A Market Rally Without Steam
By CONRAD DE AENLLE
APRIL 11, 2015
Stocks and bonds ended the first three months of 2015 little changed, leveling off from the steep rise of recent years and raising questions about the road ahead. The stall coincided with signs of flagging momentum in economic growth and corporate earnings and an assortment of foreign developments that threatened to derail the markets.
One asset rose substantially, reaching a 12-year high. That was the dollar, which rose 9 percent against a standard basket of currencies of American trading partners. Its ascent was partly driven by a standoff between financially feeble Greece and its European creditors that could force Greece out of the euro. The dollar was also propelled by an event that for years has seemed a few months away: an increase in the federal funds rate, the Federal Reserve’s main short-term interest rate.
As expected, the Fed last month dropped its pledge to be patient about raising the rate, wording it had used consistently in its policy statements. But the rest of the March statement made clear that the central bank was in no hurry to raise the near-zero percent rate until the economy perks up.
The apparent belief among investors that the Fed was still on their side and that economic indicators were not working against them was enough to send the Standard & Poor’s 500-stock index up, but barely: It rose less than 0.5 percent in the first quarter, to 2,067.89. Bond prices rose too, reducing the yield on the 10-year Treasury to 1.93 percent from 2.17 percent. Yields on high- and low-quality corporate instruments also fell, although less so.
Tacit assurances that no rate increase was imminent have long supported stocks and bonds, but concern is growing that the Fed may have painted itself into a corner. A rate increase could provoke turbulence in the markets, investment advisers warn, but continuing to delay could raise concern about the fragility of the markets, the economic recovery or both. Investors who have cheered the Fed’s dovishness could be the ones whose patience is tested.
Mutual Funds
Highlights of mutual fund performance in the first quarter.
Stocks vs. Bonds
Leaders and Laggards
Average returns, by fund category.
Among general domestic stock funds.
12 MONTHS
1ST QTR.
12 MONTHS
1ST QTR.
BlackRock
Midcap Growth
International stocks
+
+
+
+
1.3
9.3
2.6
6.3
%
+
+
+
+
3.4
2.6
1.3
0.9
%
+
+
+
+
+
+
+
+
16.2
20.8
8.7
8.5
12.8
12.3
11.1
18.3
%
+
+
+
+
+
+
+
+
11.4
11.3
10.5
10.1
9.8
9.5
9.4
9.2
%
U.S. general stocks
Tocqueville
Opportunity
Taxable bonds
Century Small-
Cap Select
Municipal bonds
Touchstone
Small-Cap Core
Growth vs. Value
Deutsche Small-
Cap Growth
Returns in the 1st quarter.
Growth
Blend
Value
Federated
Kaufmann
+6
%
Rydex S&P
Small-Cap 600
+4
RS Small-Cap
Equity
+2
0
Large cap
Midcap
Small cap
Sector by Sector
Huber Capital
Equity Income
–
–
–
–
–
–
+
–
6.4
10.7
15.2
11.5
21.9
28.7
0.1
19.0
%
–
–
–
–
–
–
–
–
4.2
4.5
4.8
4.9
5.1
5.2
5.8
5.8
%
12 MONTHS
1ST QTR.
Beck, Mack &
Oliver Partners
+
+
+
+
+
+
–
+
–
–
34.0
23.0
13.8
5.1
15.5
6.1
15.4
7.2
20.9
6.3
%
+
+
+
+
+
+
–
–
–
–
11.1
4.5
3.6
2.0
1.7
0.1
0.9
1.8
2.0
3.1
%
Health
Real estate
GoodHaven
Technology
Communications
FPA Capital
Consumer staples
Pacific Advisors
Small-Cap Value
Financial
Natural resources
Aegis Value
Utilities
Aston/
Cornerstone
Equity energy
CM Advisors I
Currency
Energy companies account for much of the decline in earnings estimates. Leaving that sector out, Tobias Levkovich, chief United States equity strategist at Citi Research, found economic and corporate conditions satisfactory. Credit is still expanding, he said, manufacturing capacity is tight, and capital spending, excluding energy industries, is expected to rise 5 percent this year.
WHETHER the economy is doing well, poorly or so-so, there is a consensus that the United States is faring better than most of the rest of the world. Even so, foreign stock markets and funds that invest in them outperformed. The average international stock fund returned 3.4 percent, with funds that focus on Japan doing exceptionally well, up 12 percent. European funds rose 4.9 percent, while Latin American funds dropped 8.9 percent.
Funds that focus on India were notably strong performers, rising 8.4 percent. With many emerging markets facing difficulties, including high debt, weak currencies and slow global growth, India is “one shiny standout,” said Elizabeth R. Morrissey, managing partner of Kleiman International Consultants. She credits success there, which she predicts will continue, to a package of business-friendly changes made by Prime Minister Narendra Modi.
At the other end of the spectrum is Brazil. Ms. Morrissey described its fortunes as “way scarier than others” because of the strong dollar, collapsing commodity prices, high inflation and a corruption scandal at Petrobras, the national oil company.
“The government has been in office three months, and people are already taking to the streets,” she said.
The rising dollar has had a more benign effect elsewhere. Investment advisers attribute much of the strength in foreign stocks and the dollar to a single catalyst: diverging monetary policies. The Fed may be taking its time to turn hawkish, but few foreign central banks are even contemplating it and several are going in the opposite direction.
The European Central Bank started a program of bond purchases in the first quarter, the Bank of Japan continues to buy bonds, and the People’s Bank of China is expected to do the same soon.
A scandal at Petrobras, which has headquarters in Rio de Janeiro, is among the problems that have hurt Brazil’s fortunes. Credit Mario Tama/Getty Images
These moves have helped make many foreign stocks more appealing. The most recent edition of Bank of America Merrill Lynch’s survey of global fund managers, released in mid-March, found managers with the greatest underweight position in American stocks, versus the rest of the world, since early 2008.
A Fed that is more hawkish than other central banks bolsters the dollar by keeping yields comparatively high on American bonds, enticing foreigners to buy them and, therefore, the dollar. But yields just about everywhere are historically low, perhaps perilously so, and prices are very high, said Joel Beam, manager of the Forward Select Opportunity fund.
“I’m extremely carefully positioned and selling into strength anything that seems overpriced,” he said.
Bond investors escaped the first quarter mostly unscathed. The average fund was up 1.3 percent, with portfolios that specialize in long-term issues rising 3.2 percent. Two categories of funds that hold foreign bonds — world bond and emerging-market bond — were barely changed.
Mr. Beam prefers stocks, with reservations. “The stock landscape is pretty expensive, but people have to be thinking about having more equities in their life for the next five years,” he said. “Rather than buy fixed income and get slaughtered, buy a good bank.”
As for where to seek such a bank or other stock, he suggests Europe, which he considers to be in the early stages of a “robust healing process.”
If Europe is on the mend, investment advisers credit the European Central Bank. Ms. Morrissey believes that the bond purchase program, or quantitative easing, has immunized other weak eurozone economies from danger should Greece leave the currency bloc.
A store in a Tokyo shopping district. Stock funds that focus on Japan were up 12 percent. Credit Franck Robichon/European Pressphoto Agency
“Mr. Draghi saved the day,” she said, referring to Mario Draghi, the head of the bank. “I would expect” the prospect of a Greek exit “to have an impact on Italy, but with Q.E. it hasn’t. The rest of the union will probably hold together.”
As for Greece itself, Ms. Morrissey rates the odds slightly better than even that it will remain in the euro. It is uncertain whether “they have the cash to survive,” she acknowledged, “but it seems the new Greek government really understands the severity of their situation.”
Effusive praise for European policy makers is one reason Mr. Levkovich, the Citi Research equity strategist, prefers American stocks.
“Everyone loves Europe,” he said. “That tells me they’ve bought it already.”
Judging by the tripling of the S.&P. 500 in six years, a lot of investors have bought American stocks, too. He predicted further gains, but only about 7 percent this year. He recommended niches like retailing, financial services and parts of technology like infrastructure and security, and he said he would avoid health care and the bond market.
Mr. Golub, of RBC Capital Markets, also favored American stocks, and was cautious in his optimism. “The weight of evidence suggests the next six to 12 months look pretty safe,” he said.
He warned that it was hard to know how to invest when investors and the Fed itself would prefer a reversion to normal monetary policy but are afraid of the first rate increase that would signal its arrival.
“We’re in a bizarro land,” Mr. Golub said. “The way investors are thinking is abnormal, but it’s logical.”
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