WILLIAM RIEGEL, CHIEF INVESTMENT OFFICER
July 24, 2015
Not surprisingly, U.S. equities declined from overbought levels reached as the Greek debt crisis faded from the headlines. The S&P 500 Index fell about 2.2% for the week through afternoon trading on July 24. Some disappointing corporate earnings releases weighed on the market as well, even as earnings from S&P 500 companies who have reported so far have topped estimates by 5%. Results for U.S. multinationals have been better than expected, despite headwinds from a strong dollar.
In Europe, manufacturing and service-sector growth slowed slightly in July, although the rate of expansion remained one of the strongest in four years. The STOXX 600 Index ended a nine-session winning streak on July 21 and finished down 2.7% for the week.
William Riegel, Chief Investment Officer, TIAA Investments
In contrast, Chinese stocks extended their rebound following June’s descent into near bear-market territory. While there have been some mildly encouraging signs for China’s economy, its manufacturing sector contracted sharply in June, and the ongoing fall in global commodity prices may indicate further significant economic weakness, as China is the world’s largest purchaser of most commodities. A worsening slowdown would be harmful for other emerging-markets nations as well, who have depended on exports of commodities to China to prop up their economies.
Yields on longer-term U.S. Treasuries declined steadily despite a number of positive U.S. data points, including a sharp drop in weekly unemployment claims to a four-decade low. (Yield and price move in opposite directions.) After beginning the week at 2.34%, the bellwether 10-year Treasury yield slid to 2.26% on July 24—a rally driven largely by concerns over the health of China’s economy.
Returns for most spread sectors (higher-yielding, non-U.S. Treasury securities) were broadly positive for the week through July 23. Fund flows were mixed, offering only modest support: Outflows from both high-yield and emerging-market debt funds continued, but the pace of withdrawals moderated. Meanwhile, leveraged loan funds saw the highest level of inflows in two months.
The most important data releases came from the housing sector, a source of continued strength for the U.S. economy. Among the week’s reports:
Despite a strengthening job market and a pickup in real wages, the U.S. economy remains on a modest growth trajectory amid subdued consumer activity and low levels of capital expenditures. At the same time, the housing market’s improvement and favorable leading economic indicators reinforce our view that the U.S. will gain momentum heading into 2016.
This economic backdrop presents a “good news/bad news” scenario. On the positive side, an accelerating U.S. economy would be welcomed not only at home but also throughout the world—especially if China slows and is unable to act as a global growth engine. On the down side, such an improvement could prompt the Fed to speed up its timetable for raising rates, sparking volatility in equity and bond markets.
We are cautiously optimistic that U.S. stocks can maintain their upward trend through these volatile patches. Supporting our view are two closely watched contrarian indicators that historically have been associated with a subsequent rise in stock prices: Short-term investor sentiment remains overwhelmingly bearish, and Wall Street strategists are currently underweighting stocks. We also believe bonds will be able to weather any Fed-induced volatility.
In Europe, the economy is still on track but vulnerable—even with the Greek debt crisis no longer a front-page story. While European shares are not cheap, we still believe they offer better upside potential than U.S. stocks, as profit margins in the region are some 20% to 25% below normal.
As for China, we are relatively sanguine about the country’s short-term prospects but cautious over the longer term. The announcement of 7% second-quarter GDP—precisely the government’s growth target—raises concerns over the integrity of Beijing’s calculations along with the possibility that the government’s ambitious reform agenda is being sidelined by a focus on stimulus to meet aggressive GDP goals. Moreover, recent measures to prop up domestic equities undermine the reforms that have already taken place in China’s financial markets. Overall, the country’s transition to a more consumer-led base from an export model remains a key barometer of global growth trends.
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.
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