Market Review

In this month's market review, we discuss not only our sector outlooks but also the potential impact of the recent presidential elections. The stock market reached new highs, the dollar soared, and bond yields rose dramatically. The yield curve steepened.

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U.S. Treasuries produced negative returns for October, as rates rose across the yield curve. The yield on the 10-year Treasury closed the month at 1.87%, up 23 basis points from September and well above its early July low of 1.36%. The yield curve steepened, with the 2-30 year spread moving from 159 to 175 basis points.

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The third quarter was bookended by surprise events that occurred outside of the United States. The “Brexit” vote in the UK closed out June, and along with a weak payroll number, a rally in government paper ensued. By early July, the yield on 10-year Treasury notes was nearly 1.35%, pushing record lows. On September 21, the Bank of Japan decided on a surprise of its own, moving to a new policy of targeting yields along the curve rather than expanding the money supply. In between, the European Central Bank shied away from further monetary policy easing. Back home, the Federal Reserve took the (expected) path of not raising the fed funds rate. 
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During the month Treasuries traded in a tight band, reflecting historically low volatility. Although most rates rose modestly, maturities from two years on generated losses, reflecting the risk inherent in current prices. FOMC members attempted to prepare the market for possible near term rate hikes. Three meetings remain in 2016 (September, November and December).

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Post Brexit, the month started with positive news – in particular, a much higher than expected payroll number – and continued with improvements in jobless claims and retail sales. The good news came to an abrupt end late in the month with the most recent GDP release, a disappointing 1.2%. While consumer spending was strong, inventory drawdown cut 1.2% off of GDP.

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What a difference a couple of events make. Or more precisely, a number and a vote. While we anticipated writing a quarterly commentary that detailed the typical gyrations of the bond market – “disappointing economic data releases in April followed by positive growth news in May, modestly lifting then depressing bond prices” – a June payroll number and the Brexit vote stole the show.  

Yields began to climb again as economic releases started to look promising, but this was a very short-lived trend as June 23 brought the Brexit vote. Markets were taken aback as U.K. citizens unexpectedly voted to leave the European Union. The vote threw global financial markets into turmoil and engendered a flight to quality. Treasury yields dropped precipitously and the yield curve flattened.

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