Global markets since early March have continued to trade with a mildly cautious tone following strong gains of the past year. A period of consolidation should be expected as profit-taking sets in, economic forecasts catch up to the recent firming in activity data, anticipated timelines for President Trump’s pro-growth legislative agenda lengthen and geo-political noise picks up on a multitude of fronts. Given this bout of market volatility has been quite mild (S&P500: -2%; TSX: -1.7% from their late February – early March peaks) and orderly thus far, there is scope for further modest consolidation over the remainder of the second quarter within the normal bounds of this late-stage bull market. To be sure, economic fundamentals remain on solid footing with the global recovery broadening out to Europe and Asia with particularly encouraging data out of China in recent weeks. Thus, the medium-term backdrop for global markets remains constructive and we see any second quarter market pullback as an attractive opportunity to put cash to work.
Our view from a month ago that a pipeline of volatility-inducing events could trigger a modest pullback (2%-5%) across major indices continues to materialize. Over the month of March, U.S. interest rates were hiked 25bp, President Trump failed to even get a vote on proposed legislation to repeal and replace Obamacare, the U.K. formally triggered negotiations on its exit from the European Union, and the French presidential election race continued to heat up. As a result, global markets have traded with a subtly cautious tone as they absorbed these developments and downgraded lofty expectations of speedy passage of Trump’s pro- growth agenda (ie. tax reform, fiscal spending boost, etc.).
The new quarter started with a wide range of news and events for market watchers to digest. In the U.S., an upbeat read on the job market was released Wednesday as a better-than-expected 263,000 private sector jobs were added in March according to payroll firm Automatic Data Processing (ADP). The strong print reinforces post-presidential election optimism about an expanding economy. Fed minutes from its March meeting were also released Wednesday without any clues as to the pace of interest rate hikes but with plans to shrink its balance sheet.
Fundamentals and technicals have remained supportive for risk assets since Q2/16, and our asset mix model has been sending large equity overweight (OW) signals. Since June 2016, the S&P 500 is outperforming bonds by over 16%. Although the equity OW signal from our model remains intact and macro fundamentals are still supportive, we expect the equity “advantage” to fade in 2H/17.
Recommended Asset Mix. We are sticking to an equity over bond preference, but we are reducing our U.S. equity exposure by 3%. Cash (+1%), EAFE (+1%), and EM (+1%) move up. Within the Americas, we continue to prefer LatAm/Canada over the U.S.