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Market Commentary

May 2017 Market Commentary – The Death of Volatility?

Data Source: Bloomberg

Highlights:

• Global equity markets put in another strong month, prompted by the outcome of the French elections with centrist/reformist Emmanuel Macron prevailing over populist candidate Jean-Marie LePen. 
• Underneath the strong, stable market advance lies a curious appetite for premium growth and safety as investors move away from the cyclical recovery trade and opt for greater certainty, whether in expensive technology or in defensive sectors such as utilities and staples.  All three led S&P sectors in May.
• Globally, value and small cap underperformed and emerging markets gave back some of its leadership in favor of investors’ newfound love for European markets which led all major regions. 
• Part of the strong performance of overseas markets came from a weakening U.S. dollar.  The trade-weighted dollar index (DXY) was down just over 2% for the month. 
• Fixed income markets have also rallied as credit spreads narrow reflecting a benign outlook for corporate debt service.  The 10-Year Treasury Yield declined to 2.20% from 2.28% at the beginning of the month and is down from its YTD high of 2.62%. 
• The 2-10 year term structure continues to flatten and forward inflation expectations have dropped below 2%.  The fixed income market seems to be expressing a view that the cyclical reflationary trade is done for now as it appears more likely that fiscal initiatives will be delayed until 2018, if they occur at all. 
• As implied volatility priced into equity and fixed income markets drops to new lows, the question of whether volatility is dead is grabbing more media attention.  Positioning for lower volatility may appear to be crowded in the short-term, but it also reflects the new normal of low secular growth combined with heightened global central bank liquidity. 
• It has been a challenging year for investment portfolios tilted towards smaller caps and value.  Even portfolios built on global diversification have generally struggled in a narrowly-driven environment, whether large cap growth or single regions like Europe.  For now, sentiment continues to favor a growth/defensive style of investing, but the macro environment is still supportive of broader market participation. 

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