Market Update for the Month Ending March 31, 2019

Posted April 4, 2019

Strong March caps great start to the year
For the third month in a row, all three major U.S. equity markets were positive for the month. The Nasdaq Composite led the way with a return of 2.70 percent, and the S&P 500 grew by 1.94 percent. Meanwhile, the Dow Jones Industrial Average (DJIA) came in with a gain of 0.17 percent, held back by Boeing. The three indices finished the quarter in the same order, with gains of 16.81 percent for the Nasdaq, 13.65 percent for the S&P 500, and 11.81 percent for the DJIA.

Despite this strong performance, market fundamentals worsened during the first quarter. According to FactSet, the estimate for first-quarter earnings growth for the S&P 500 stood at 2.9 percent at the end of 2018. As of quarter's end, this estimated earnings growth had fallen to a loss of 3.9 percent. This weakening of company fundamentals was widespread. In fact, all 11 sectors showed declines in estimates over the course of the quarter.

Fundamentals drive performance over the long term. But over the short term, weakening fundamentals do not necessarily mean that markets will suffer losses. In fact, over the past 20 quarters, this marks the 15th time that market values have increased while earnings estimates have declined. Further, analysts still expect positive earnings growth for the next three quarters and for the year. This growth should continue to support markets.

From a technical perspective, the news was good. All three major U.S. indices spent much of January and parts of February below their respective 200-day moving averages. Still, they ended the quarter above this important technical level. The S&P 500 and Nasdaq fell below their trend lines briefly in March before rebounding into month's end.

International markets also had a strong month and quarter. The MSCI EAFE Index, which covers developed economies, gained 0.63 percent for the month and 9.98 percent for the quarter. The MSCI Emerging Markets Index was up by 0.86 percent for March and 9.97 percent for the quarter. Technicals here were also positive at quarter-end. Both indices finished the period above their respective trend lines.

Even fixed income markets had a steady start to 2019. The Bloomberg Barclays U.S. Aggregate Bond Index gained 1.92 percent for the month and 2.94 percent for the quarter. Here, yields declined, pushing capital values up. The 10-year U.S. Treasury yield started the quarter at 2.66 percent and finished the period at 2.41 percent.

High-yield bonds, which are typically less influenced by rate movements, also had a positive start to the year. The Bloomberg Barclays U.S. Corporate High Yield Index gained 0.94 percent in March and 7.26 percent for the quarter. The asset class benefited from lower rates and lower-risk spreads, which dropped during the quarter after a large increase at year-end.

Economic growth slows—but continues
The decline in bond yields was due to a slowdown in growth across the economy. Only 20,000 new jobs were added in February, for example, against expectations for 180,000. This low figure may have been payback for a stronger-than-expected January. Or it may be a sign that job growth is slowing. As you can see in Figure 1, employment growth grew at an increasing rate to end 2018 before falling in 2019.

Figure 1. Employment Growth, 2012–2019


Similarly, consumer confidence reversed its recent bounce to trend lower. This decline might also be a sign that the economy is weakening. A strong jobs market is one of the major drivers of consumer confidence. As such, recent weakness here may be a worrying signal.

With weak job growth and a slide in confidence, it was no surprise that consumer spending growth also pulled back. January's personal spending report showed modest growth of 0.1 percent. But this result was less than the expected 0.3 percent and not enough to offset a decline of 0.6 percent in December. Of course, the government shutdown to start the year has delayed some data. Still, the major measures of consumer spending also disappointed in the first quarter. Retail sales in February fell by 0.2 percent, against expectations for a modest increase.

While consumer confidence had mixed results during the quarter, business confidence showed improvements. The Institute for Supply Management Manufacturing and Nonmanufacturing indices, which measure producer sentiment, showed rebounds following declines in December and January.

Business investment showed growth to start the year. Durable goods orders increased by 0.3 percent in January. This increase followed 1.2-percent growth in December and 1-percent growth in November. Businesses confidence appears to have rebounded from the year-end turbulence. Spending also continues to grow, although below the levels of 2018.

Fed responds to slowdown
At its December meeting, the Federal Reserve (Fed) indicated that two rate hikes in 2019 were likely. But in response to weaker data, the Fed has since made a large turnabout in policy. At its March meeting, the Fed suggested that no further rate hikes are expected this year. Plus, it said it will end its balance sheet runoff activities in 2019. These moves left policy more stimulative than had been anticipated. Market participants have taken this updated guidance to heart. In fact, some have even projected a rate cut in the fourth quarter.

Of course, slower growth is still growth. Although the data is weak, there is reason to hope for a rebound in the second quarter. Some of this weakness may have been seasonal. First quarters have been weak over the past several years, only to rebound. So, the next couple of months will be important.

The risks are subsiding
Although the economic risks remain, they may be receding. To start, we avoided a second government shutdown. This likely played a part in the rebound in business confidence. Further, housing market concerns, although still present, have diminished somewhat. Lower mortgage rates made buying a house more affordable, leading to increases in new and existing home sales. Existing home sales were especially encouraging, with 11.8-percent month-over-month growth in February.

International risks have also receded for the time being—although they could reemerge. The ongoing Brexit negotiations appear to be deadlocked. The United Kingdom is not providing much clarity as it works toward avoiding a no-deal exit from the European Union. On the bright side, the United Kingdom and the European Union extended the deadline for a no-deal Brexit from March 29 to April 12. So, there is still time for a potential trade deal. A slowdown in Chinese growth also has the potential to affect markets. But, once again, this is more of a medium- to long-term concern than a pressing risk.

A new risk on the radar is the inversion of the yield curve, which occurred at month-end. After the Fed announced an easing of monetary policy, yields on long-term government debt were driven down. This move left longer-term interest rates lower than shorter-term ones. When this happens, it is known as a yield curve inversion and typically signals a higher risk of recession. Although this inversion garnered a lot of headlines, the risk is more for 2020—not 2019. It needs to be watched but not worried about just yet.

Strong quarter starts year off right
As we have discussed, risks remain both at home and abroad. But U.S. markets showed their resilience in the first quarter. Economic growth appears to have slowed, but slow growth is still growth. Earnings growth in the first quarter was disappointing. Here, there may be room for upside, given analysts' positive estimates for the rest of the year.

Conditions are not bad and may well improve as confidence and spending have room to catch up to 2018 levels. Further, lowered interest rates are generally supportive of faster growth. We can see this in the increases in home sales when mortgage rates declined in February.

The real takeaway from the drop at the end of 2018 and the rebound to start this year is that volatility can happen quickly. The past six months highlight the importance of creating well-diversified portfolios that can withstand short-term volatility.

Co-authored by Brad McMillan, managing principal, chief investment officer, and Sam Millette, fixed income analyst, at Commonwealth Financial Network.

All information according to Bloomberg, unless stated otherwise. 

Disclosure: Certain sections of this commentary contain forward-looking statements based on our reasonable expectations, estimates, projections, and assumptions. Forward-looking statements are not guarantees of future performance and involve certain risks and uncertainties, which are difficult to predict. Past performance is not indicative of future results. Diversification does not assure a profit or protect against loss in declining markets. All indices are unmanaged and investors cannot invest directly into an index. The Dow Jones Industrial Average is a price-weighted average of 30 actively traded blue-chip stocks. The S&P 500 Index is a broad-based measurement of changes in stock market conditions based on the average performance of 500 widely held common stocks. The Nasdaq Composite Index measures the performance of all issues listed in the Nasdaq Stock Market, except for rights, warrants, units, and convertible debentures. The MSCI EAFE Index is a float-adjusted market capitalization index designed to measure developed market equity performance, excluding the U.S. and Canada. The MSCI Emerging Markets Index is a market capitalization-weighted index composed of companies representative of the market structure of 26 emerging market countries in Europe, Latin America, and the Pacific Basin. It excludes closed markets and those shares in otherwise free markets that are not purchasable by foreigners. The Bloomberg Barclays Aggregate Bond Index is an unmanaged market value-weighted index representing securities that are SEC-registered, taxable, and dollar-denominated. It covers the U.S. investment-grade fixed-rate bond market, with index components for a combination of the Bloomberg Barclays government and corporate securities, mortgage-backed pass-through securities, and asset-backed securities. The Bloomberg Barclays U.S. Corporate High Yield Index covers the USD-denominated, non-investment-grade, fixed-rate, taxable corporate bond market. Securities are classified as high-yield if the middle rating of Moody's, Fitch, and S&P is Ba1/BB+/BB+ or below.



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Mastering Financial Aid Eligibility

For many families, financial aid programs help make higher education attainable. The first step in applying for aid is to complete the Free Application for Federal Student Aid (FAFSA). It is used to determine the student’s eligibility for federal aid programs, such as grants, work-study options, and loans. Schools also use the FAFSA to assess whether additional aid is available from an applicant’s state of residence and from the school itself.

The FAFSA’s more than 100 questions ask for a host of personal information, including marital and citizenship status, tax- and income-related information, household size, and the schools that the student will apply to. It also asks for details about the income, assets, and education history of the applicant’s parents.

Please note: Many private colleges and universities require aid applications in addition to the FAFSA. The most common of these is the CSS Profile. Check with each school’s financial aid office to determine which applications are required.

Tips for navigating the income-related questions
The role of tax returns.
 Information from the student’s and his or her parents’ tax returns is used to complete the FAFSA’s income-related questions. Due to a recent change, there is a two-year look-back regarding the data required. This means that a family filling out the 2019–2020 FAFSA should use the data from its 2017 tax returns. Consequently, tax returns filed in the student’s last two years of college will not affect aid awards.

Whose data should be used? When parents live apart and are divorced or separated, the custodial parent is the one who needs to provide information for the FAFSA. But because a custodial parent is not defined as the parent who has legal custody, other factors must be evaluated to determine which parent’s information must be provided. Such factors include which parent the student lived with most or which parent provided the most financial support to the student during the 12 months preceding the date that FAFSA is to be filed.

For situations where the custodial parent has remarried, the stepparents’ information must also be included on the FAFSA. If the student’s parents are divorced, are separated, or were never married, but if they live together, both are required to provide information on the FAFSA. 

Determining the expected family contribution 
One reason why the FAFSA requires so much detailed information is because the data is used to calculate each student’s expected family contribution (EFC). It is a measure that determines how much federal aid a family may receive.

The formula for determining the EFC considers parental assets and income, student assets and income, and factors such as the number of family members attending college at the same time. Many people believe, incorrectly, that the EFC is the amount of money the family is expected to contribute to education costs. It is not. It is simply a number used by educational institutions to determine whether federal aid is available and, if so, how much.

  • Parental assets. The questions that the FAFSA asks about parental assets pertain to ownership interest at the time the application is completed. Reportable parental assets include cash and funds held in bank accounts, trust funds, 529 accounts, and more. Parental assets are considered low-impact assets for financial aid purposes—only up to 5.64 percent of the value of parental assets affect the EFC.

  • Student assets. Student assets include property in which the student has an ownership interest at the time that the FAFSA is completed. For example, UTMA/UGMA accounts fall into this category. Student assets are considered high-impact assets for financial aid purposes—up to 20 percent of the value of his or her assets will affect the EFC. (Please note: Custodial 529 accounts and 529 accounts owned by the student are not considered assets of the student and should be listed as parental assets. See above.)

  • Protected assets. Some assets are protected and don’t need to be listed on the FAFSA, including 401(k)s, pension plans, 403(b)s, IRAs, and other retirement plans. Equity in a family’s primary residence, certain family-owned businesses and farms, life insurance, annuities, and personal possessions are also nonreportable.

If your children are approaching college age, it may be helpful to get an estimate of your family’s EFC. The U.S. Department of Education’s FAFSA4caster is a free calculator that can be used to create an estimate of financial aid eligibility.

Grandparent-owned 529 plans
Because assets owned outside of the immediate family are not included on the FAFSA, grandparents often own 529 plans for the benefit of their student grandchildren. Although this may make sense in certain cases, there are some details to consider before moving forward with this strategy.

Funds in a grandparent-owned 529 plan are not considered countable assets on the FAFSA, but money that’s taken out of the 529 plan and used to pay for education expenses is considered nontaxable income to the student. Distributions from a grandparent-owned 529 plan reduce the eligibility of a student for need-based aid by as much as 50 percent of the amount of the distribution. If grandparents do own a 529 plan for the benefit of their grandchild, the family may want to reserve those funds for the last two years of college because, as previously noted, the FAFSA uses the prior-prior year’s tax return to complete the income questions.

Resources for completing the FAFSA 
For many parents and students, completing the FAFSA is a complicated ordeal. Fortunately, several resources are available to help. Among the best is the Notes section at the end of the FAFSA itself. It offers guidance for answering some of the trickier questions.

Additional resources for completing the FAFSA include the Federal Student Aid website’s robust FAQs page, as well as a live chat feature and other contact information for questions and assistance.

As always, before making any decisions, a best practice is to consult your financial advisor and a tax professional.

This material has been provided for general informational purposes only and does not constitute either tax or legal advice. Although we go to great lengths to be sure our information is accurate and useful, we recommend that you consult a tax preparer, professional tax advisor, or lawyer.