In a repeat of earlier time periods, investors focused on news from the Federal Reserve again in the third quarter. Since Chairman Bernanke's announcement in May that the Fed was considering a reduction planned to reduce or "taper" its $85 billion monthly bond purchases as early as September, investors reacted by selling bonds and other interest‐rate sensitive investments, such as Real Estate Investments Trusts (REITs). This trend reversed in September when the Fed surprised investors by delaying its plans for tapering. After the announcement, interest rates declined and bonds regained some of the losses incurred earlier in the year. The ten‐year U.S. Treasury bond yield has increased from 1.78% at the end of 2012, to 2.61% at the end of the third quarter. Even with this increase, the interest rate on the ten‐year bond remains below its long‐term average.
Stocks continued their ascent in the third quarter. Corporate earnings have been healthy, despite only modest increases in revenue. The effects of less austerity in Europe and pro‐growth policies in Japan encouraged investors to pile into foreign stocks, hopeful that the worst is over for these economies. Stocks rallied in September when former Treasury Secretary Lawrence Summers withdrew from the running for Federal Reserve Chairman, leaving Janet Yellen as the front‐runner to replace Ben Bernanke when he retires early in 2014. Investors believe Ms. Yellen's policies are most closely aligned with Bernanke and expect a continuation of the easy money stance implemented by the Fed since the financial crisis.
Federal Reserve Chairman Ben Bernanke has presided during an historic time for U.S. financial markets. While the Fed's current easy money policy stance has been controversial and is likely to be debated for years to come, he is the first Fed Chairman to provide guidance to the public so openly, implementing the practice of regular press conferences and plain language. He has carefully signaled and outlined the Fed's intent over these volatile years since the financial crisis.
Since September 2012, the Federal Reserve has been purchasing $85 billion of U.S. Treasuries and mortgage securities each month with no apparent concern for the price or fundamental valuation of these investments. In May, the Fed announced its intent to reduce these bond purchases later in the year, predicated on healthy trends in the economy and employment. Investors, already nervous about low interest rates, believed that this was the beginning of the end of quantitative easing. Further, investors began to speculate on when the Fed would begin to taper its purchases. With the Fed stepping back, a reduction in demand for these securities seemed inevitable. Seeming like a sure thing and expecting an announcement during the Fed's September meeting, investors sold bonds, resulting in a decline in valuation (and increase in interest rates) before even a small reduction in quantitative easing was implemented by the Fed.
The Federal Reserve surprised investors in September when it announced a continuation of its $85 billion monthly purchases. Chairman Bernanke cited a few reasons for continuing with the program. First, trends in employment still show a labor market that is struggling. Second, higher interest rates could threaten the recovering housing market as potential buyers cannot afford the larger mortgage that comes with even marginally higher interest rates. Third, the threat (and now the reality) of a federal government shutdown or a breakdown in Congressional negotiations to raise the debt ceiling could reduce economic activity. Stocks rallied and interest rates declined on the news, a reminder that even a seemingly sure thing doesn't always work out as planned.
It is important to note that the Federal Reserve did not change their guidance on their bond‐buying program. As they have signaled in the past, they intend to continue with quantitative easing (at some level), so long as unemployment is above 6.5% and inflation remains subdued. In other words, the Fed's plan to taper has been delayed, not cancelled.
With the near‐term tapering potential out of the way, investors quickly turned their attention to the impending government shutdown that eventually occurred at the close of the quarter. The Economist magazine anticipates that the government shutdown could reduce fourth quarter gross domestic product by 0.1‐0.2%. While this decline is not disastrous, it is meaningful for an economy that has experienced only modest growth since the end of the recession in 2009. A quarter of below‐average economic activity could result in slower gains in employment, perhaps the Fed's most important indicator.
As investors, we live in a world of uncertainty where even what seems to be a sure thing doesn't always work out as anticipated. In fact, this uncertainty is the risk that produces returns. Your Bingham, Osborn & Scarborough advisory team is here to help you navigate this path to help you meet your long‐term financial goals.
There is no updated information available for Real Gross Domestic Product (real GDP) due to the shutdown of the U.S. government.
In its meeting in July, the Federal Reserve Open Market Committee agreed to continue holding the target range for the federal funds rate at 0% to 0.25%. The Committee anticipates that this range will be appropriate as long as the unemployment rate remains above 6.5%.
The U.S. unemployment rate was 7.3% in August, down a bit from 7.6% in June. Employment rose in retail and health care. The number of long‐term unemployed was little changed, accounting for 37.9% of the total unemployed.
Inflation (CPI‐U) increased by 0.1% in August. Increases in the cost of housing and medical care accounted for most of the rise.
Standard & Poor's 500 Index operating earnings per share for the second quarter 2013 increased 2.3% over the first quarter. Earnings increased 3.66% from the same quarter last year.
U.S. non‐farm worker productivity increased at an annual rate of 2.3% during the second quarter of 2013.
The Comex spot rate for gold rose by 6.2% in the third quarter, closing at $1,330.50 an ounce. While gold has rallied recently with talks of Fed bond‐buying tapering and the fiscal gridlock in Washington, the general trend is negative. The metal is down 20.60% this year.
U.S. crude oil prices were up 5.2% in the third quarter, despite a drop in September. Oil supplies in the U.S. remain high, while demand is not expected to grow.