Equity markets rallied last week with the hope of a diplomatic solution to the crisis between Syria and the United States. The S&P 500 advanced 2.03% for the week.  Broadly, the S&P 500 is in a churning phase after witnessing an all-time high of 1709 on August 2 and then stalling.1 We believe the market has been on hold while waiting for lower oil prices, progress on Syria, further global growth and successful Federal Reserve tapering.
Global Economy Gains Strength but Fed Actions Influence Future
Economic growth is gaining traction yet remains modest. The speed at which bond yields backed up has been unsettling, but a dialing down of the Fed’s accommodative policy equates to a vote of confidence for the economy. We still believe economic and monetary policy will support risk assets.
Weekly Top Themes
1. The Fed will likely taper the rate of its monthly asset purchases at this week’s FOMC meeting. We anticipate approximately a $10 billion (or somewhat higher) decrease in the rate of U.S. Treasury monthly purchases and no change in purchases of mortgage-backed securities (MBS). Monetary policy will be pro-growth as the Fed starts to slow the rate of Treasury purchases. The Fed’s balance sheet should continue expanding until mid-2014.
2. The latest federal budget data shows a continued improvement in the deficit with year-over-year revenues up 12.6% and spending down 6.7%.  As a result, the deficit has declined $550 billion since last August, a nearly 50% decline.
3. The House Republican leadership proposed a plan to fund the U.S. government at current levels until mid-December. The continuing resolution would be accompanied by a related bill that would prohibit funding for the Affordable Care Act. Even if the procedure is not initially successful in satisfying House conservatives, we believe a resolution for government funding at current levels will pass into law before September 30. We expect it will be far more difficult to arrive at a deal to raise the debt ceiling.
4. 2013 is on track to be the worst U.S. bond market in 40 years.  In contrast, equities have returned approximately 20% year to date.  Bond prices have fallen since May while equities have stalled. Weak growth and higher bond yields are not a winning combination for equities. We can’t deny the damage of higher yields but see upside risk for our forecast of trend-like growth over the coming year, based on low inventory levels, less drag from fiscal austerity and bank deleveraging and slightly improved confidence.
5. Emerging markets have begun to rally, and relative equity valuations have compressed significantly compared to developed markets.  Such valuation levels between emerging markets and the developed world have not been seen since the 2008 financial crisis. Emerging markets do continue to face headwinds. Although a bearish take on China has become the consensus view, credit markets and monetary growth have stabilized.
The Big Picture
In conclusion, geopolitical tremors from the Middle East and concerns over Fed tapering have heightened investor anxiety and financial market volatility. However, these anxieties seem to be easing. We believe underlying macro fundamentals for the global economy have not been deflected. The global recovery is gradually gaining traction and starting to broaden. Leading economic indicators and purchasing manager surveys continue to rise slowly and point to potentially better growth ahead. There is increasing evidence that the U.S. economic expansion is developing. Around the world, data suggests the Euro area is starting to stabilize, aggressive reflation has shifted Japan to a net contributor to global GDP, and the deceleration in China seems to have ended. Also, global monetary settings will stay supportive.
In our view, the uptrend in the global stock/bond ratio will persist. Investors have just started to reposition out of bonds and into equities. Relative valuations continue to strongly favor equities despite the recent rise in bond yields and forward price/ earnings ratios. We continue to favor economic growth sensitive assets in order to capitalize on our expectations for a strengthening global economy and a shift in investor preferences. ▪
Source: Morningstar Direct and Bloomberg, as of 9/13/13. All index returns are shown in U.S. dollars. Past performance is no guarantee of future results. Index performance is shown for illustrative purposes only. Index returns include reinvestment of income and do not reflect investment advisory and other fees that would reduce performance in an actual client account. All indices are unmanaged and unavailable for direct investment.
Bob Doll serves as a leading member of the equities investing team for Nuveen Asset Management, providing reasoned analysis through ongoing market commentary and equity portfolio management.
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1 Source: Morningstar Direct, as of 9/13/13. 2 Source: Department of the Treasury, Bureau of the Fiscal Service, “Monthly Treasury Statement,” August 31, 2013. 3 Source: Morningstar Direct, as of 9/13/13. 4 Source: Morningstar Direct, as of 9/13/13. 5 Source: Morningstar Direct and Bloomberg, as of 9/13/13.
The S&P 500 Index is a capitalization-weighted index of 500 stocks designed to measure the performance of the broad domestic economy. The MSCI World Index ex-U.S. is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed markets minus the United States. The MSCI Emerging Markets Index is a free float-adjusted market capitalization index that is designed to measure equity market performance of emerging markets.
RISKS AND OTHER IMPORTANT CONSIDERATIONS
The views and opinions expressed are for informational and educational purposes only as of the date of writing and may change at any time based on market or other conditions and may not come to pass. This material is not intended to be relied upon as investment advice or recommendations, does not constitute a solicitation to buy or sell securities and should not be considered specific legal, investment or tax advice. The information provided does not take into account the specific objectives, financial situation, or particular needs of any specific person. All investments carry a certain degree of risk and there is no assurance that an investment will provide positive performance over any period of time. Equity investments are subject to market risk or the risk that stocks will decline in response to such factors as adverse company news or industry developments or a general economic decline. Debt or fixed income securities are subject to market risk, credit risk, interest rate risk, call risk, tax risk, political and economic risk, and income risk. As interest rates rise, bond prices fall. Non-investment-grade bonds involve heightened credit risk, liquidity risk, and potential for default. Foreign investing involves additional risks, including currency fluctuation, political and economic instability, lack of liquidity and differing legal and accounting standards. These risks are magnified in emerging markets. Past performance is no guarantee of future results.
Nuveen Asset Management, LLC is a registered investment adviser and an affiliate of Nuveen Investments, Inc.