August was a tough month for equity investors, as stock markets were weak. The S&P 500 was the “standout”, falling a modest 1.58%, while the Russell 2000 declined 4.94%. Developed and emerging market stocks also fell 2.59% and 4.88%, respectively. Bonds fared much better, with the benchmark US Aggregate index rising 2.59%. For all the difficulty in the stock market, one thing we would note is how the credit markets remained healthy with US Corporate High Yield posting a modest gain of 0.40%.
“Meet the new boss. Same as the old boss” ~ The Who: Won’t Get Fooled Again
The European Central Bank is getting a new President, former IMF Director Christine Lagarde. If there was any doubt that she would continue with outgoing President Mario Draghi’s policies, that was quickly removed this week. Responding to a European Parliament questionnaire Ms. Lagarde recently said, “monetary policy needs to remain highly accommodative for the foreseeable future” and “I don’t believe that the ECB has hit the effective lower bound on policy rates.”
It is worth pointing out that there is nearly $17 trillion of global debt currently priced at a negative yield. That tally includes over $1 trillion of corporate debt and, surprisingly, a number non-investment grade issuers. The German and Swiss yield curves are negative out 30 and 50 years, respectively. Against this backdrop, one might be forgiven for wondering whether the previous accommodation was all that effective and if more extreme central bank policy is the solution to global economic problems. Central bankers defend themselves by claiming the economic environment would be much worse but for their extreme actions. Maybe, maybe not. The difficultly evaluating that claim is the lack of a counter-factual, a world without extreme monetary policy. Check back soon for a more in-depth discussion on negative rates including: possible reasons they are negative, who may be buying these bonds, issues they create in the economy and global banking system, and thoughts on their potential arrival in the US.
At the end of July, the Fed cut interest rates 0.25% and seemed non-committal about future cuts. Markets, which were anticipating a more dovish tone, reacted as one would expect: stocks were volatile with a downward bias and bonds rallied as the long end of the treasury curve fell. We think the Fed tends to take cues from the market, but the President is publicly challenging their recent decisions and undermining their perceived independence, so it is not too surprising to us that they dialed back their tone. With some economic data softening in some other large countries, the real question is if the US economy can remain isolated in its relative prosperity and maintain the expansion. There are a lot of things that make the US different and, in our opinion, special, but we wonder if the Fed will ignore the behavior of other central banks against an uncertain backdrop.
