The U.S. Equity markets continued their upward climb in the last quarter of 2017, helping cap off a year of strong gains. The following are performance numbers from various popular indexes. Please remember index numbers are not individually comparable to a properly diversified portfolio. Each portfolio may include an allocation to securities similar to these indexes in varying amounts based on your personal risk tolerance and should only be compared in that context. The S&P 500 was up 21.8% for 2017. The Dow Jones Industrial Average was up 28.1%. The Nasdaq Composite Index was up 28.2%. The Russell 2000 Index was up 14.7%. International equities as represented by the MSCI World Ex U.S. Index were up 24.2%. Fixed Income as represented by the Barclays Aggregate Bond Index ended up 3.5% for the year.
The U.S. is in the ninth year of its economic recovery, the third longest since 1900. The recovery has been shallow compared to previous ones. However, the more recent data is reflecting consecutive growth of over 3% GDP pointing to an increase in activity. Consumer confidence is at its highest level in 17 years with business investment on the rise, productivity picking up and strong activity in the manufacturing and service sectors. Certainly, one of the most encouraging factor for equities continues to be the level of synchronized global economic improvement. Further adding to the tail winds here in the U.S. is the structural shift toward deregulation and the new tax law changes which regardless of the potential longer-term outcome is likely to provide a near term boost. The rebuilding after the impact of hurricanes in the Southern part of the country also have a stimulus effect on the economy. If this administration is able push through some infrastructure projects, it would be additive as well and would paint a strong economic picture that is not likely to get derailed anytime soon.
Despite this strong economic picture, uncertainties create a volatile environment for stocks. Instead, we saw much resilience on that front as U.S. Large capitalization stocks were leading the charge and delivered an impressive performance in 2017. Not all U.S. equities fared equally, with larger growth oriented names far outperforming their small and value oriented counterparts. Proper diversification continues to be key to help mitigate the risks of over exposure to a narrow slice of the market as things can a change on a dime. 2017 was the year when the S&P 500 saw positive returns in each month of the calendar year. It has been up for 14 months in a row. This has never happened before.
So where are the potential sources of risk as we usher into 2018. A major one is the reversal of quantitative easing as the federal reserve unwinds its balance sheet. The exceptional strength of the labor markets, rising wage and inflation pressures, a flattening yield curve due to short term rates rising more than longer term rates all contribute to the potential risks we see on the horizon. At close to full employment, the labor markets are tight. Further growth combined with the tightness in labor markets could cause inflation to accelerate. This would negatively impact this continued growth and could take the equity markets down. U.S. equity valuations have also become a lot less attractive due to their run up, but this is rarely a catalyst for a market move as it is a very poor predictor of where the market will go near-term, but it adds to the risk picture nonetheless. Geopolitical and Washington risks are still ever present.
The bull market is alive and well heading into 2018. The economy is showing no signs of a peak yet. Bull markets don’t die of old age and they don’t die because of valuations. A downturn in the economy or a shock to the system would be required and for now, it looks like fairly clear skies.
We wish you a very Happy New Year and many blessings for 2018. We are very thankful for the opportunity to serve you.