New year, new highs

Mike Loewengart, Vice President of Investment Strategy

E*TRADE Capital Management

02/03/17

The year got off to a good start. U.S. stocks advanced modestly in January, tiptoeing into record territory likely from optimism over the potential for lower taxes and decreased regulation under President Trump. International equities also rallied, recovering the ground lost late last year.

It wasn’t all rosy, though: U.S. bonds were essentially flat, and some of President Trump’s moves, especially on trade and immigration, likely contributed to a slight uptick in market volatility witnessed as the month came to a close.

  • Dow at 20k: In January, the Dow Jones Industrial Average hit, then retreated from, the symbolically important 20,000-point level. But investors may not want to pop the champagne just yet. While 20k may seem like an impressive number (and it is), it’s just one stop on a long journey. Where we’re going next—that’s what matters most.
  • Economy sidles along: The advance reading of fourth-quarter GDP (gross domestic product) came in below expectations at 1.9%, largely due to trade imbalances. Housing sales also struggled late in the year. While these readings predate any Trump-related causes and effects, market observers believe they could pose challenges for the new administration in the months to come. 


Domestic equities

U.S. stocks were modestly higher in January, with large caps outperforming shares of smaller companies.

Graph of equity performance
Graph of the best and worst performers Jan 2017

Source: Morningstar Direct

Materials and technology stocks led the way in January, as economically sensitive sectors advanced. This may be due to an expectation among investors that lower taxes and decreased regulation under President Trump could spur accelerated near-term growth. Materials, in particular, could benefit from the Trump administration’s proposal for increased infrastructure spending.

When it comes to equity styles, growth powered ahead in January, leading value by more than 2.5 percentage points. Is growth playing a game of catch-up? It certainly may be: Value dramatically outperformed growth in 2016, and now the reverse may be coming true.


International equities

International stocks performed well in January, with both developed and emerging markets outperforming U.S. equities. Of all the major indexes we track, emerging markets advanced the most.

Graph of how international equities performed in Jan 2017
Graph of Jan 2017 emerging market performance by region

Source: Morningstar Direct

Why the big gain in emerging markets? Market observers point to the U.S. dollar’s recent retreat from its late-2016 highs. Emerging economies can be hurt by capital outflows when the U.S. dollar (and U.S. interest rates) rise too far, too fast.

Among emerging market regions, Latin America continued its run from 2016. Brazilian stocks, however, were the real star, rising on the perception among investors of reduced political risk in the country, as well as signs that the Brazilian economy may be continuing to mend.

Something to watch: Some pundits predict that President Trump’s intention for the U.S. to not participate in the Trans-Pacific Partnership (TPP) could boost China’s economy by strengthening its trading position in Asia.


Fixed income

In U.S. bonds, the Barclays Aggregate Index inched up 0.20% in January. Bulls and bears were essentially stalemated, weighing expectations for higher growth and inflation against the soft GDP report and new concerns around trade and other issues.

Graph of how domestic bonds performed in Jan 2017

Source: Morningstar Direct


Corporate high-yield bonds were the big winners in January, followed by TIPS (Treasury inflation-protected securities). Both sectors may be seen as offering a hedge against the potential for accelerated inflation under President Trump.


The bottom line

Equity markets continued to advance in January, though in some cases, just slightly. Why the rally? Investors may be expecting that President Trump’s policies—especially those related to taxes and regulation—will be constructive for stocks, not to mention the economy as a whole.

Near the end of the month, however, we started to see ripples of volatility as new questions were raised concerning the president’s policies on trade, immigration, and other issues. Many wouldn’t be surprised to see continued volatility in the weeks and months ahead. Here are a few things we’ll be watching:

  • Trade—Market observers believe that the president’s trade moves have the potential to distort free market forces and potentially make the U.S. less competitive. Will they be proven right?
  • Inflation—Early indications suggest that the president’s fiscal proposals could spur near-term growth through deficit spending. Will this trigger inflation, and if so, how much?
  • Interest rates—One of the dual mandates of the U.S. Federal Reserve is price stability, which (if the Fed continues to raise rates) can serve as a check against any exuberance that may develop in the markets. How will this affect asset prices?

As for individual investors, our guidance remains constant: Maintaining a well-diversified, risk-appropriate portfolio, rebalanced periodically as markets move, can help investors navigate uncertainty and volatility, while steadily working toward long-term financial goals.

 

As always, thank you for reading.

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. 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. Mike started his career as a research analyst and an investment manager due diligence analyst for the consulting divisions of several high-profile investment firms. 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 B.S. in Finance.