Despite two major hurricanes, a tightening Federal Reserve, high oil prices, and risks to the housing market during the period, the U.S. economy continued to grow at a strong pace and generated new jobs. It’s encouraging to see the stock market have a strong quarter given some of the recent natural disasters and ensuing run-up in energy costs.
Inflation, as measured by the Consumer Price Index, continues to be relatively low at 2.1%1, but oil prices were up 17%2 during the quarter and gasoline hit $3.003 a gallon in many places. Many consumers are bracing for heating costs that could be up 50% or more this winter. The Federal Reserve continued to raise short term interest rates, which could slowly put a damper on the red-hot housing market.
With the spike in energy prices and continued increases in short-term interest rates as a backdrop, one might have thought that it would have been a difficult period for the financial markets. In fact, the bond markets were only slightly off, with a -.67%4 return for the quarter as measured by the Lehman Aggregate Bond Index. The equity markets also shrugged off these concerns to post strong returns across nearly every equity asset class, as noted below. So despite some negative external influences, the financial markets still appear healthy.
The International Equity markets, represented by the MSCI EAFE index, posted a strong quarter, returning 10.44%5. The good news for investors is that this outperformance was not due to a weakening dollar, but rather to strong stock performance among international securities. Interestingly, Japan led the outperformance, while their currency was actually down versus the dollar during the period. Has Japan finally turned the corner to economic growth after a decade of economic contractions? It’s probably too early to tell, but their recent performance has certainly been good news for global equity markets.
The next best performing asset class was small cap growth stocks, represented by the Russell 2500 Growth Index, which returned 6.29%6 . Regarding large cap stocks, growth stocks outperformed value stocks for the second consecutive quarter. Also, the REIT market followed up a strong 2nd quarter with a more average 3.94% return for the 3rd quarter.
The bond market didn’t fare quite as well as the stock market, but still only declined a modest 0.67%7 for the quarter as measured by the Lehman Aggregate Bond Index. Most market observers believe that the Fed will continue to raise short term rates to their historical average of 2.00% above inflation (which would be 4.1% at current 2.1% inflation levels), indicating that they may have nearly completed this round of rate increases with short term rates.
Even with the impact of Hurricanes Katrina and Rita, the 4th quarter GDP is expected to grow at roughly 3.1%8 , a positive outlook given that Katrina could reduce GDP output by 0.5%. The coming weeks will be very interesting times for the markets as the impact of higher energy prices, higher interest rates and continued unrest in Iraq could potentially come to the forefront. It’s imperative during these times to keep focused on your long-term objectives and abstain from being influenced by fluctuating markets. Through our proven six-step investment process, we will help you implement a solution that helps you think about long-term objectives and avoid the temptation to be swayed by market movements.
As always, we welcome and look forward to the opportunity to spend time with you and address your unique financial needs.
1 Bloomberg – via the Bureau of Labor Statistics for the month ended August 2005 released September 15, 2005.
2 Bloomberg – West Texas Intermediate Crude Total Return Analysis for the period 6/30/05 thru 9/30/05.
3 Bloomberg – U.S. Retail Gasoline Prices all Grades for the week of 9/12/05.
4 Wilshire Associates provides all index information for the quarter ending 9/30/05. The Lehman Aggregate Index- a benchmark index made up of the Lehman Brothers Government/Corporate Bond Index, Mortgage-Backed Securities Index, and Asset – Backed Securities Index, including securities that are of investment-grade quality or better, have at least one year to maturity, and have an outstanding par value of at least $100 million.
5 Wilshire Associates provides all index information for the quarter ending 9/30/05. The MSCI-EAFE Index – The Morgan Stanley Capital International Europe, Australia and Far East Index (MSCI EAFE) is an unmanaged index holding approximately 1,000 companies traded on 20 stock exchanges from around the world, excluding the U.S.A., Canada, and Latin America.
6 Wilshire Associates provides all index information for the quarter ending 9/30/05. Russell 2500 Growth Index measures the performance of those Russell 2500 companies with higher price-to-book ratios and higher forecasted growth values.
7 Wilshire Associates provides all index information for the quarter ending 9/30/05. The Lehman Aggregate Index- a benchmark index made up of the Lehman Brothers Government/Corporate Bond Index, Mortgage-Backed Securities Index, and Asset – Backed Securities Index, including securities that are of investment-grade quality or better, have at least one year to maturity, and have an outstanding par value of at least $100 million.
8 Bloomberg – Economists’ forecast of U.S. Gross Domestic Product as surveyed by Bloomberg News from August 31, 2005 through September 8, 2005 released on September 14, 2005.