WILLIAM RIEGEL, CHIEF INVESTMENT OFFICER
May 1, 2015
Global markets turned choppy during the week, following recent advances into record territory. Investors kept a wary eye on a number of issues, including mixed earnings reports and economic releases, interest-rate volatility triggered by a weak bond auction in Germany, and the potential scope and pace of rate increases by the Federal Reserve.
In the U.S., a modest late-week rebound in the S&P 500 Index limited its loss to about 1% for the week. European stocks fell during a trading week shortened by continental Europe’s Labor Day holiday. Year to date through April 30, European shares are up more than 8% (in U.S. dollar terms), well ahead of the S&P 500’s gain of about 2.3%.
U.S. Treasuries suffered in sympathy with Eurozone sovereign bonds, which saw prices fall and yields rise as markets determined that the region’s government debt had become overbought in light of recent signs of strength percolating in Europe. During the week, the yield on the bellwether 10-year U.S. note jumped from 1.93% to about 2.11% as of afternoon trading on May 1. This rise came in the wake of the sell-off in German bonds, mixed U.S. economic data, and a lack of conviction in a continued rally for U.S. bonds.
Returns for “spread products” (higher-yielding non-U.S. Treasury securities) were broadly negative, in part due to month-end lack of liquidity and investor reticence to add risk until volatility cools in U.S. Treasuries.
First-quarter GDP grew at a disappointing 0.2% annual pace, according to the government’s advance estimate—well below most forecasts, including our own. Spending on structures (e.g., office buildings and factories) plummeted, reflecting both severe winter weather and falling energy prices. Moreover, exports fell for the fourth straight month, hurt by the West Coast port shutdown and the effects of the stronger U.S. dollar. On a positive note, businesses added to inventories and consumer spending held up, albeit not at the pace seen in the fourth quarter of 2014.
Other reports were mixed, including:
Data releases in the Eurozone were uneven. Private-sector lending rose in March for the first time in three years, the money supply expanded, and the region’s recent spell of deflation ended in April. On the other hand, unemployment did not improve in March, and business sentiment fell for the first time in five months.
Nonetheless, the region’s mood was lifted following news that the Greek prime minister had reshuffled his negotiating team following a contentious meeting with international creditors the week before. After months of largely fruitless meetings, expectations are increasing for a near-term deal.
As disappointed as we are with the first-quarter U.S. GDP reading, we would not be surprised if it is revised lower. Some headwinds will disappear—notably the bad weather and the impact of the port shutdown—contributing to stronger second-quarter growth. Consumers will be key to picking up the slack. If wages rise and consumers open their wallets, then GDP growth could surprise to the upside. However, further drops in oil prices and/or a rising U.S. dollar would limit the bounce-back.
Against this uncertain backdrop, we are lowering our GDP growth forecasts for the second and third quarters from 3.3% and 3.0%, respectively, to 3.2% and 2.8%. For 2015 as a whole, our expectation is for GDP growth of 2.5%, down from 2.7%.
We remain relatively upbeat about U.S. equities. The S&P 500’s drop earlier in the week, while painful, was not panicked, and may have pushed neutral short-term trading sentiment into negative territory—often a precursor to higher stock prices. Meanwhile, Europe’s decline may have simply been a correction of overly optimistic sentiment. Once optimism cools significantly, we believe the rally in Europe could resume, underpinned by the region’s brightening economic environment and hopes for a prompt resolution in Greece. Overall, we expect better equity returns in Europe than in the U.S.
In fixed-income markets, quantitative easing in Europe should keep rates there subdued or drive them down even further, supporting demand for U.S. debt. In addition, unless the U.S. economy accelerates dramatically, markets may remain sanguine about the timing and pace of rate rises by the Fed. For now, we believe the sluggish U.S. recovery signals a later-rather-than-sooner rate hike.
TIAA-CREF Asset Management provides investment advice and portfolio management services to the TIAA-CREF group of companies through the following entities: Teachers Advisors, Inc., TIAA-CREF Investment Management, LLC, and Teachers Insurance and Annuity Association® (TIAA®). Teachers Advisors, Inc. is a registered investment advisor and wholly owned subsidiary of Teachers Insurance and Annuity Association (TIAA). Past performance is no guarantee of future results.
Foreign stock market returns are stated in U.S. dollars unless noted otherwise.
Please note that equity and fixed income investing involve risk.
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