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THE WEEK AHEAD

Markets reprice risk as trade and interest rate risks emerge.

MACROECONOMIC INSIGHT

The Dow Jones Industrial Average lost more than 1,400 points last week, against a backdrop of trade actions and reprisals. Buying appears to be on hold, at least for now, following a year or more of solid gains for stocks.

It is always hard to pinpoint which, the chicken or the egg, comes first when talking about markets and the economy. To our eye, the two work in conjunction and feed back into each other. We all recognize that an improving economy tends to promote higher stock values. Rising stock values also feed confidence and spending, and makes capital cheaper and more abundant. An interruption in confidence, whether warranted or not, can interrupt an otherwise virtuous cycle.

Each day requires us to assess the conditions that lie before us. Market behavior, trends in economic data, and valuations all matter. Changes in these factors shape and reshape the forecasts that drive tactical decisions by asset class. In the last quarter, we’ve seen several changes worth discussing.

Key Takeaways from Q1

  • The Federal Reserve (FED) raised short-term rates by 0.25% and continues to point toward more to come. We are assuming two more rate hikes this year, which would lead to an end of negative real interest rates and ultra-easy money in the United States.
  • Inflation expectations have picked up a bit. The 2.1% long-run inflation expectation priced into the bond markets is now over the Fed’s 2% target. An unanticipated and sustained rise in inflation increases the risk that the Fed over-tightens monetary policy, choking off the expansion.
  • The stock market’s price-earnings ratio eased back down to 17.1x from 17.9x, based on expected earnings. A surge in forecast earnings, partly due to tax cuts, brings the forward S&P 500 expected earnings figure to $160.
  • The near-term U.S. growth rate became a little soft. For example, both Macroeconomic Advisers and the Atlanta Fed now forecast first quarter GDP growth of 1.8%. The expectations were in the 3-4% range when the year began.

None of this signals the immediate end of the expansion or bull market. In fact, the reassertion of some rational pricing into markets could go a long way to sustaining the expansion.

We are also watching the dollar, which contrary to our call this year, remains under pressure. The faster anticipated growth tied to last year’s tax cuts has not translated into dollar strength. So far, the focus on rising fiscal deficits and talk of trade wars have done little to help the greenback. The weaker dollar, in turn, is helping to lift some commodities and economies tied to such commodities.

Beyond these recent market disturbances, little else appears awry with the growth outlook. Corporate profits, capital spending, and global growth all seem to be doing fairly well. Last week’s strong capital goods orders report, for example, points to continued acceleration of business investment and a second half pickup in growth.

Conclusion

For now, we continue to monitor the interplay between financial markets and the real economy. While levels of economic activity are good, there appears to be little room for growth to disappoint, given market valuations. Risk of a disruption to trade, or excessive monetary tightening, are both risk factors that markets need to factor in.

Next week, we will be releasing our second quarter Viewpoint and updating tactical tilts in the core portions of tactically managed portfolios.

 ECONOMIC DATA THIS WEEK

Date Report Period Survey Prior
Monday, Mar 26: Chicago Fed National Activity Index Feb 0.13 0.12
Dallas Fed Index Mar 33.0 37.2
Tuesday, Mar 27: S&P/Case-Shiller HPI M/M Jan 0.70% 0.64%
S&P/Case-Shiller HPI Y/Y Jan 6.2% 6.3%
Consumer Confidence Mar 130.9 130.8
Richmond Fed Index Mar 22 28
Wednesday, Mar 28: GDP Q/Q 4Q2017 2.5% 2.5%
Wholesale Inventories M/M Feb 0.3% 0.8%
Pending Home Sales M/M Feb 2.3% -4.7%
Thursday, Mar 29: Weekly Jobless Claims 3/24 229k
Personal Consumption Expenditure M/M Feb 0.2% 0.2%
Personal Income M/M Feb 0.5% 0.4%
Consumer Sentiment Mar 102 102
Friday, Mar 30: Chicago PMI Mar 63 61.9
Source: Bloomberg

ASSET ALLOCATION PORTFOLIO POSTURE

Based on shorter-term expectations, the “tactical satellite” allocation within portfolios is:

Overweight Stocks vs. Bonds

WCA PORTFOLIO CHANGES LAST WEEK

VICTORY Portfolio

No change

RISING DIVIDEND Portfolio

No change

CONQUEST Asset Allocation Portfolios

No change

DYNAMIC STRATEGIES Asset Allocation Portfolios

No change

Laddered Bond Portfolio

No change

Kevin Caron, CFA, Senior Portfolio Manager
Chad Morganlander, Senior Portfolio Manager
Matthew Battipaglia, Portfolio Manager
Suzanne Ashley, Analyst

(973) 549-4052

www.washingtoncrossingadvisors.com

www.stifel.com

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Disclosures

WCA Fundamental Conditions Barometer Description: We regularly assess changes in fundamental conditions to help guide near-term asset allocation decisions. The analysis incorporates approximately 30 forward-looking indicators in categories ranging from Credit and Capital Markets to U.S. Economic Conditions and Foreign Conditions. From each category of data, we create three diffusion-style sub-indices that measure the trends in the underlying data. Sustained improvement that is spread across a wide variety of observations will produce index readings above 50 (potentially favoring stocks), while readings below 50 would indicate potential deterioration (potentially favoring bonds). The WCA Fundamental Conditions Index combines the three underlying categories into a single summary measure. This measure can be thought of as a “barometer” for changes in fundamental conditions.

The information contained herein has been prepared from sources believed to be reliable but is not guaranteed by us and is not a complete summary or statement of all available data, nor is it considered an offer to buy or sell any securities referred to herein. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation, or needs of individual investors. There is no guarantee that the figures or opinions forecasted in this report will be realized or achieved. Employees of Stifel, Nicolaus & Company, Incorporated or its affiliates may, at times, release written or oral commentary, technical analysis, or trading strategies that differ from the opinions expressed within. Past performance is no guarantee of future results. Indices are unmanaged, and you cannot invest directly in an index.

Asset allocation and diversification do not ensure a profit and may not protect against loss. There are special considerations associated with international investing, including the risk of currency fluctuations and political and economic events. Investing in emerging markets may involve greater risk and volatility than investing in more developed countries. Due to their narrow focus, sector-based investments typically exhibit greater volatility. Small company stocks are typically more volatile and carry additional risks, since smaller companies generally are not as well established as larger companies. Property values can fall due to environmental, economic, or other reasons, and changes in interest rates can negatively impact the performance of real estate companies. When investing in bonds, it is important to note that as interest rates rise, bond prices will fall. High-yield bonds have greater credit risk than higher-quality bonds. The risk of loss in trading commodities and futures can be substantial. You should therefore carefully consider whether such trading is suitable for you in light of your financial condition. The high degree of leverage that is often obtainable in commodity trading can work against you as well as for you. The use of leverage can lead to large losses as well as gains.

All investments involve risk, including loss of principal, and there is no guarantee that investment objectives will be met. It is important to review your investment objectives, risk tolerance and liquidity needs before choosing an investment style or manager. Equity investments are subject generally to market, market sector, market liquidity, issuer, and investment style risks, among other factors to varying degrees. Fixed Income investments are subject to market, market liquidity, issuer, investment style, interest rate, credit quality, and call risks, among other factors to varying degrees.

The Standard & Poor’s 500 Index is a capitalization-weighted index that is generally considered representative of the U.S. large capitalization market.

The Dow Jones Industrial Average is an index that shows how 30 large, publicly owned companies based in the United States have traded during a standard trading session in the stock market.

This commentary often expresses opinions about the direction of market, investment sector and other trends. The opinions should not be considered predictions of future results. The information contained in this report is based on sources believed to be reliable, but is not guaranteed and not necessarily complete.

The securities discussed in this material were selected due to recent changes in the strategies. This selection criteria is not based on any measurement of performance of the underlying security.

Washington Crossing Advisors LLC is a wholly owned subsidiary and affiliated SEC Registered Investment Adviser of Stifel Financial Corp (NYSE: SF