temperatures plummet, the markets heat up

Mike Loewengart, Vice President of Investment Strategy

E*TRADE Capital Management


Cold enough for you?

As many parts of the US suffer through record-breaking low temperatures, a January thaw has enveloped the financial markets. Following one of the worst Decembers since the 1930s, the pace at which the markets recovered last month was remarkable. Even with the federal government partially shuttered, every economic sector finished higher, and the S&P 500® inched its way out of a short-lived correction.

US equities

Stocks reverted back to the halcyon days of the bull market in January. What drove this sudden shift in momentum is difficult to pinpoint, given that economic fundamentals were little changed from December and fourth-quarter earnings season was still in the early stages. Investors were buoyed in part by renewed hopes for a US-China trade deal and a couple of stellar jobs reports.

US equity performance, January 2019

Source: FactSet Research Systems

Whatever the reasons, investors showed a renewed appetite for risk, with industrials, energy, and real estate powering returns and defensive-oriented utilities pulling up the rear—while still finishing in the black. Financials also staged a comeback after getting battered in the fourth quarter. In January, big names like Bank of America and Goldman Sachs helped lead the turnaround by soundly beating fourth-quarter earnings estimates.
Sector performance, January 2019

Source: FactSet Research Systems

International equities  

International stocks also reversed course, with performance fairly evenly distributed by geography. Despite political turmoil in Venezuela and Brazil’s tilt toward authoritarianism, Latin America paced emerging market performance, with Latin American shares up a whopping 15% on the month.

In Europe, investors accustomed to Brexit-related chaos shrugged off the resounding parliamentary defeat of British Prime Minister Theresa May’s plan to exit the European Union. Nonetheless, market participants could become increasingly wary as the March deadline for Brexit looms closer.

Japan also saw a sharp reversal in sentiment, with stocks surging after the Nikkei 225 Index sold off in December and stumbled to start the year. Amid an extended period of economic growth in Japan, share prices are beginning to reflect the country’s stable government and sound fundamentals.

International equity performance, January 2019

Source: FactSet Research Systems

Fixed income

Given January’s risk-on climate, there were few surprises in the bond markets; performance was highly correlated with asset-class risk. High-yield bonds gained 4.5% on the month, while investment-grade corporates and Treasuries posted lower but still positive returns.

The bigger story was the Treasury yield curve. While the spread between 2- and 10-year Treasury yields widened somewhat, the difference between 2- and 5-year yields remained below zero. Translation: A portion of the yield curve is inverted, which some market observers view as potentially foreshadowing an economic slowdown.

Inverted yield curve, January 2019

Source: FactSet Research Systems

The bottom line

Here’s what we’ll be watching as we anticipate a merciful easing of the frigid winter temps:

•  Whither the yield curve? Back to that yield curve: A continued inversion in intermediate-term yields could be cause for concern. Recently the Fed signaled that it may abandon its previously telegraphed rate hikes this year, which could keep a lid on short-term rates. Nonetheless, investors will be eyeing the all-important yield curve as a potential economic indicator.

•  Can the two parties strike a deal? The partial government shutdown made headlines and caused unnecessary pain, yet was treated by investors as little more than a mosquito buzzing around at bedtime. A second shutdown in mid-February could get a cooler market reception.

•  Q4 earnings loom large. Fourth-quarter earnings season is underway, and with 23% of S&P 500 constituents reporting, 71% have posted a positive earnings-per-share surprise.1 That’s good, but not as great as the earnings beats in the first half of 2018. Perhaps more telling will be the extent to which last year’s tariffs have undermined the profitability of export-dependent manufacturers and commodity producers.

•  Sino-US relations: Not just the stuff of history books. Closely related to the tariff issue will be the direction of US-China trade talks. While both sides should be motivated to come to an agreement, investors have little information to go on outside of presidential tweets.

The past month underscored the importance of staying diversified and avoiding the temptation to time the markets. Equity investors who bailed after December’s maelstrom may have been kicking themselves as stocks recovered in January.

Although headline risks remain, US economic fundamentals are still sound, and the markets are off to a good start for the year. Investors with a sensible approach to asset allocation should be well-positioned for the coming months—regardless of whether or not the bears stay in hibernation.

Thanks for reading, stay warm, and remember that the days are getting longer. We’ll talk to you again next month.

Mike Loewengart

Vice President, Investment Strategy

E*TRADE Capital Management, LLC


Additional contributor:

Andrew Cohen, CFA

Director, Investment Strategy

E*TRADE Capital Management, LLC

Mike Loewengart is the Vice President of Investment Strategy for E*TRADE Capital Management, LLC. Mike is responsible for the asset allocation and investment vehicle selections used in E*TRADE’s advisory platforms. Prior to joining E*TRADE in 2007, Mike was the Director of Investment Management for a large multinational asset management company, where he oversaw corporate pension plan assets. Early in his career, Mike was a research analyst focusing on investment manager due diligence for the consulting divisions of several high-profile investment firms. Mike holds series 7, 24, and 66 designations, as well as the Chartered Alternative Investment Analyst (CAIA) designation. He is a graduate of Middlebury College with a degree in economics.

Andrew Cohen is a Director of Investment Strategy for E*TRADE Capital Management, LLC. Prior to joining E*TRADE, Andrew was the Director of Investments and Operations for a large Registered Investment Advisor, where his responsibilities included investment manager research, asset allocation, and portfolio construction. Previously, he was a Senior Research Analyst and Team Leader for a leading wealth management platform. He is a CFA® charterholder and a member of both the New York Society of Security Analysts and CFA Institute. He is a graduate of Virginia Tech with a BS in finance.

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