Remember the scene from the movie Top Gun when Tom Cruise’s character, Maverick, was asked how he could have observed a Soviet fighter jet perform a certain maneuver if he was flying above it?
“Because I was inverted,” replied Maverick.
Tom Cruise could have been playing the US Bond Market in Q2 as longer maturity bond yields fell below those on the shorter end of the curve, or in other words, inverted.
Conventional wisdom says that when long term bonds become more pricey than shorter term bonds, a recession is coming. However, as we discussed last November in this Accountable Update post, sometimes the stock market does an Iceman (Val Kilmer) and calls BS on the bond market.
The S&P 500 made new highs and the economy continued humming along at 3.1% in Q1 with US job openings outnumbering the number of people that are out of work. With Fed rate cuts now seeming more likely, an elusive trade deal with China, saber rattling in the Middle East (does that ever stop?), and the rhetoric of the 2020 Presidential campaign already making headlines, we might as well get our popcorn ready for the second half of 2019. If you came in late or weren’t paying attention, here’s what happened in the last act.
Equity markets around the globe posted positive returns in Q2. Looking at broad market indices, US equities outperformed non-US developed and emerging markets during the quarter. Value stocks beat growth stocks in emerging markets but under-performed in developed markets. Small caps under-performed large caps in all regions.
Real Estate Investment Trust (REIT) indices under-performed equity markets in both the US and non-US developed markets, with non-US REITs having a little better showing than the US.
US stocks continued what has been about a decade of out-performance of international developed and emerging markets equities. Small cap stocks lagged large caps in the US, and value under-performed growth across large and small cap stocks.
In US dollar terms, developed markets stocks outside the US outperformed emerging markets equities in Q2. Small caps under-performed large caps in non-US developed markets. Growth stocks out-performed value across large and small cap stocks.
Emerging markets trailed developed markets, while value stocks generally outperformed growth stocks and large caps bested small caps.
Switzerland and Germany recorded the highest country performance in developed markets, while Hong Kong and Japan posted the lowest returns for the quarter. There was a wide dispersion in returns across emerging markets. Greece recorded the highest country performance with a gain of 23%, while Pakistan posted the lowest performance, declining 21%.
In both developed and emerging markets, currencies were mixed against the US dollar.
Commodities lagged as the Bloomberg Commodity Index Total Return declined 1.19% in the quarter. Corn and wheat led performance, returning 14.24% and 13.36%, respectively. Natural gas and cotton were the worst performers, declining by 16.67% and 14.72%, respectively.
As previously mentioned, interest rates decreased in the US Treasury market, with the the yield on the 5-year Treasury note declining by 47 basis points (bps), ending at 1.76%. The yield on the 10-year Treasury note fell by 41 bps to 2.00%. The 30-year Treasury bond yield decreased by 29 bps to finish at 2.52%.
On the short end of the curve, the 1-month Treasury bill yield decreased to 2.18%, while the 1-year T-bill yield fell to 1.92%, a 48 bps drop. The 2-year T-note yield finished at 1.75%, decreasing 52 bps.
In terms of total returns, short-term corporate bonds increased by 2.09% and intermediate-term corporate bonds rose by 3.13%. The total return for short-term municipal bonds was 1.12%, while intermediate munis returned 1.98%. Revenue bonds outperformed general obligation bonds.
Interest rates in the global developed markets generally fell during the quarter. Just as in the US, longer-term bonds generally outperformed shorter-term bonds in those markets. Short- and intermediate-term nominal interest rates again were negative in Germany and Japan.
The Q2 2019 Market Review features world capital market performance and a timeline of events for the past quarter. It begins with a global overview, then features the returns of stock and bond asset classes in the US and international markets.