The stock market marched higher during the second quarter as central banks continued shifting towards more accommodative monetary policy. This helped offset heightened trade tensions and slower global economic growth data. Once again the result was clear: long-term interest rates continued to decline and risk assets rallied. During the second quarter, the S&P 500® gained 4.3%, the Russell Midcap® advanced 4.1%, and the MSCI EAFE® returned 3.7%. Year-to-date equity returns have been outstanding: 18.5 (S&P 500), 21.4 (Russell Midcap) and 14.0 (MSCI EAFE). Bond returns were also strong during the quarter as longer-dated interest rates declined despite short-term rates remaining pegged near the Fed mandated level. The Bloomberg Barclays Intermediate Gov./Credit Index returned 2.6% and the Bloomberg Barclays Aggregate Index advanced 3.1% during the quarter. Year-to-date the indices have returned 5.0% and 6.1% respectively.
The economic crosswinds during the quarter were apparent as the stock market continued its ascent higher in April, only to reverse course in May and then resume its move higher in June. Trade tensions and slowing global growth caused concern for investors, while central banks signaled a readiness to ease monetary policy to counter any economic weakness. While the equity market took this in stride, the bond market seemed to be signaling that a slowdown is coming. The yield on the 10-year Treasury (which was over 3% last year) briefly slid to under 2%, its lowest level since 2016. Meanwhile, the Federal Funds rate remained at 2.25%-2.50% resulting in a so called “inverted” yield curve—sometimes a harbinger of pending recession. While the yield curve has inverted before nearly every recession, there have been many times when an inversion has not been followed by a recession. The 1990’s is a good example. The yield curve inverted three times (1995, 1998, and 2000) – yet a recession only occurred in 2001–arguably due to significant excesses (tech bubble). So while an inversion may signal slower future growth, a recession is typically also a result of excesses in the system which don’t seem widely apparent today.
Perhaps the most worrying issue during the quarter was increasing trade tensions, particularly with China. Recent economic data indicates the tariffs, which began last summer, are having an impact on imports and consumption along with consumer and business confidence. While the ramifications for the U.S. are largely higher prices and less consumption, the impact to higher export countries (and to overall global economic growth) is more significant. Equally concerning is the impact on the supply chain, as many products produced in the U.S. use parts that are sourced overseas. In addition to increasing prices, uncertainty may delay capital expenditures and erode business and consumer confidence.
The Madison Large Cap strategy (gross of fees) outperformed the S&P 500® Index during the second quarter. The portfolio’s focus on high-quality, growth-oriented stocks drove the excess returns as growth stocks outperformed value stocks and low-quality stocks lagged their high-quality peers. Both stock selection and sector allocation were positive contributors to the strong performance.
Over the past quarter, the Madison Large Cap portfolio managers focused on trimming weight from stocks where valuations were deemed to have gotten expensive or where there was high exposure to slowing European and Chinese economies. In turn, two new stocks were added to the portfolio: Progressive Corporation and ExxonMobil. Both are deemed to have company-specific growth opportunities, to trade at reasonable prices, and to be relatively resilient businesses. Both fit the strategy’s high-quality bias.
The five top contributors to your portfolio’s quarterly return included: CarMax (24.4%), TE Connectivity (19.2%), Jacobs Engineering (12.5%), Copart (23.4%), and Henry Schein (15.7%). The five largest detractors included: Cognizant Technology (-12.2%), Alphabet (-7.9%), Charles Schwab (-5.6%), Exxon Mobil (-4.8%), and Lowes (-7.5%).
With the longest U.S. economic recovery on record, it is safe to assume that we are likely closer to the end of the expansion than the beginning. However, there is no reason why the recovery can’t continue for some time, especially since it has been the most measured recovery since World War II. The level of fiscal stimulus (some $700 billion of excess government spending over tax revenue) is unprecedented at such a late stage in the economic recovery and provides fuel for ongoing growth. Although recent economic data in the U.S. has weakened, it continues to point towards growth. In fact, many believe we are in the so-called “Goldilocks” environment—not too hot and not too cold. This type of modest growth environment allows the central banks to be accommodative (which supports asset prices) without fearing inflation.
As we navigate this environment of decelerating economic growth, along with central banks that appear supportive of the financial markets, we believe volatility will remain high. While there are few signs of an imminent recession, the economy is not so strong as to be invulnerable and coupled with policy uncertainty warrants caution. With this in mind, we continue to believe investors are best served by choosing investments based upon time horizon and risk tolerance. This approach, along with investing in stocks of lower-risk, higher-quality companies, and shorter-duration, higher-quality bonds will allow investors to participate in the markets, while providing some shelter as market volatility and geopolitical risks persist.
“Madison” and/or “Madison Investments” is the unifying tradename of Madison Investment Holdings, Inc., Madison Asset Management, LLC, and Madison Investment Advisors, LLC, which also includes the Madison Scottsdale office. Madison Funds are distributed by MFD Distributor, LLC. Madison is registered as an investment adviser with the U.S. Securities and Exchange Commission. MFD Distributor, LLC is registered with the U.S. Securities and Exchange Commission as a broker-dealer and is a member firm of the Financial Industry Regulatory Authority. The home office for each firm listed above is 550 Science Drive, Madison, WI 53711. Madison's toll-free number is 800-767-0300.
Any performance data shown represents past performance. Past performance is no guarantee of future results.
Non-deposit investment products are not federally insured, involve investment risk, may lose value and are not obligations of, or guaranteed by, any financial institution. Investment returns and principal value will fluctuate.
This report is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security.
Although the information in this report has been obtained from sources that the firm believes to be reliable, we do not guarantee its accuracy, and any such information may be incomplete or condensed. All opinions included in this report constitute the firm’s judgment as of the date of this report and are subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security.
Indices are unmanaged. An investor cannot invest directly in an index. They are shown for illustrative purposes only, and do not represent the performance of any specific investment. Index returns do not include any expenses, fees or sales charges, which would lower performance.
The S&P 500® is an unmanaged index of large companies, and is widely regarded as a standard for measuring large-cap and mid-cap U.S. stock-market performance. Results assume the reinvestment of all capital gain and dividend distributions. An investment cannot be made directly into an index.
Russell Midcap® Index measures the performance of the 800 smallest companies in the Russell 1000® Index, which represent approximately 35% of the total market capitalization of the Russell 1000® Index. As of the latest reconstitution, the average market capitalization was approximately $3.7 billion; the median market capitalization was approximately $2.9 billion. The largest company in the index had an approximate market capitalization of $10.3 billion.
Russell Investment Group is the source and owner of the trademarks, service marks and copyrights related to the Russell Indexes. Russell® is a trademark of Russell Investment Group.
The MSCI EAFE (Europe, Australasia & Far East) Index is a free-float adjusted market capitalization index that is designed to measure developed market equity performance, excluding the U.S. and Canada. These indices are unmanaged. They are shown for illustrative purposes only, and do not represent the performance of any specific investment. Index returns do not include any expenses, fees or sales charges, which would lower performance.
Bloomberg Barclays U.S. Aggregate Bond Index is an unmanaged index of U.S. fixed income securities. The U.S. Aggregate Index covers the USD-denominated, investment-grade, fixed-rate, taxable bond market of SEC-registered securities. The index includes bonds from the Treasury, Government-Related, Corporate, MBS (agency fixed-rate and hybrid ARM passthroughs), ABS,and CMBS sectors.
Bloomberg Barclays U.S. Government/Credit Bond Index includes securities in the Government and Corporate Indices. Specifically, the Government Index includes treasuries (i.e., public obligations of the U.S. Treasury that have remaining maturities of more than one year) and agencies (i.e., publicly issued debt of U.S. Government agencies, quasi-federal corporations, and corporate or foreign debt guaranteed by the U.S. Government).
All investments contain risk and may lose value. Equities may decline in value due to both real and perceived general market, economic and industry conditions. Investing in foreign-denominated and/or -domiciled securities may involve heightened risk due to currency fluctuations, and economic and political risks, which may be enhanced in emerging markets.
This piece is not intended to provide investment advice directly to investors. Opinions stated are informational only and should not be taken as investment recommendation or advice of any kind whatsoever (whether impartial or otherwise).
©Madison Investment Advisors, LLC. July 10, 2019
“Madison” and/or “Madison Investments” is the unifying tradename of Madison Investment Holdings, Inc., Madison Asset Management, LLC, and Madison Investment Advisors, LLC, which also includes the Madison Scottsdale office. Madison Funds are distributed by MFD Distributor, LLC. Madison is registered as an investment adviser with the U.S. Securities and Exchange Commission. MFD Distributor, LLC is registered with the U.S. Securities and Exchange Commission as a broker-dealer, and is a member firm of the Financial Industry Regulatory Authority.
Madison Investments shares all personnel and resources at their Madison, Wisconsin location. Statistical data is for the consolidated Madison organization. The Madison organization consists of its holding company, Madison Investment Holdings, Inc. and its affiliates: Madison Asset Management, LLC; Madison Investment Advisors, LLC; and Hansberger Growth Investors, LP. Asset information presented includes non-discretionary assets. Refer to each entity’s Disclosure Brochure for more information.