Key Points

  • U.S. stocks have been relatively stable in the absence of trade tension escalation, but have failed to breach their all-time highs in July.

  • Economic data has been mixed of late, and leading indicators have not yet confirmed the recent strength in economic surprises.

  • Global manufacturing weakness is beginning to spill over into confidence and employment channels, sending an ominous signal for world economies.

“Nothing ever becomes real till it is experienced.”
―John Keats

Hitting the ceiling

While U.S. stocks emerged out of their tight range a couple weeks ago, they have yet to surpass their July highs—as trade uncertainties remain, economic data continues to be mixed, and cloudy monetary policy and political outlooks persist. U.S. equities’ breakout to the upside was accelerated by a rapid factor reversal that favored small-cap and value stocks—strategies that have not worked for investors in the current bull market. Yet, this turned out to be a very short-lived phenomenon and we are back in an environment that tends to favor large-cap, low volatility and momentum stocks. You can see in the chart below small caps’ brief strong showing along with large caps’ subsequent outperformance over the past couple weeks; as well as large caps’ strength over the past 18 months. Larger cap companies have lower debt levels than their smaller cap brethren; are more nimble with regards to trade; and have a global presence, making it possible for them to borrow at negative rates. These fundamentals, along with the fact that a record percentage of smaller companies have soaring debt levels (as measured by the S&P 600’s debt-equity ratio of 124%), continue to support our large cap bias.

Small Caps’ Moment in the Spotlight is Over

Source: Charles Schwab, Bloomberg, as of 9/25/2019. Relative performance of Russell 2000 to S&P 500. Past performance is no guarantee of future results.