Quarterly Market Commentary – Q4 2019

U.S. Stocks:

The U.S. stock market continued to set new records, as the S&P 500 Index increased 9.1% in Q4 (+ 31.5% FY 2019). Information Technology continued to be the strongest performing sector, increasing 14.39% in Q4 (+ 50.28% FY 2019). Bloomberg estimated that investors collectively earned $2.7 trillion in Q4 and $6 trillion in 2019. The stock market’s outsized gains this quarter can be explained by a couple of key events:

  • Easing of the U.S. – China Trade War: U.S. tariffs on China were scheduled to increase on December 15th 2019, but the Phase 1 trade deal avoided that outcome and provided a relief to equity markets.
  • Easing of Brexit uncertainties: Britain’s recent election resulted in a massive win for Boris Johnson’s Conservative Party. This victory gives the Conservative Party the majority they needed to successfully execute a Brexit plan with the European Union. Johnson has until the end of 2020 to finalize a deal with the EU.
  • The Federal Reserve cut interests rates by another 25 basis points in October, boosting the economy and investor confidence.

Value stocks outperformed Growth stocks in 2019 (31.9% vs 31.1%). Interestingly, Apple was added to the S&P 500 Value Index at a 7% weight on 12/24/2018 due to its low valuation. Through 11/31/2019, Apple returned 72%, single handedly contributing 5.3% to the Value index’s 31.9% gain in 2019. The last decade also favored growth strategies over value investing, with the S&P 500 Growth Index up 296% versus the S&P 500 Value Index up 214%. Even after this year’s value rally, the S&P 500 Value Index still trades at a 37% discount relative to the growth index, which remains significantly below its 20-year average of a 22% discount.

The market’s sizeable gains in 2019 have some investors concerned about a reversal in 2020. Interestingly, historically good stretches in stocks are not usually followed by bad ones. According to Bespoke Investment Group when the S&P 500 has risen 20% or more over a calendar year, it has had a positive return in the next year 75% of the time. Valuations based on the Fed model, which aims to value the stock market relative to the bond market, also look relatively good. A 10-year U.S. Treasury note currently yields 2.66%, compared to the S&P 500 Index’s earnings yield of 4.6%. (Earnings yield is calculated as a company’s profit divided by its market capitalization) One could argue that given the historically rock-bottom yields in the bond market, many investors are incentivized to invest in the stock market as they search for yield.

Notable & Interesting Company Specific Headlines from Q2:

  • Tesla: A 72% Q4 rally in the electric car maker’s stock took it above the symbolic $420/share stock price at which CEO Elon Musk last year said he wanted to take the company private. The rally comes on the back of stronger than anticipated growth in the Chinese market for Tesla cars. Based on market capitalization, Tesla is now the largest American car company valued at $89 billion, which is almost $40 billion higher than GM and $52 billion higher than Ford.
  • Uber: Co-Founder and long-time CEO Travis Kalanick was finally pushed out of the company he founded in 2009. Kalanick sold more than $2.5 billion of stock in 2019 and he is on track to sell all of his shares by early 2020.
  • Disney: The media conglomerate launched its streaming service called Disney + on November 12th 2019, in an effort to compete with streaming giant, Netflix. By the end of November, Disney + signed up 24 million users in the United States (that is 7.3% of the country’s population in 2 weeks).
  • Nike: The company decided to stop selling its products on Amazon. This could signal that retailers are increasingly starting to treat Amazon’s aggressive in-house retail expansion as a competitor rather than an ally. Nike managed to grow sales by 10% in Q4 even after breaking ties with Amazon.
U.S. Macro News:

The U.S. economic expansion continued to make history as it entered its 11th year. The Federal Reserve decided to cut the federal funds rate by 25 basis points to 1.75% due to concerns of a slowing global economy and rising political uncertainties. The labor market remained tight as unemployment dropped to 3.5%. The strong labor market boosted average hourly earnings by 3.1% Year-over-Year. Wage pressure may continue to rise even if job creation falls below the natural growth rate (100,000 to 125,000 jobs per month) – Q4 saw the following job additions: December: +266,000, November: +128,000, October: +136,000. Wage inflation continued to fuel strong personal consumption. American consumers contributed 2.12% growth to the GDP’s 2.1% overall growth in Q3. Inflation jumped to 2.1% in November, which is slightly above the Federal Reserve’s 2% target. The fiscal deficit grew to $1 trillion (4.6% of GDP) in 2019 with government spending growing 7.5% Year-over-Year compared to government revenues growing 3.3%.

The December ISM Manufacturing PMI headline dipped further into contraction territory, coming in at 47.2 compared to 48.1 in November (readings below 50 indicate negative growth). December marks the fifth consecutive monthly contraction in the manufacturing sector. On the contrary, the services sector continued to compensate for weak manufacturing, coming in at 55 compared to 53.9 in November (readings above 50 signal expansion).

Oil News:

The U.S. benchmark crude (WTI) oil price steadily increased in Q4 2019 closing the year out at $61.06 a barrel. Days into the new year oil prices spiked to $64.5 a barrel on news that the U.S. killed top Iranian general Qasem Soleimani. Since then oil prices moderated to $62.6 as traders didn’t assign a lot of probability to an Iranian response that would limit oil production.

European Union:

The Stoxx Europe 600 Index returned 29% in 2019, barely trailing the S&P 500 Index’s 31.5% return. Over the last decade European stocks lagged their American counterparts, annualizing 8.73% vs. 13.54% for the S&P 500.

The European economy expanded 0.2% Quarter-over-Quarter in Q3. For the full year, Bloomberg estimates that European GDP growth will moderate to 1.2% (down from 1.9% in 2018). The European Central Bank (ECB) has stepped up monetary easing to support growth around the region. The ECB’s asset purchases are now running at a monthly pace of 20 billion euros with no end in sight. Economic performance has been mixed across the region with France driving most of the growth and Germany and Italy barely avoiding contraction.

The United Kingdom electorate gave Prime Minister Boris Johnson a mandate to “get Brexit done” by the end of 2020. Prime Minister Johnson enjoys majority in the parliament which gives him more power to get Brexit done compared to his predecessor Theresa May. It remains uncertain whether Johnson can strike a deal with the European Union before the December 2020 deadline. The UK GDP grew by 0.4% QoQ in Q3 and is on track to grow by 1.3% in FY 2019 compared to 1.4% in FY 2018.

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