In the World

Markets bounced back from December’s steep sell-off, embodying the old adage that good things come to those who wait. A dovish pivot by the Federal Reserve – with a focus on “patience” in Fed officials’ comments as well as the official statement in January – combined with optimism over U.S-China trade negotiations bolstered investor sentiment and contributed to impressive gains in equities. The U.S. led the rally in developed markets as the S&P 500 index rose 8.0%, marking its best January in over 30 years; MSCI Emerging Markets Index also surged 8.8%. Still, U.S. stocks remained nearly 8% below their 2018 peak in September. The robust “risk-on” sentiment reverberated across other asset classes: Credit spreads tightened, with lower-credit-quality corporate debt outperforming higher-quality; emerging market currencies appreciated against the U.S. dollar; and U.S. inflation expectations rose. Brent crude oil prices also rallied over the month, recovering to $62 per barrel on the back of OPEC production cuts and new U.S. sanctions on Venezuela’s oil industry. However, even as sentiment improved, bond yields fell across many developed economies as corporate earnings were mixed and evidence grew of a slowdown in global economies. The dovish tilt from the Fed and other central banks also contributed to the move lower in rates.

The Fed preached “patience” in light of tighter financial conditions and only modest inflation. The Fed indicated that the case for raising rates had recently “weakened somewhat” and that it would be patient in assessing the need for any further hikes. The Federal Open Market Committee (FOMC) went so far as to remove language calling for “some further gradual increases” in its official statement and signaled it would be flexible with the wind-down of its balance sheet. The shift in tone from December – when the Fed indicated a bias to tighten further and referred to balance-sheet reduction on “autopilot” – helped spur the rally in global equities. The Fed’s caution followed a string of weak economic data globally. China grew at 6.6% in 2018 – its slowest pace in nearly three decades – and Germany’s economic growth slipped to a slower-than-expected 1.5%. Business activity reflected in Purchasing Managers’ Indexes (PMIs) also pointed to a broad-based slowdown: Euro area PMIs edged lower, while manufacturing PMIs in the U.S. and China fell sharply. The European Central Bank (ECB) flagged risks that “have moved to the downside,” citing trade tensions, Brexit and market volatility. Still, continued labor market strength helped mitigate some concern. The U.S. added 312,000 jobs in December, and wages grew at the quickest pace since 2009; in Europe, unemployment fell to 7.9%, its lowest level since October 2008.

U.S.-China trade progress, a political crisis in Venezuela and the reopening of Brexit negotiations captured headlines. There was some optimism around U.S.-China trade negotiations as high-level delegates from Beijing and Washington met to advance trade talks following the 90-day “truce” in December. Complicating matters somewhat, however, the U.S. Justice Department brought criminal charges against Chinese telecommunications company Huawei for allegedly stealing trade secrets and evading U.S. economic sanctions on Iran, among other charges. Meanwhile, U.S. President Donald Trump reopened the government after its longest shutdown in history, and agreed to temporary funding through February 15 in exchange for negotiations on immigration legislation. In Venezuela, following the inauguration of incumbent President Nicolás Maduro, opposition leader and head of the National Assembly Juan Guaidó declared himself interim president. He was swiftly recognized by many countries, including the U.S., Brazil and Canada, while Russia and China reiterated their support for Maduro. In Britain, the government held a series of votes: Parliament voted down Prime Minister Theresa May’s negotiated withdrawal agreement with the European Union, failed to pass a no-confidence motion to remove May from office, and ruled out a “no- deal” Brexit.

Expectations Cut

Expectations Cut
In early November 2018, the 10-year U.S. Treasury yield hit a five-year high, and market expectations for future rate hikes were broadly in line with the Federal Open Market Committee’s “dot plot,” released in December, which signaled two rate increases in 2019. However, as equity market volatility and tightening financial conditions took hold at the end of 2018, market expectations for future rate hikes fell sharply, and U.S. Treasury bonds rallied. By early January, Federal Reserve Chairman Jerome Powell and other Fed officials appeared to switch gears, signaling patience and flexibility in determining the pace of future hikes (if any were even to occur). Following several such comments, including at the Fed’s post-meeting press conference, markets ended January with a dramatically different projection than just two months prior: Expectations leaned toward the Fed ending its rate hiking cycle and even went so far as to price the next move as a rate cut in 2020.