Kai W. Hong, CFA
Managing Director & Chief Investment Strategist
Markets began the year mostly range-bound as investors absorbed the dramatic gains of the prior months and turned their attention to the impending reality of a new US administration. News was dominated with more talk than action but the broad contours emerged of a dramatically new direction in US economic and geopolitical policy – less regulation and more domestically-focused. Macroeconomic conditions were mostly stable, and monetary policy remained generally supportive despite the US Fed’s bias towards tightening. Meanwhile, late month bullishness pushed the Dow above the 20,000 level. This market enthusiasm continued for a while as investors seemed to focus more on potential upsides to policy rather than uncertainty and downside risks. While talk of deregulation and tax reform in the US was enough to stoke markets’ animal spirits, the consolidation and persistence of these levels would likely require a fair amount of fundamental improvement with only modest room for disappointment. However, it seems that FoMO (Fear of Missing Out) could be just as strong in markets as it is in the social media context. Against that backdrop, the US Fed held off on increasing interest rates at their February meeting but spent much of the latter part of the month laying the ground work for the eventual hike in March given optimism about the US economy. Enthusiasm tempered a bit in March, as the failure of the attempt to repeal the Affordable Care Act caused investors to reassess the likelihood of success for other administration and Congressional Republican initiatives such as tax reform and infrastructure spend. Outside of the US, European leaders turned their attention to “hard Brexit” as the formal process for the UK’s exit from the European Union began while in Asia North Korean actions once again pushed to the forefront as Chinese President Xi Jinping prepared for a visit to the US.
For the quarter, the US broad market Russell 3000 Index finished at +5.7% with the market rally post-election continuing apace. Returns in US small cap stocks moderated from their leadership of the prior quarters as the Russell 2000 Index returned +2.5%. Outside of the US, performance in developed markets finally outpaced the US with the MSCI World ex USA Index returning +6.8%, supported by a near-term reversal of US dollar strength. Performance in developing markets was even stronger with the MSCI Emerging Markets Index returning +11.4%, as recent concerns subsided and valuations continued to be supportive.
Market volatility remained quite low as investors were seen to be either complacent or resilient depending on your point-of-view. Trade volumes remained modest but saw an uptick towards the end of the quarter. At the factor level, the quarter saw a strong reversal of trends from the prior year as Value and Smaller size were both fairly negative. Interestingly, other factors such as Stability, Momentum, and Low Volatility continued to lag with Quality being the only notable positive factor. At the sector level, the growth sectors of Technology, Health Care, and Consumer Discretionary led while Energy was the only negative performer for the period.