After a strong start to 2019, market sentiment shifted dramatically in May as virtually every equity market posted sharp declines. Ongoing uncertainty around trade discussions with China served as a significant headwind. Concerns heightened further with the surprise announcement that the U.S. will place escalating tariffs on Mexico if the country does not take steps to address border crossings. Uncertainty also continued overseas as Theresa May resigned as British prime minister and concerns reemerged about the fiscal situation in Italy.
Emerging markets (EM) as measured by the MSCI EM Index led the decline with trade disputes dominating headlines. China fell sharply in early-May after U.S. and Chinese officials failed to reach a trade agreement. Tensions deepened in the days following the trade negotiations after both countries announced plans for further tariffs. Mexico was also a laggard with tariffs at the forefront. Market turmoil was further fueled after President Trump announced sanctions against Chinese telecom company Huawei. The impact of the Huawei sanctions stretched beyond China, weighing on other tech-heavy Asian markets such as Korea and Taiwan. The U.S. tech sector was also hit hard, as indicated by the 8.7% decline of the S&P 500 technology sector.
Hedge funds protected well. Managers with higher gross short exposure and expertise in this area tended to perform well. Popular shorts in the technology sector such as NVIDIA, Micron, Qualcomm, Broadcom, and NetApp traded down in excess of 18.0% in May. In general, equity-heavy managers— specifically those emphasizing technology and energy—did not protect as well.
As risk assets sold off, investors sought the safety of U.S. Treasuries, which helped drive yields lower through the course of the month, particularly at the longer end of the yield curve. While this helped to foster a 6.5% return in the Bloomberg Barclays U.S. Long Treasury Index, it also led to further inversion along segments of the yield curve.
The yield on the T-bill has largely remained anchored between the Fed’s 2.25–2.50% target for the federal funds rate, given the Fed’s forward guidance that it will remain vigilant but patient in how it conducts monetary policy. At a sub-2% yield, the 2-year yield seems to be implying that markets believe the Fed will likely cut rates at least once this year, possibly twice. The decline in the longer end of the curve was driven in part by Fed expectations, but investors are also growing more cautious on the growth outlook. Falling inflation expectations also contributed to the decline in longer term yields.
Another byproduct of rising trade tensions and growth concerns is falling energy prices. Crude oil prices fell partially due to uncertain demand expectations for the remainder of 2019. On the supply side, unexpectedly large increases in U.S. crude production more than offset the impact of OPEC and Russian production cuts, as well as U.S. sanctions on Iranian and Venezuelan exports. Related natural resources stocks traded down on the decline in crude pricing as well as underwhelming quarterly profits from large integrated oil companies. Master limited partnership (MLP) stocks fared better on a relative basis.
Indices referenced are unmanaged and cannot be invested in directly. Index returns do not reflect any investment management fees or transaction expenses. This report is intended for informational purposes only; it does not constitute an offer, nor does it invite anyone to make an offer to buy or sell securities. Information herein has been obtained from third-party sources that are believed to be reliable; however, the accuracy of the data is not guaranteed and may not have been independently verified. The content of this report is current as of the date indicated and is subject to change without notice. It does not take into account the specific investment objectives, financial situations, or needs of individual or institutional investors. All commentary contained within is the opinion of Prime Buchholz and intended solely for our clients. Unless otherwise noted, FactSet was the source for data used in this report. Some statements in this report that are not historical facts are forward-looking statements based on current expectations of future events and are subject to risks and uncertainties that could cause actual results to differ materially from those expressed or implied by such statements. Past performance is not an indication of future results.
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