The U.S. economy has steadily slowed in 2019, from 3.0% in the first quarter to 2.0% for the second quarter (most recent available). The expansion, in its 11th year, is showing signs of deceleration caused by slowing global growth and trade wars. The unemployment rate dropped to 3.5% in September, a level not seen since December 1969. The economy added 136,000 jobs, below the 145,000 forecasted by economists polled by Dow Jones; the weakness was from a loss of retail and manufacturing positions. Wage growth remained low.
Core CPI, which strips out food and energy prices, grew 2.4% in the 12 months through September, well below its 50-year average of 3.9%. Consumer spending, which makes up over two-thirds of the economy, rose only 0.1% in August as households chose to save more. Data is beginning to suggest that the consumer is succumbing to some of the external headwinds that have been impacting businesses and manufacturers.
U.S. manufacturing data in September was mixed with PMI (from IHS Markit) coming in at 51.1%, signaling a modest improvement in manufacturing sector business conditions. However, PMI (from the Institute for Supply Management) fell to 47.8%, the lowest level since June 2009. Either way, the uncertain trade outlook caused by the ongoing U.S.-China trade war has raised the possibility of a recession in 2020.
The Federal Reserve cut interest rates in July and September by 25 basis points each as economic risks intensified. This follows nine rate increases spanning December 2015 through December 2018. The Fed’s target rate declined a quarter point to between 1.75% and 2% with the possibility of additional rate cuts moving forward. July was the first rate cut in 11 years. The yield curve remained modestly inverted through the quarter as the 10-year Treasury bond yield remained below the 3-month Treasury bill yield. The Bloomberg Barclay’s US Aggregate bonds index (a broad-based bond market index) increased 2.3% while investment grade corporate bonds jumped 3.1%, and high yield bonds increased 1.3% after a strong start to 2019. Developed international bonds were basically flat for the quarter.
U.S. equities eked out a modest gain during the third quarter. While the stock market rose to a new all-time high, bond returns actually outpaced equity returns for both the quarter and the last twelve months. The S&P 500 inched up 1.7% in the quarter amidst higher volatility following a strong first half, whereby stocks held on to their biggest year-to-date gains (up nearly 19%) in more than two decades. Utilities, real estate, and consumer staples showed the largest gains, increasing 9.3%, 7.7%, and 6.1%, respectively. Energy was the worst-performing sector in the quarter with a negative return of 6.3%, followed by healthcare and materials, declining 2.3% and 0.1%, respectively. Large growth stocks outperformed large value stocks, but small- and mid-cap value stocks outperformed their growth peers. Value stocks began to regain favor, but it isn’t clear if this a temporary turnaround or a long-term trend. The forward P/E for the S&P 500 increased to 16.8x for the quarter, modestly above the 25-year average of 16.2x.
Emerging market (EM) stocks struggled in the quarter. Returns varied across regions with overall EM equities, decreasing 4.1% in the period. EM Europe declined less than Latin America and EM Asia for the quarter. Within EM Asia, China declined by 4.7% in the quarter but was up 7.6% for the year-to-date period. Developed Europe (excluding the UK) declined by 1.5%; Germany fell 4.0% while the UK fell 2.5%; in Developed Asia, Hong Kong fell 11.9% given anti-government protests that began in June.
Weak commodity prices continued into the third quarter as the Bloomberg Commodity Index decreased 1.9%. Gold and silver prices moved up while agriculture prices moved down. Crude oil prices remained low. West Texas Intermediate oil declined by 7.5% for the period ending at $54.07 per barrel. Oil prices spiked after two major Saudi Arabian oil processing facilities were hit by a drone strike in mid-September, but capacity was quickly restored. REIT prices continued to increase, jumping 8.6% in the quarter. REITs are the best performing asset class for the first nine months of 2019, increasing 25.7%.