What a world of difference three months can make. By the end of March, the profound uncertainty of the economic impact of Coronavirus on the US and the rest of the world was largely priced into markets. Investors turned to investments like money market funds and US government bonds as safe havens. Stocks and even investment-grade corporate and municipal bonds, often seen as a relatively safe investment, saw large outflows. Fast forward to July and we have seen a significant rebound from the lows in March. Central Banks and legislatures acted swiftly and decisively, providing liquidity to businesses and citizens alike to keep them afloat. Investor concerns were also eased by unexpectedly good labor, retail, and new home sales data. The S&P 500 Index, representing US large-cap stocks, had the largest quarterly percentage gain since the fourth quarter of 1998¹. US small-cap stocks, represented by the Russell 2000 Index, had their best quarterly performance since the first quarter of 1991².
Small-cap US companies advanced the most in the quarter, outpacing their larger counterparts; however, they still trail for the year. While investor concerns have abated, there is still great uncertainty and these smaller companies, with fewer resources to draw on, are seen as more vulnerable if further shocks occur.
Developed and emerging market countries also enjoyed a robust recovery, with returns in the mid-to-high teens for the quarter. The US dollar strengthened for much of the second quarter before dropping in June, which had a mixed impact on returns for US-based investors.
Growth outperformed value in the US and overseas for another quarter as technology companies were able to operate relatively well in a world where many people stayed inside. Traditional value sectors have not been so lucky. Energy companies have been hit especially hard by lower demand and a supply war that saw oil prices go negative in April, something never seen before³. The conflict has since been resolved and production cuts have helped the price of oil rally to around $40 a barrel, taking the US energy sector with it, which appreciated roughly 30% in the second quarter. The financial services sector underwent stress testing, and the results showed that US banks are in much better shape than during the Great Financial Crisis of 2008.
In fixed income, US investment-grade bonds, including municipals, posted modest returns while being the only major indices with positive returns for the year. Panic-driven selling in the first quarter caused dislocation in these markets, leading to a negative return for municipals. Municipals have recovered thanks in part to the Fed’s intervention to support credit markets. Lower credit rating sectors rebounded even more strongly with high yield and emerging markets bonds each returning close to 10% for the quarter. While markets are surging because of re-opening economies and improving economic data, there is still much uncertainty for investors. Virus cases are climbing in some states, leading to the delay or rolling back of re-openings, impacting businesses and employees that were prepared to go back to work. The news around vaccines and therapies continues to be promising, but more testing and large-scale production will be required before they can be used en masse. The first half of the year has been one for the ages, and volatility is likely to continue until investors have a better idea of what “getting back to normal” entails. Those who stayed true to their long-term financial plan were able to participate in the second-quarter rally and, we believe, will continue to benefit from their discipline, although setbacks along the way are par for the course.
¹ Michael Wursthorn, “U.S. Stocks Finish Best Quarter in More Than 20 Years”, Wall Street Journal, June 30, 2020.
² Yun Li et all, “Stock market live Tuesday: Dow best quarter since 1987, Nasdaq best since 1999, gold tops $1,800”, CNBC, June 30, 2020.
³ “US oil prices turn negative as demand dries up”, BBC, April 21, 2020.
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Dow Jones Industrial Average Index: measures the performance of 30 large, publicly-owned companies trading on the New York Stock Exchange (NYSE) and the NASDAQ. Russell 3000 Index (U.S. Stock Market): measures the performance of the largest 3,000 U.S. companies representing approximately 98% of the investable U.S. equity market. These securities are traded on the NYSE, NYSE MKT, and NASDAQ. S&P 500 Index (Large Cap U.S. Stocks): measures the performance of large-capitalization U.S. Stocks. It is a market-value-weighted index of 500 stocks that are traded on the NYSE, NYSE MKT, and NASDAQ. The weightings make each company’s influence on the Index performance directly proportional to that company’s market value. Russell 2000 Index (Small Cap U.S. Stocks): An unmanaged index that measures the performance of the small-cap segment of the U.S. equity universe. It is a subset of the Russell 3000 Index, representing approximately 10% of the total market capitalization of that index and includes approximately 2,000 of the smallest securities based on a combination of their market cap and current index membership. Russell Investment Group owns the Russell Index data, including all applicable trademarks and copyrights.
MSCI EAFE Index (International Developed Stocks): The MSCI EAFE Index (Europe, Australasia, Far East) is a free float-adjusted market capitalization-weighted index that is designed to measure the equity market performance of developed markets, excluding the U.S. & Canada. The MSCI EAFE Index consists of the following 22 developed market country indices: Australia, Austria, Belgium, Denmark, Finland, France, Germany, Greece, Hong Kong, Ireland, Israel, Italy, Japan, the Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland, and the United Kingdom.
MSCI Emerging Markets Index (Emerging Markets Stocks): is a Morgan Stanley Capital International Index that is designed to measure the performance of equity markets in 23 emerging countries around the world.
Bloomberg Barclays US Aggregate Bond Index (U.S. Bond Market or Investment Grade U.S. Bonds): includes U.S. government, corporate, and mortgage-backed securities with maturities of at least one year.
Bloomberg Barclays Muni Bond Index 1-10 Yr Blend (1-12) (Int-Term Municipal Bonds or US Municipal Bonds): A market value-weighted index which covers the short and intermediate components of the Barclays Capital Municipal Bond Index. The 1-10 Year Municipal Blend index tracks tax-exempt municipal General Obligation, Revenue, Insured, and Prerefunded bonds with a minimum $5 million par amount outstanding, issued as part of a transaction of at least $50 million, and with a remaining maturity from 1 up to (but not including) 12 years.
ICE BofA Merrill Lynch U.S. High Yield, BB-B Rated, Constrained Index (High Yield U.S. Bonds): Tracks the performance of US dollar-denominated below-investment-grade (BBB rated) corporate debt publicly issued in the US domestic market. Qualifying bonds are capitalization-weighted provided the total allocation to an individual issuer does not exceed 2%. Issuers that exceed the limit are reduced to 2% and the face value of each of their bonds is adjusted on a pro-rata basis.
JPM GBI EM GD USD Unhedged Index (Emerging Markets Bonds): The JP Morgan EMBI Global Diversified is a uniquely weighted index that tracks total returns for U.S. dollar-denominated Brady bonds, Eurobonds, traded loans, and local market debt instruments issued by sovereign and quasi-sovereign entities. The index limits the weights of countries with larger debt stocks by only including a specified portion of these countries’ eligible current face amounts of debt outstanding.
JPM EMBI GD Index: J.P. Morgan Emerging Markets Bond Global Diversified Index (EMBI Global Diversified) tracks the returns for U.S. dollar-denominated debt instruments issued by emerging market sovereign and quasi-sovereign entities: Brady bonds, loans, Eurobonds. The index limits the exposure of some of the larger countries.