Charles Schwab Investment Management

Biweekly insights on the latest global investment news regarding equities and fixed income from our leadership team.

October 2, 2017

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  • Equities: Rotation and small-cap rebound

    Omar Aguilar, Ph.D.

    Chief Investment Officer,
    Equities and Multi-Asset Strategies

    Trump’s tax revision plan supported small-caps

    President Trump recently presented his administration’s much-anticipated proposal to overhaul the tax system. Discussions, debates, and revisions will likely ensue over the coming weeks. At the moment, the plan presents a framework that would allow companies to write off capital spending, potentially translating into higher wages that could spur economic growth. Smaller companies would likely be notable beneficiaries, and this possibility fueled a sharp small-cap stock rally in response.

    Central banks were back in the news

    Fed Chair Janet Yellen surprised the financial markets recently by expressing a “hawkish” tone regarding the outlook for short-term interest rates, lifting the forecasted probability of a December rate hike. Treasury yields rose in response and the U.S. dollar strengthened. The European Central Bank also made the headlines, indicating its potential readiness to start the tapering process as the euro zone’s prospects have continued to improve.

    Equity market rotation could continue

    A rotation into previously undervalued, higher-quality U.S. stocks could continue for now. Small-caps, energy, banking, and high-quality tech stocks seem well positioned to benefit from the potential for tax cuts, a steeper yield curve, and rising rates. Globally, developed international equity markets continue to benefit from tailwinds compared to U.S. and emerging markets.

  • Fixed Income: Don’t ditch your bonds, just . . .

    Brett Wander, CFA

    Chief Investment Officer,
    Fixed Income

    . . . because the Fed may hike rates.

    Janet Yellen recently indicated that a December rate hike looks rather imminent, despite the continued mysterious lack of inflation. The markets are starting to believe her. Prior to the Fed’s September meeting, the market was pricing in serious doubts about the likelihood of an interest rate hike in December. Now, however, futures are saying it’s all systems GO!

    What about that 2% inflation target?

    What about it? Yellen has basically said that the Fed isn’t going to wait for inflation to hit their target. She appears to feel that if the Fed waits until inflation reaches 2%, then they might be too far behind the curve to keep inflation under control. The problem is that the Fed is struggling to understand why inflation is remaining so stubbornly low. After all, the labor market continues to grow at a pretty good clip, the stock market is reaching new highs almost daily, and a tax cut may even be in the works (at least some day)!

    Will there be 3 more rate hikes in 2018?

    It’s doubtful. The Fed has indicated that three hikes are likely to occur next year. But the market definitely isn’t buying this scenario. At some point, inflation has got to rise for the markets to buy into the additional rate hike story. The bond market also seems unconvinced. With little inflation out there, Treasury yields are likely to remain low. So don’t sell your bonds on the basis of Fed guidance anytime soon!