GDP expanded in the second quarter (most recent available) at an annual pace of 6.7% as the economy surpassed its pre-pandemic level. A surge in delta variant cases deepened concerns about the economy's third-quarter prospects as the variant has had a somewhat larger than expected impact on recent growth and inflation due to its impact on consumer spending, production, and supply chain management. (The ‘advance’ estimate for third-quarter GDP will be announced on October 28.) Nonfarm payroll data in September was disappointing as payrolls rose by only 194,000, well below the Dow Jones estimate of 500,000.
On the positive side, the unemployment rate fell to 4.8%, much lower than expected; however, it remains above its pre-pandemic level of 3.5% from February 2020. Some economists believe that the rate dropped partly due to people leaving the labor force. According to the Bureau of Labor Statistics, 7.7 million people remain unemployed compared to 5.7 million people prior to the pandemic. Wages reported a strong annual gain of 4.6%. Rising demand for labor associated with the economic recovery has put upward pressure on wages. Core CPI (which excludes food and energy) rose 4.0% in the 12 months through September. Inflation has been more persistent than many experts have expected. Consumer confidence hit a seven-month low in September.
The $1 trillion infrastructure bill is headed to the House for a vote. The fate of the $3.5 trillion social spending plan remains unknown. The House and Senate voted to temporarily raise the nation's debt limit by $480 billion. The temporary fix means that Congress will need to tackle the issue in early December to avoid a shutdown. The bill now heads to President Biden’s desk for signature.
The Bloomberg U.S. Aggregate Bond Index was essentially flat in the third quarter. The 10- and 30-year Treasury yields ended at 1.52% and 2.08%, respectively. TIPS increased 1.8% - the strongest fixed income return for the quarter, followed by high yield bonds inching up 0.8%. Developed international and emerging market (EM) bonds reported the weakest returns, down 1.9% and 0.5%, respectively. The Federal Reserve announced at its September meeting that it plans to keep interest rates near zero. There is growing consensus that rates will likely move up in late 2022 or early 2023. The Fed could soon begin normalizing policy by reducing the pace of its monthly asset purchases unless weak economic data thwarts its plan. The Fed is expected to taper by reducing Treasury purchases by $10 billion and mortgage-backed securities by $5 billion monthly until the stimulus program ends sometime around the middle of next year.
The S&P 500 notched up a small positive return of 0.6% in the third quarter with mixed sector results. Financials and utilities were the strongest sectors, up 2.7% and 1.8%, respectively. Industrials and materials had the weakest performance, declining 4.2% and 3.5%, respectively. Large growth outperformed large value while small value outperformed small growth. The forward P/E for the S&P 500 ended the quarter at 20.3x, above the 25-year average. The index’s 10 largest stocks traded at 28.6x.
International equity markets continued to lag U.S. markets. The MSCI World ex-USA Index (includes developed countries only) and the MSCI ACWI ex-USA Index (includes developed and EM countries) declined by 0.6% and 2.9%, respectively, in the quarter. EM equities declined by 8.0%, dragged down by China and Brazil. China dropped by 18% amid growing concerns over regulatory crackdowns imposed by the Chinese government. The Bloomberg Commodity Index rose 6.6% mainly from strength in natural gas prices which surged 61% given supply concerns and rising demand. U.S. crude oil prices increased slightly, ending the quarter at $75/barrel. Gold declined 1% to $1,757/ounce in the quarter; this is down from its year-end price ($1,895/ounce), where it acted as a safe haven during the pandemic. After a solid first-half recovery REITs increased 0.9% during the quarter, ending the first nine months of 2021 up 22.2%. REITs took second place in asset class gains after commodities which jumped 29.1% for the year-to-date period.
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