Q3 Global Asset Allocation

Global Asset Allocation Views – Q3 2019

Q2 Highlights –

Markets – The S&P 500 returned 3.79% to settle at its all-time closing high.  The Russell 2000 (a representation of small cap companies) closed up 1.74% and posted a new two month high.  International markets were also positive with Europe being the main regional standout and Emerging Markets lagging.

Interest Rates – At its most recent meeting, the Federal Reserve decided to keep rates unchanged.  The dot plots, or future projections, are projecting a rate cut by year-end.  The 10-year rate, closely tracked by market participants, closed at 2.01% for the quarter, near levels last seen since Q4 2016.  Rates have moved lower due to expectations for Fed easing as well as continued interest in treasuries from overseas buyers.

Yield Curve – The yield curve steepened on the long end over the quarter but remains inverted in the belly of the curve (3-10 years).

Manufacturing – Global manufacturing appears to be a weak spot with most major regions seeing contraction.  Europe joined China in showing sub-50 conditions and the US hit a multi-year low, mostly affected by lowered sentiment over trade concerns.  The services sector continues to shine and is helping to keep market sentiment high.

Earnings – Earnings season led to positive returns, though there was concern surrounding trade conditions and its impact on the bottom line.

Valuations – Valuations remain well within their 25-year median range.  With profit margins weakening in Q2, most of the gains in the market came from increased valuations.

Oil – Oil rallied sharply in June following suspected sabotage attacks by Iran in the Strait of Hormuz and finished the quarter down a littler under 3%.  OPEC agreed to curb some output though analysts believe there may be some rebels within the cartel and also see weakening global demand.

Inflation – Inflation has remained relatively muted and though wage gains have begun to creep up there is still low expectation for runaway inflation.

Fiscal Policy – Though both President Trump and the Democrats would like to do something on infrastructure and health care, any effort seems unlikely during this lame duck session.  With practically zero chance of any fiscal stimulus being passed, the onus again remains on the Fed to provide a soft landing late cycle.

Brexit – Prime Minister Theresa May has stepped down from her post and is expected to be replaced by Boris Johnson, an avid brexiteer who would be happy leaving on October 31st with no deal.

Q3 Focus –

China-U.S. relations –

            At the G20 meeting in Japan, the leaders of China and the U.S. came to a trade truce.  This is turning into a game of cat and mouse with periods of escalation and de-escalation.  Both sides seem to be posturing to their bases leading up to the 2020 U.S. election and volatility around trade seems to be the norm.  It appears any conclusion on trade may not be finalized until after the 2020 election.

Global Economy

            To market bulls and bears there seems to be enough data to cherry-pick to defend your case.  As I mentioned above, PMIs (Purchasing Manager’s Index) are heading towards contractionary levels not seen since 2012.  The key drivers of this are: China’s slowing economy and transition to a service based economy, changes to the global trade environment, and bad governance by some of the more fringe economies. The U.S. remains in positive territory though job growth has fallen in the last two months.  I will touch on the market’s resilience below, but the economy is not as robust as the market is projecting.  For Q2 earnings reports, I will be keeping an eye on profit margins, which have begun to fall, and companies’ forward outlook.

The Federal Reserve –

The Fed is in the midst of a full 180.  After Fed Chair Powell indicated in October of last year that he saw no reason to stop hiking rates, markets are now pricing in two rate cuts by the end of the year.  The change comes as the economy appears to have softened after the tax cut package boosted growth in 2018.  Inflation continues to remain subdued and other global banks have begun to appear more dovish.  Looking out over the quarter, it will be worth monitoring if we actually do get a rate cut or if the Fed remains patient.  A rate cut could be taken as the beginning of the end of the cycle or as a pro-risk move similar to the rate cuts in the mid-90s that stretched the cycle out until the dot com crash.

TINA (There Is No Alternative)

            With rates plummeting during Q2, global investors in search of growth and positive returns may have to look to equities again. The 10-year yield is hovering around the S&P 500’s dividend yield making many rate-sensitive sectors (Utilities, Staples, and REITs) look attractive, though these sectors are all trading at all-time highs and appear crowded at the moment.  With equities being the only attractive asset and the Fed possibly cutting rates, a goldilocks scenario such as 2017 seems to be a good bet, barring any geopolitical turmoil.

Key Themes –

I have shifted down our overweight of Equities vs non-Equities a little and increased exposure to higher quality/low duration Fixed Income.

Continue to favor Large vs Small Cap.  Small Caps continue to lag and remain below their 1-year downtrend line.

I continue to keep a cyclical growth bend to the portfolio and remain underweight the rate-sensitive sectors that appear extremely crowded and overbought.

Model Changes

Reduced Asia-Pacific to market weight and increased Canada to overweight.  Asia-Pacific economies have a larger exposure to the Chinese economy whereas Canada has a larger exposure to the U.S. economy.  The Canadian economy also has more exposure to Financials, Materials, and Energy which I expect to do better later in the cycle.


Written by:

Antonio Belmonte, CFA, Chief Investment Officer

These are the opinions of Antonio Belmonte and not necessarily those of Cambridge, are for information purposes only, and should not be construed or acted upon as individualized investment advice.  Investing involves risk.  Depending on the types of investments, there may be varying degrees of risk.  Investors should be prepared to bear loss, including total loss of principal.  The strategies discussed herein are not designed based on the individual needs of any one specific client or investor.  In other words, it is not a customized strategy designed on the specific financial circumstances of the client.  However, prior to opening an account, Cambridge will consult with you to determine if your financial objectives are appropriate for investing in the model.  You are also provided the opportunity to place reasonable restrictions on the securities held in your account.