Market Data for the quarter ended June 28, 2019:
• S&P 500 Stock Index: 2942, up 3.8%
• Ten-year Treasury Note Yield: 2.01%, down .40%
• Gold: $1,440 per ounce, up 8.9%
• Oil: $58 per barrel, down 2.6%
Stocks advanced in the second quarter, and bond yields declined, as markets anticipated lower overnight interest rates administered by the US Federal Reserve along with further accommodative monetary policy from major central banks around the globe. The expectation of further policy easing was able to trump concerns regarding global trade tensions, principally between the United States and China. Lower overnight interest rates, in the case of stocks, are supportive of economic growth, while they also put downward pressure on the yields of longer-term bonds. Trade wars, conversely, reduce economic activity and profit growth.
As we see it, the dynamic in markets moving forward will be similar to that of the second quarter: the ability of central banks to stimulate their economies versus continued global trade tensions. Although Presidents Trump of the US and Xi of China agreed to restart trade negotiations and refrain from further punitive trade measures at the recent G-20 meeting in Osaka, Japan, current tariff measures remain in place, and there is a very real possibility of worsening relations if the negotiations fail to reach an agreement. Furthermore, President Trump has also threatened the Europeans and Japanese with tariffs on their car exports if they are unable to reach a trade agreement by the end of the year.
The erection of trade barriers is detrimental to the economy in two respects. First, they increase prices to consumers, suppressing overall consumption, i.e. the more you must spend on an imported good, the less you have available to spend on domestic goods and services. Second, they disrupt complex global supply chains built up over decades, which wreaks havoc with corporate investment plans, thus further pressuring economic activity. Contrary to the claims of President Trump, trade wars are neither good, nor easy to win.
Pushing against this dynamic is more accommodative monetary policy by global central banks, including, most notably, the US Federal Reserve. As stated above, lower policy interest rates stimulate the economy through lowering interest costs to both businesses and consumers. Additionally, the mere fact central banks are seeking to stimulate the economy bolsters corporate and investor confidence, which can create a self-fulfilling prophecy of increased economic activity.
Beyond the push and pull of trade and monetary policy, the tensions between the United States and Iran could have significant economic and market impact if they were to turn into actual warfare. The Persian Gulf is a major source of the world’s oil and gas supply, and if energy flows from the region were disrupted, as they likely would be in case of war, energy prices would move appreciably higher, thus crimping economic activity, which depends on stable energy prices. This, in turn, would likely send stocks appreciably lower. As we believe neither President Trump, nor the Iranian leadership want war, a miscalculation that results in war is a very real possibility. This is a situation that bears paying close attention to.
Our baseline expectation for the third quarter is that stocks continue to move higher, as it is usually a good idea to not bet against the Federal Reserve. However, the potential disruption surrounding trade tensions and Iran present a clear and present danger to the global economy and share prices. For the remainder of the year, we expect the stock market, as represented by the S&P 500 stock index, to trade in range of 2700 to 3100. It finished the second quarter at 2942.