Eric J. Freedman
CAPTRUST Chief Investment Officer
Asset classes produced sluggish returns in the second quarter as investors focused on macroeconomic news as primary capital market drivers.
In the second quarter, significant events around the world masked anemic capital market returns. Riskier asset classes showed mixed performance this quarter. U.S. stocks, as measured by the Standard & Poor’s 500 Index, closed up 0.3 percent, bringing its total return to 1.2 percent for 2015. Developed international stocks closed up 0.8 percent, building on a strong first quarter. Commodities turned in a positive 4.7 percent, reversing recent losses, but public real estate fell more than 9 percent, erasing its first quarter gains.
Bonds’ weakness was a major story in the second quarter. The Barclays Capital U.S. Aggregate Bond Index fell 1.7 percent, the largest quarterly drop for bonds in two years and the second largest quarterly decline in the past eleven years. Weakness centered in government securities. Longer-maturity Treasurys, bonds with at least 30-year maturities, fell more than 10 percent after a strong first quarter. Mid-year, high yield, emerging market, and inflation-protected bonds are leading bond market returns.
Central bank activity continues to dominate the investment landscape. All eyes are on the U.S. Federal Reserve, which has maintained low interest rates despite an improving economy and rebounding labor growth. Some worry that U.S. consumers will face inflation if the Fed keeps borrowing costs too low during an economic resurgence. Meanwhile, higher interest rates have clear implications for bond investors (since yields move inversely to prices). Some of the second quarter’s weakness is in anticipation of the Fed raising rates later this year or early next year.
One issue holding the Federal Reserve back from stepping up interest rates too soon is questionable economic growth abroad. Europe, long mired in slow growth due to weak productivity and inflexible labor laws, has seen economic improvement thanks to a European Central Bank stimulus program. Yet, political instability, most recently in Greece, has hampered that improvement; Greece failed to pay back its creditors for bailout funds due at the end of June. It is unclear if the Greek drama is isolated or if it will become a broader
European problem. Regardless, the U.S. does not want to see Europe, one of its largest trading partners, hold back on spending due to economic uncertainty.
Asia is also a wildcard. The Japanese central bank is attempting to stimulate its economy and evidence suggests it is working, but many question the sustainability of recent gains. Meanwhile, China’s economy is slowing from its mid-2000s growth trajectory, and parts of its stock market have been lower in recent months. As in Japan, China’s central bankers are attempting to stoke consumer demand through stimulus measures, but sustainability remains a question.
We continue to expect a low-return environment for most traditional asset classes. Global interest rates are close to all-time lows and global stocks have hovered near record highs. Valuations are not extreme but, in many areas, equities are fairly valued. We see several parts of the capital markets where patient investors can earn solid returns, but believe we could see more periods of significant news where asset classes don’t do much. We remain “glass half full” with respect to asset class returns; investors may have to adjust to a sluggish period where interest rates drift higher and other asset classes search for direction in a central-bank-driven world.