Monthly Markets Memo - March 2018
by Dan Zalipski, CFA & Scott Rosenquist, CFA
The correction may have passed, but the volatility remains. The broad markets are in approximately the same spot they were a month ago, which may come as a surprise considering both the strong up and down moves across equities over that same time period. Equities sold off on the talk of trade tariffs out of Washington and then rallied when certain allies were exempt. They sold off again when Chief Economic Advisor Gary Cohn stepped down, and then rallied when the February jobs report was not only strong but failed to propel inflation-related fears. The volatility is not limited to equities.
Bond prices move inversely to interest rates. Prices have already begun to react in anticipation of the expected rate increases from the Fed. One of the most popular bond indexes, the Bloomberg Barclays U.S. Aggregate Bond Index, is down approximately 2% year-to-date. Two percent may not sound like much more than a difficult day in the equity markets. For the bond markets though, a 2% decline in a 3-month span is concerning. Especially when you consider the average annual return for the Bloomberg Barclays U.S. Aggregate Bond Index over the past 5 years was approximately 1.75%. With more interest rate increases expected throughout the year, the environment for bonds will likely remain challenging.
Earlier in March, President Trump moved to implement import tariffs targeting steel and aluminum. The tariffs are 25% for steel, and 10% for aluminum. As of now, Mexico and Canada are exempt, and the administration signaled other countries may be able to earn an exemption. The goal behind this policy move is to support domestic producers of the metals. As the price of the imported metals rise with the implementation of the import tax, local buyers may begin turning back to domestic producers.
Those local buyers, spanning numerous industries across the country, are expecting to pay higher prices for these metals. Some industries will be more affected than others. Energy companies have expressed concern that the increase in steel prices may jeopardize infrastructure projects. Automakers are especially in a tough spot. Prior to the tariffs, their sales had been slowing as input costs were on the rise. Automakers may shoulder the cost resulting in lower margins or pass them on to the consumer and risk a decline in sales. This unfortunate scenario is likely to repeat itself throughout various pockets of the economy as these policy changes take effect.
Investors are also concerned President Trump’s tariffs could lead to a broader trade war. Several countries, allies included, have threatened retaliatory tariffs on the U.S. Such moves could curb U.S. export activity, potentially weakening the U.S. economy. Some believe the tariffs are a bargaining chip to rework trade deals, which could potentially benefit the U.S. economy and markets. The situation warrants continued monitoring.
Volatility has come back and appears to be sticking around for a while. The increased level of volatility can persist given the number of headlines swirling in the financial markets. The Federal Reserve is meeting this week and a quarter point raise is all but expected. The market will be more interested in Fed Chairman Jerome Powell’s press conference and the outlook for future rate increases indicated by the Fed’s Dot Plot. This shows each member of the Fed’s outlook for future interest rate levels and will be closely watched. The G20 summit is also this week in Argentina where tariffs will be a main topic of discussion. The markets are also anticipating potential tariffs by the Trump administration against China and possible retaliation. Given all the news and headlines, it is important to consider the fundamentals of the economy and have a long-term view. The global economy is strong, earnings growth is positive, and economic indicators are not pointing to a recession in the near term which should be supportive of financial assets, but it could be a bumpy ride.
"The US is trying to force a change in its trading relationships with the world, and every country in the G20 is going to have to decide how to respond to that." - Edward Alden, a senior fellow at the Council on Foreign Relations.
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