The U.S. economy continued to muddle through in 2019, slowing from the prior year’s quicker pace. Real GDP grew at an annual rate of 2.1% in the third quarter (most recent period available), reflecting a late-stage expansion, now in its 11th year. The unemployment rate remained steady at 3.5% in December, a 50-year low. Non-farm payrolls rose by 145,000 in the month, below both economists’ expectations and November payroll data. Inflation remained subdued despite record-low unemployment. Core CPI, which strips out the volatile food and energy components, grew 2.3% in the 12 months through December, well below its 50-year average of 3.9%. Consumer spending, which makes up over two-thirds of the economy, rose 0.4% in November (most recent available) - the fastest pace in four months, while consumer confidence dipped slightly in December. The U.S. Purchasing Manager’s Index (from IHS Markit) declined modestly in December from the prior month. The number came in at 52.4, indicating a modest recovery in domestic manufacturing.
The Federal Reserve cut interest rates by 25 basis points in October, after rate cuts in July and September as the economy continued to show signs of slowing. This follows nine rate hikes since late 2015. With the October rate cut, the Fed Funds’ target rate declined a quarter point to between 1.50% and 1.75%. The yield curve ended 2019 at the steepest level since October 2018. The 10-year Treasury bond yield at year-end (1.92%) is no longer inverted versus the 3-month Treasury bill yield (1.55%). High yield bonds, emerging market (EM) bonds, and investment grade corporate bonds led the way for fixed income in the final quarter of the year, moving up 2.5%, 2.1%, and 1.2%, respectively. Aggregate bonds and developed international bonds were basically flat for the quarter, with both increasing about 9% for 2019. Treasuries dipped 0.8% for the quarter but rose 6.9% for the year. The strongest fixed income returns from the year came from investment grade corporates and EM bonds, which jumped 14.5% and 14.4%, respectively, just beating out high yield bonds. The U.S. dollar strengthened over 2019 (while peaking in September) despite recession fears and trade war tensions. Over $10 trillion of global government bonds are trading at negative yields (including Japan, France, Germany, and Spain) while U.S. bonds are still in positive territory at year end.
U.S. equities finished the year strong. The S&P 500 surged 9.1% for the final quarter and 31.5% for the year. Ten out of 11 sectors reported gains for the quarter except for real estate, which had a small loss of 0.5%. For the full year, all sectors reported positive returns with technology stocks posting the largest gains, soaring 50.3%, while energy posted the smallest, up 11.8%.
For the quarter, technology, healthcare, and financials showed the strongest performance as technology and healthcare both jumped 14.4%, while financials increased by 10.5%. After real estate, utilities (up 0.8%) and consumer staples (up 3.5%) were the next weakest sectors. Growth stocks outperformed value stocks during the quarter as small-cap growth and large-cap growth had the strongest returns, up 11.4% and 11.3%, respectively. Stock prices increased faster than earnings for the quarter, pushing the forward P/E for the S&P 500 to 18.2x as of year-end, above the 25-year average of 16.3x.
Emerging market equities outperformed developed international equities in the quarter. EM equities increased across all regions (Europe, Asia, and Latin America), jumping nearly 12%. Despite this improvement, EM equities trailed the S&P 500 by 12.6% for the full year. Within EM Asia, China increased by 14.7% during the quarter finishing the year up 23.5%. China and the U.S. signed the first-phase trade agreement on January 15th in one of the most protracted trade battles in modern American history. MSCI World ex-USA (which includes only developed countries) increased by 7.9% in the quarter; Developed Europe (ex-UK) jumped 8.5% while the UK improved 10.0%. The UK’s strength reflected the increased likelihood of the country leaving the European Union at the end of January under UK’s Prime Minister Boris Johnson.
Commodity prices improved in the quarter. The Bloomberg Commodity Index increased by 4.0% in the final quarter of 2019 aided by higher prices for crude oil, gold, silver, and agriculture. U.S. crude oil prices (West Texas Intermediate) increased by 12.9% in the quarter ending at $61.06 per barrel, while natural gas prices declined 12.4% for the period. The real estate sector ended the year as the third best performing sector, up 24.3%, dropping from first place at the end of September.
Not a bad year for the record books. We are doubtful the markets and the economy will be as sanguine in 2020 given geopolitical, monetary policy, and other uncertainties.
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