A Tale of Two Markets

by: , Chief Investment Officer and Managing Director | IndexIQ; Mark Lacuesta, FRM, CAIA, CIPM, Director of Index Strategies, IndexIQ

The best of the market followed the worst of the market with the S&P 500’s worst December since 1933 preceding its best January since 1987.

While the U.S. government shutdown spanned 35 days from December 22 to January 25, making it the longest shutdown in history, the U.S. equity markets didn’t seem to take notice given the S&P 500 returned 10.43% during the same period and 4 out of 5 weeks in January closing positively. All 11 sectors were also positive, led by Industrials, Energy, and Real Estate. Utilities was the relative laggard at 3.43%. With this strong earnings season, January has been a positive month to aid the S&P 500’s partial recovery from its -19.36% max drawdown reached on December 24, 2018.

Fixed income market indexes were also positive in January. While the U.S. Treasury curve is still inverted between the 1yr/3yr tenors, rates fell across the curve, particularly on the long end, providing tail-winds for fixed income. Credit also picked-up additional return with both Investment Grade and High Yield credit default swap spreads compressing in January, as measured by the Bloomberg Barclays U.S. Corporate Investment Grade Credit Index and the Bloomberg Barclays U.S. Corporate High Yield Credit Index. U.S. Treasuries reported a return of 0.47% while Investment Grade and High Yield Credit posted 2.35% and 4.52% returns, respectively.

Oil, as represented by the spot price of WTI Crude, also reversed its slide, recovering 18.45% after 3-consecutive drawdown months. While the USD declined in January, aiding commodity returns, the WTI futures curve experienced some changes with the front of the curve rising on the near-term contracts. This shift in the curve is influenced by inventory levels which have decreased from the combined output reduction from OPEC as well as the drop in Venezuela’s oil exports. Amid the shifting political climate in Venezuela, the U.S. has also applied economic sanctions on the current government.

In Europe, the UK continues to navigate its Brexit. Prime Minister May survived another confidence vote following the defeat of the current withdrawal agreement outlining the exit. This brings the parties back to renegotiating a deal, with the Irish border backstop the new discussion point. Absence of a deal may lead to a hard exit on March 29.

The U.S. and China also continue their trade discussions, with China making certain concessions including resuming its soy bean purchases and suspending its punitive tariff on U.S. auto parts and imports. Administration officials continue to offer optimistic comments on the rounds of discussions, however, these discussions could be complicated with the pending U.S. criminal case against Huawei and signs of a weakening Chinese economy. If a deal isn’t reached by March 1, the 90-day truce on the 25% tariff on $200 billion of Chinese goods will expire and go into effect.

While these events continue to be negotiated, the MSCI EAFE and MSCI Emerging Market Indexes performed positively at 6.59% and 8.76% respectively. With these event risks and overall market volatility becoming more noticeable, alternative strategies shouldn’t be overlooked. Looking at eight broad hedge fund strategies, as represented by their respective HFRI Index, during the month of January seven of the eight were positive. Equity Hedge was the best performing strategy at 3.74% while Global Macro returned -2.67%. The other strategies were Market Neutral (0.11%), Event Driven (2.37%), Distressed (2.15%), Merger Arbitrage (0.75%), Relative Value (2.18%), and Convertible Arbitrage (1.28%).

Key Economic Data

  • The U.S. Bureau of Economic Analysis (BEA) third quarter 2018 GDP was 3.4%. Real GDP grew by 4.2% in the second quarter of 2018, 2.0% in the first quarter of 2018, and 2.9% in the fourth quarter of 2017.
  • Headline inflation (U.S. Consumer Price Index for All Urban Consumers seasonally adjusted (CPI-U SA)) was at -0.1%. Core inflation (CPI-Ex Food and Energy) came in at 0.2%. For the last 12 months, the CPI-U NSA was 1.9% and the CPI-Ex Food and Energy was 2.2%.
  • The U.S. Bureau of Labor Statistics (U.S. BLS) announced that non-farm payrolls changed by 312,000 compared to the prior change of 155,000. Private sector payroll employment changed by 301,000 compared to 161,000 from the prior period. The unemployment rate increased .2% to 3.9%. The underemployment rate remained unchanged at 7.6%. The labor force participation rate increased 0.2% to 63.1%.
  • The U.S. Department of Housing and Urban Development (HUD) announced New Home Sales at 657,000 which is up 16.9% from the prior month. Existing Home Sales were at 4.99M, down -6.4% from the prior month.
  • The Conference Board Consumer Confidence IndexTM ended at 120.2, down 128.1 from the prior report.

Past performance is no guarantee of future results, which will vary. All investments are subject to market risk and will fluctuate in value.

This material represents an assessment of the market environment as at a specific date; is subject to change; and is not intended to be a forecast of future events or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding the funds or any issuer or security in particular.

The strategies discussed are strictly for illustrative and educational purposes and are not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. There is no guarantee that any strategies discussed will be effective.

This material contains general information only and does not take into account an individual’s financial circumstances. This information should not be relied upon as a primary basis for an investment decision. Rather, an assessment should be made as to whether the information is appropriate in individual circumstances and consideration should be given to talking to a financial advisor before making an investment decision.

The S&P 500 Index is a capitalization-weighted index of 500 stocks. The index is designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.

U.S. Treasuries are backed by the full faith and credit of the United States government as to payment of principal and interest if held to maturity.

The Bloomberg Barclays U.S. Corporate Investment Grade Credit Index measures the investment grade, fixed-rate, taxable corporate bond market. It includes USD denominated securities publicly issued by US and non-US industrial, utility and financial issuers.

The Bloomberg Barclays U.S. Corporate High Yield Credit Index measures the USD-denominated, high yield, fixed-rate corporate bond market. Securities are classified as high yield if the middle rating of Moody’s, Fitch and S&P is Ba1/BB+/BB+ or below. Bonds from issuers with an emerging markets country of risk, based on Barclays EM country definition, are excluded.

A yield curve is a curve on a graph in which the yield of fixed-interest securities is plotted against the length of time they have to run to maturity.

A credit spread is the difference in yield between two bonds of similar maturity, but different credit quality.

A credit default swap (CDS) is a financial derivative or contract that allows an investor to “swap” or offset his or her credit risk with that of another investor.

West Texas Intermediate Crude Oil (WTI) is the underlying commodity of the New York Mercantile Exchange’s oil futures contracts. Light, sweet crude oil is commonly referred to as “oil” in the Western world.

OPEC, the Organization of the Petroleum Exporting Countries, is an intergovernmental organization of 15 nations, founded in 1960 in Baghdad by the first five members, and headquartered since 1965 in Vienna, Austria.

Brexit is the impending withdrawal of the United Kingdom (UK) from the European Union (EU). It follows the referendum of June 23, 2016 when 51.9% of those who voted supported withdrawal.

The MSCI EAFE Index consists of international stocks representing the developed world outside of North America.

The MSCI Emerging Markets Index measures equity market performance in global emerging markets.

The HFR Equity Hedge Index measures strategies that buys stocks that are undervalued and short sells stocks that are overvalued. This strategy may commonly employ variable exposure as well as the use of leverage.

The HFR Equity Market Neutral Index measures strategies that employ sophisticated quantitative techniques of analyzing price data to ascertain information about future price movement and relationships between securities, select securities for purchase and sale.

The HFR Event Driven Index measures strategies that are designed to capture price movement generated by a significant pending corporate event, such as a merger, corporate restructuring, liquidation, bankruptcy, or reorganization.

The HFR Distressed/Restructuring Index measures strategies which employ an investment process focused on corporate fixed income instruments, primarily on corporate credit instruments of companies trading at significant discounts to their value at issuance or obliged (par value) at maturity as a result of either formal bankruptcy proceeding or financial market perception of near term proceedings.

The HFR Merger Arbitrage Index measures strategies which employ an investment process primarily focused on opportunities in equity and equity related instruments of companies which are currently engaged in a corporate transaction.

The HFR Macro Index measures strategies that base holdings, such as long and short positions in various equity, fixed-income, currency, commodities, and futures markets, primarily on the overall economic and political views of various countries, or their macroeconomic principles.

The HFR Relative Value Index measures strategies that seeks to take advantage of price differentials between related financial instruments, such as stocks and bonds, by simultaneously buying and selling the different securities—thereby allowing investors to potentially profit from the “relative value” of the two securities.

The HFR Convertible Arbitrage Index measures strategies often employed by hedge funds that involve the simultaneous purchase of convertible securities and the short sale of the same issuer’s common stock.

The Consumer Price Index for All Urban Consumers (CPI-U) measures the changes in the price of a basket of goods and services purchased by urban consumers.

The Consumer Price Index for All Urban Consumers Ex Food and Energy (Core CPI) is an aggregate of prices paid by urban consumers for a typical basket of goods, excluding food and energy, is widely used by economists because food and energy have very volatile prices.

The Consumer Board U.S. Consumer Confidence Index (CCI) is an indicator designed to measure consumer confidence, which is defined as the degree of optimism on the state of the economy that consumers are expressing through their activities of savings and spending.

New York Life Investments is a service mark and name under which New York Life Investment Management LLC does business. New York Life Investments, an indirect subsidiary of New York Life Insurance Company, located at 51 Madison Avenue, New York, NY 10010, provides investment advisory products and services. IndexIQ® is an indirect wholly owned subsidiary of New York Life Investment Management Holdings LLC and serves as the advisor to the IndexIQ ETFs. ALPS Distributors, Inc. (ALPS) is the principal underwriter of the ETFs. NYLIFE Distributors LLC is a distributor of the ETFs. NYLIFE Distributors LLC is located at 30 Hudson Street, Jersey City, NJ 07302. ALPS Distributors, Inc. is not affiliated with NYLIFE Distributors LLC. NYLIFE Distributors LLC is a Member FINRA/SIPC.

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Salvatore J. Bruno

Chief Investment Officer and Managing Director | IndexIQ

Sal is Chief Investment Officer at IndexIQ, where his primary responsibility includes developing and maintaining the firm’s investment strategies. Sal joined IndexIQ in 2007 from Deutsche Asset Management (DeAM) where he held a number of senior positions

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Mark Lacuesta, FRM, CAIA, CIPM

Director of Index Strategies, IndexIQ

Mark is Director of Index Strategies at IndexIQ where he is responsible for overseeing IndexIQ’s proprietary and third-party indexes underlying the firm’s ETF offerings. In this role, Mark is involved with research, product development, trading, sales, and marketing

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