The U.S. markets paused in April reflecting some mixed economic signals given during the month. While the U.S. economy is estimated by the Bureau of Economic Analysis to have grown 2.2% in the 1st quarter of the year, this was below what many economists had predicted. Overseas, the major equity markets produced negative returns for the second month in a row, due primarily to their slowing economy and the continuing concerns over the financial health of some European countries.
The 1st quarter U.S. growth represents a slowdown from the fourth quarter of 2011, but is consistent with our expectation that the United States will continue to grow at a slow but positive pace in 2012. While the month of April did provide some mixed economic signals, the markets continued to hold onto most of their impressive gains for the year. The impressive returns at the beginning of 2012 were largely due to lessened concerns of Europe’s financial crisis worsening. The returns held mainly because of the better than expected corporate results. Through the end of April, approximately three quarters of the corporations reporting 1st quarter earnings had higher results than expected.
Perhaps the most interesting story regarding corporate profits is Apple’s first quarter results which significantly surpassed most everyone’s expectations. Apple is especially important to the equity markets since it is a substantial part of two of the major indices (3.3% of the S&P 500 and 18.5% of the NASDAQ 100.) Apple, a company well recognized for their great innovation, but it will be interesting to see how long they can carry on their phenomenal growth. The revenue projections assume most every new product will do extremely well. With their short product cycle they will have a significant amount of pressure to come up with new products that consumers feel they must have. However, it appears that Apple may have come up with a new way to increase their sales. During this past quarter, Apple blew away expectations largely due to their higher than expected sales in China. It is interesting that during the same quarter Caterpillar, the world’s largest maker of heavy equipment reported less than expected results, citing a slowing of purchases from China. What makes this especially interesting is that many investors interested in China are looking for signs that they are transforming their economy from investment in infrastructure to one more dependent on their own consumption. The lines in front of Apple stores in China show that the consumer base there appears to be growing.
There continues to be many issues concerning investors with the most prominent targeted toward the economic and sovereign financial status in Europe. Should European policymakers (meaning both central bankers and elected officials) take their time in addressing any escalating problems; markets around the world will not react favorably. This was the mistake that policymakers made last year, so we hope they will not repeat those mistakes again. This will be important to monitor in light of the new political uncertainty in France and the Netherlands. As for the European economy, we continue to see more European countries officially fall into recession, including the U.K. Britain is not connected to Europe by their currency, but they are very connected to their economy since the UK sends around 40% of its exports to the Euro area. Add to this the poor economy in the ex-U.S. developed countries and there is even more focus and pressure for growth in the U.S. and the emerging markets.
The S&P 500 (500 of the largest corporations in the U.S.) fell less than a percent (.45%) while the EAFE (Europe, Australia and Far East) index moved down almost two percent (1.9%). The Emerging markets index, which still has the highest returns for the year, fell a little over one percent (1.16%) for the month. Valuations on global equities are still reasonable but they have moved up significantly over the last few months. In addition, we are heading into the summer when the equity markets typically do not produce large gains. In some accounts we have slightly reduced the equity allocation in anticipation of what may be a somewhat sideways market over the next few months.
While the equity markets paused for the month, both the conservative and the higher credit risk area of the bond markets performed well. The more conservative aggregate bond index rose over a percent (1.11%), and the Barclays US Corporate High Yield index also advanced over one percent (1.05%). Money continues to flow into bond mutual funds at a fast clip, which continue to drive yields down. Good value appears to still be found in the higher credit risk areas of the bond market which is where we currently overweight.
George Soros: "Markets are constantly in a state of uncertainty and flux and money is made by discounting the obvious and betting on the unexpected"