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Market commentary

Brian JacobsenBy Brian Jacobsen,
Ph.D., CFA, CFP®,
Chief Portfolio Strategist

Looking back to January, stock markets had the worst start to the year in a long time. Just remember that a bad start to the year doesn’t tell us anything about how the rest of the year might go. Looking forward, falling oil prices may stabilize, companies’ earnings have been beating analysts’ expectations, and global monetary policy is set to get looser before it gets tighter. This should all conspire to keep interest rates low and improve the performance of stocks and high-yield bonds.

January’s volatility was partially driven by China’s steep stock market drop and sinking currency, plus falling oil prices. Investors pushed stocks lower on fears that falling oil prices were confirming current weakness in China and future weakness in the U.S.

While the situation is still fragile, we believe the Chinese government and central bank are still in control. If we are wrong and a panic is developing, the Chinese government has the two weapons needed to fight it: lots of money and plenty of warning.

The oil situation may be with us for a while. However, every barrel used is one that’s gone forever. Lower prices have brought lower exploration activity, and that will affect production. Meanwhile, the positive impact of lower oil prices should begin to be felt soon. Lower prices mean more money to spend elsewhere.

In bond markets, struggles in high yield have spilled over into investment-grade corporates. Problems in Puerto Rico continue to weigh on municipal bonds, and emerging markets are struggling with the same problems as domestic high yield. Low commodity prices and weaker currencies have conspired against dollar-denominated debt. Going forward, the relatively low yields in Japan and Europe are likely to keep international bond returns somewhat lower than returns from domestic investment-grade sectors.

Investors are nervous, and that affects markets. But we think the economic data hasn’t been weak enough to merit the abysmal start to the year. We’re watching the central banks: Monetary easing around the world may push the Federal Reserve to delay further rate hikes. In addition, U.S. consumers seem to be in good shape. Job and housing markets are pretty healthy, and debt is falling.

What can investors do?

  • Watch small-cap growth: Equity rebounds have typically started in small-cap growth, moving toward largecap value. If you see that pattern developing, it’s likely confirmation that the correction is over.

  • Focus on quality: Particularly for those nearing retirement, high-quality stocks are more important than ever. You may want to delegate stock selection to a professional through an actively managed mutual fund.

  • Tilt to international: Consider adding more international equity exposure opportunistically. We’re seeing long-term value in international versus domestic equities, particularly in developed Europe.

  • Think about health care: U.S. stocks in the health care sector have been getting cheaper, while their fundamentals still seem strong.

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