Investment Insights: Don’t forget about risk
This weekly report presents insights from our Global Investment Management team.
Nothing seems to be able to stop the recent climb in stock markets. The S&P 500 Index hit a new all-time high of 2,552 in trading on Thursday last week, as optimism spread from better than expected economic data, before stocks were weakened by the ominous “calm before the storm” comments from President Trump during a meeting with senior military staff.
Speeches from prominent Federal Reserve members and an outline of their unwinding plan may have also nudged signs of life back into the bond markets; the yield of the 10-year Treasury jumped to 2.35% yesterday from just 2.0% a month ago. It’s hard for investors not to be optimistic as data rolls in showing increased U.S. factory orders, a 13-year high in the ISM Manufacturing Index, high levels of employment and labor force participation, and a much awaited improvement in wage growth. That same optimism has also bled into global markets.
In its latest World Economic Outlook, the International Monetary Fund has forecasted stronger growth for the global economy in the years ahead. The organization increased their global GDP growth projections to 3.6% in 2017 and 3.7% in 2018, an improved rate of expansion in the era after the Great Recession. Much of the upward revision came from forecasted improvement in the European Union, Japan, and select emerging countries; however, the U.S. and the U.K. received downward revisions to their growth projections. The report also mentions that policymakers may use this cyclical pickup as an opportune time to tweak policy in order to boost output and build resilience against downside risks – citing “broadly balanced” short-term risks and medium-term risks tilted to the downside. Those medium-term risks may be the crux of the issue for investors.
While the recent influx of optimism is a welcome change, there are still substantial threats to financial markets despite the seemingly over resilient equity market observed in recent years. Geopolitical events continue to be a major factor over both the short and medium term, but have not translated into heightened volatility. Political uncertainty from the Trump administration as well as a Congress plagued by gridlock and a decisive partisan divide remain material risks domestically. In Europe, dissention has been a reoccurring theme as the U.K. continues to negotiate its exit from the European Union and as Catalonia vies for independence from the Spanish government. Economic and financial market risks have been more persistent, the largest of which could be a swift tightening of global financial conditions. In an interview with the Financial Times as he steps down from his post, German Finance Minister Wolfgang Schäuble warned that “spiraling levels of global debt and liquidity” are a growing concern and could spark another global financial crisis.
The Global Investment Management team remains cautiously optimistic in the current investment environment and over the short to intermediate term, but continues to be mindful of underlying risks. In our view, the Fed’s unwinding plan along with the reversal of aggressive easy monetary policy by global central banks remains a key danger to financial markets. Despite efforts to curb credit expansion, China is also an expanding risk and could eventually see a sharp growth slowdown if regulators do not act accordingly. As such, we are closely reviewing our China-specific and broad emerging market exposures.
Investing involves risk, including the possible loss of principal and fluctuation in value. Economic and market forecasts reflect subjective judgments and assumptions, and unexpected events may occur. Therefore, there can be no assurance that developments will transpire as forecasted. The information in this newsletter is for informational purposes only and is not intended to be investment advice or a recommendation. Nothing in this newsletter should be interpreted to state or imply that past results are an indication of future performance.
Fixed income securities are subject to interest rate, inflation, credit and default risk. The bond market is volatile. As interest rates rise, bond prices usually fall, and vice versa. The return of principal is not guaranteed, and prices may decline if an issuer fails to make timely payments or its credit strength weakens.
International securities involve additional risks such as currency fluctuations, differing financial accounting standards, and possible political and economic instability. These risks are greater in emerging markets.
Diversification and asset allocation do not ensure a profit or guarantee against loss.