Q4 2018 RECAP
January 7, 2019
4TH QUARTER: RISK-OFF ACROSS-THE-BOARD! U.S., GLOBAL EQUITIES RECORD DOUBLE-DIGIT DECLINES. THE TECH-HEAVY NASDAQ, OIL PRICES FALL INTO BEAR MARKETS, WTI DROPS 40%. GOLD GAINED 7%, LOWER IN 2018. THE EURO, POUND DOWN VS. U.S. DOLLAR, YEN HIGHER. FED HIKED OVERNIGHT RATE 4TH TIME…NEAR NEUTRAL; FORWARD GUIDANCE MORE DOVISH.
POWELL AND TRUMP SHARED MARKET’S SPOTLIGHT (NET NEGATIVE). U.S. TREASURY PRICES RALLIED – ACROSS ALL MATURITIES – WITH STOCKS PRESSURED. INVESTMENT-GRADE BONDS, MORE SO HIGH-YIELD BONDS, UNDERPERFORMED. THE ECB ENDED QE IN EUROPE, KEPT DEPOSIT RATES NEGATIVE. THE BOJ LEFT QE FOREVER! THE BOE WARNED ON BREXIT.
The year’s final quarter proved toughest on all risk assets. Bond prices rose each month, with the 10-year T-note closing at 2.68%. The 2-year note which saw a relentless climb in yield into October, finally gained favor, its yield declining by 50 basis points, a significant percentage from a high near 3%. As was the case each quarter, the Federal Reserve lifted the funds rate at year-end. Though it had projected a rate increase, the statement and tenor of the press conference failed to impress investors. A potential policy mistake leading to an economic recession was on investors’ minds in December, thus intensifying markets general angst.
That the Fed and investors were not seen to be in sync was a major part of the narrative at year-end, with the central bank penciling 2 additional rate increases in the New Year, and seeing no sharp slowdown on the horizon. In fact, at the beginning of the quarter, chair Powell delivered words (later retracted) that the overnight rate was far-from-neutral. Later, by late November, the words were revised to being just below the neutral range. That surprised markets, both bonds and stocks rallied, but only for a short spell as it did not translate to the more dovish statement markets had anticipated to compensate for a 4th rate hike.
Selling pressure on stocks accumulated, in waves at times, but volatility remained high and constant throughout Q4. October reminded investors of historical years, November also saw highs and lows, before and after the mid-term U.S. elections. But at least the S&P 500 Index closed in-the-black after Black Friday. That was not the case in December! A record loss in the S&P which barely avoided a bear market by virtue of a late spike in prices attributed to pension funds’ reallocation into stocks at year-end.
Finally, oil plummeted over the final 90 days, breaking through previous support prices, including the opening price for 2018. So, in numbers, WTI declined more than $30 from a high of $76, despite an OPEC meeting vowing to cut production. To no avail in the short-term. The catalyst for the massive drop appeared to be a reversal of a previous Iranian sanctions. As markets feared a supply shortage in the spring when announced, as the date approached the U.S. administration applied waivers to numerous countries, mostly in Asia, thus diminishing its anticipated initial impact. Geopolitical risks abounded, and Saudi Arabia increased (not decreased) oil production the better part of Q4 before adherence to OPEC’s accord was set to start in the New Year. In short, a long-string of consecutive weeks with high inventory counts well above the 5-year average keep prices on the defensive.
Lower oil prices can change the market’s sentiment and the economists’ forecasts on growth and inflation rather quickly, and the steep drop forced a reassessment of the demand side of the equation too. How much of the sharpest decline in 4 years was based on softer demand and not just oversupply? And, if it contributed in a major way, then perhaps previous assumptions on growth and inflation need to be recalculated. For the first time in 2018, the Fed lowered 2019 estimates for GDP and inflation.
CAN THE U.S. AND CHINA STRIKE A TRADE DEAL EARLY-ON IN 2019? WILL NEXT WEEK’S TRADE NEGOTIATIONS IN BEIJING PROVE DECISIVE? WILL DOLLAR-YUAN RATE HINT AT THE PERCEIVED SUCCESS OF ANY ACCORD? WILL TRUMP AND POWELL MEET IN JANUARY, AND IF SO, WHAT ARE POSSIBLE RISKS, REAL AND PERCEIVED? WILL NAFTA 2.0 BE RATIFIED BY CONGRESS? WILL BUDGET AND TRADE DEFICITS WEAKEN THE DOLLAR IN 2019?