Q3 Commentary: Beneath a Calm Surface, Change is Brewing

By Nick Fisher, Portfolio Manager


Global coordinated growth seems to be back and stock markets are up. This is in line with what we have expected. As discussed in last quarter’s letter, we expected the majority of returns to come from international and emerging markets and that has definitely been the case. Of course we will see volatility in the markets, so we must be prepared. With all of this growth, interest rate normalization is at the forefront of our minds.

Global Growth

The following chart illustrates the survey of corporate purchasing managers (any reading above 50 signals that the economy is expanding). Growth is strong, especially in the Eurozone. This has supported strong results from global stocks and we have benefited from this.


With all of this growth, clearly global interest rates will be rising. Remember that German 10 yr interest rates are still below 1%, which is unprecedented with this level of growth. To further pick on international bonds, consider the fact that European high yield (junk) bonds have the same yield as US Treasuries. It’s no wonder that Jeffrey Gundlach has called this the “Whacko Season” in his latest webcast. Investors in international bonds need to be very careful right now.

With Inflation under control for now, central banks have not been motivated to raise rates. Surely this is changing based on the latest data and according to the US Fed’s own commentary:

“Labor markets were widely described as tight. Many Districts noted that employers were having difficulty finding qualified workers, particularly in construction, transportation, skilled manufacturing, and some health care and service positions. These shortages were also restraining business growth.”

“Despite widespread labor tightness, the majority of Districts reported only modest to moderate wage pressures. However, some Districts reported stronger wage pressures in certain sectors, including transportation and construction. Growing use of sign-on bonuses, overtime, and other nonwage efforts to attract and retain workers were also reported.”

It’s important to remember that ultimately, wage growth will drive prices higher and it appears pressure is building, showing a strong economy. This is a good thing.

It is fascinating that with the aforementioned strength in the economy we still have unprecedented emergency accommodative monetary policy. I anticipate that inflation will be rising above current investor expectations. This could be a bad thing if rates rise much faster than investors anticipate and will likely create market volatility.

Market Volatility? What’s that?

We also have the 30th anniversary of the 1987 Black Monday crash. This occurred in the midst of the 1980s great bull market, but nonetheless caused investors massive pain. We are currently in a very long streak of low volatility. By the time that this is published we will have broken the record for the longest streak going more than 241 days without a 3% or more daily decline. I fear that this has lulled investors into a false sense of security.


It would not be out of the ordinary to have a 6-7% pullback in a very short period of time and as we have seen before these types of market pullbacks can be very unpredictable, especially with the recency bias of low volatility.

We will again use the opportunity that any volatility creates to buy undervalued securities.

I saw a good quote the other day:

“The absence of risk does not mean the elimination of risk, just as the absence of rain does not mean there will never be another storm.”

Here in Oregon, we saw a dry early fall, but we know that fall in Oregon eventually brings rain and we need to be prepared. Markets also have seasons and we can’t ignore the fact that we need warm, dry shelter just because we haven’t needed it for months.