Stocks charged higher this week despite ongoing declines in fundamentals and the Brexit debate moving into extra innings. One positive data point, however, showed Chinese manufacturing heating up, alleviating one of the bigger fears for investors, mainly a significant slowdown in the engine of global growth. Unsurprisingly, this coincides with a massive push from the Chinese government and central bank to reinvigorate the economy after a dismal year in 2018. Meanwhile, bonds and stocks continue to diverge in their signaling of an upcoming recession, with equities looking past the soft data and fixed income indicating a greater than 50% chance of a recession in the coming year according to some models. There remains a lack of consensus among economists and analysts whether the predicted profit recession over the next two quarters portends further weakening ahead.
One theme that has resurged since the December low has been the leadership of technology stocks that has sustained much of the bull market rally over the years. After a severe drawdown that had technology firms lagging the overall market for months, this sector has regained it’s leadership status, as investors continue to reward firms with the brightest growth prospects and profitability. Given the recession fears hovering over markets, buyers have flocked to quality companies with low leverage, high returns on equity, and stable organic earnings – all characteristics of some of the dominant tech players today. Unlike the dotcom bubble leading up to 2000, this time the largest technology firms are some of the most stable and profitable in the market, and many are trading at traditional valuation metrics in line with the broader market despite their high growth prospects. We continue to believe that these corporations overwhelmingly represent the greatest opportunities moving forward, as technology becomes more ubiquitous for consumers and industry in the future.
We are remaining modestly defensive for now, with equity markets continuing to rally strongly from easing monetary policy from the Fed and a potential break in the trade dispute between the US and China. With yields continuing to stay lower and equities higher, the dynamic remains unclear whether bonds or stocks or both are overpriced at this time. With fundamentals deteriorating almost across the board, either markets know the global economy will turnaround soon or investors are chasing returns. We prefer to stay balanced at this time, believing that economic growth will continue steadily but at a subdued pace, and that market volatility is likely to return at the drop of a Tweet. The Federal Reserve, Brexit’s outcome, the China trade deal, and any other surprise data points could quickly reverse this year’s gains and plunge us back to the dark days of December. Being prepared for such an event is paramount as stocks flirt with all-time highs.