Equity markets rose sharply as investor optimism continued, fueled by strong economic data early in the quarter. Following a 3.8% return during the 4th quarter of 2016, the S&P 500 returned 6.1% during the first quarter of 2017.
Growth-oriented stocks and sectors outperformed after having underperformed in 2016. Many of the stocks and sectors which had led the market following the election of President Trump, stalled or pulled back as the Republican majority failed to repeal and replace the Affordable Care Act, creating uncertainty as to whether President Trump’s tax and infrastructure agenda might meet the same resistance.
Financials underperformed as long-term rates slightly declined. After leading the market in 2016, Energy was down 6.7% as the number of U.S. rigs operating continued to increase and OPEC’s willingness for continued production cuts were called into question.
After a significant rise during 2016, the U.S. Dollar weakened helping international stocks to outperform. The international equity market, measured by the MSCI ACWI ex US index, returned 7.9% during the quarter led by emerging markets with a gain of 11.4%. Europe also outperformed as economic data continued to improve.
During the March 15, 2017 meeting, the Federal Open Market Committee (“FOMC”) increased the federal funds target rate by 0.25%. Recent statements from FOMC members point to more rate increases during the year as well as the potential for an effort to reduce their balance sheet, either through allowing bonds to mature without reinvesting the proceeds, or potentially through the actual sale of bonds. Despite these moves and increasing inflation, the rate on the 10-year Treasury declined 0.05% to finish at 2.40%.
Strong economic data early in the quarter supported the increase in the federal funds target rate in March. Job growth in January and February was above trend and economist expectations – with gains of more than 200,000 in each month. However, the number of jobs added in March was just 98,000, well below economist expectations. The unemployment dropped to 4.5% during the quarter and the labor force participation rate increased to 63.0%. Year-over-year growth in average hourly earnings dropped slightly as a result of sharp gains resulting from minimum wage increases in January of 2016 dropping off of the measured period.
Headline inflation continued to move higher with significant year-over-year growth in energy prices and finished the quarter at 2.4%. Core inflation, which excludes food and energy, finished the quarter at 2.0%. Inflation mirrored equity markets, as it stalled in March as well.
Economists continue to weigh the impact of proposed policies by President Trump. Such policies may include an overhaul of the health care system, a reduction in corporate and individual tax rates, deregulation, and a change in international trade policies.