Markets performed well in the second quarter of 2017, especially international-developed and emerging markets. The current U.S. economic expansion — the third-longest since 18541 — continued at a slow but steady pace. An optimistic economic outlook, including a downward revision of the expected unemployment rate to 4.3% by the end of 2017, influenced the Fed to raise the federal funds rate by 0.25% in June.
The S&P 500 Index of U.S. large-cap stocks gained 3.1% in the second quarter, posting its seventh-consecutive quarterly gain. Small-cap stocks, represented by the Russell 2000 Index, continued the first-quarter trend of lagging large-cap stocks, returning +2.5%. Strong performance by growth-oriented sectors such as technology helped growth stocks to outperform value stocks, with large-growth stocks (represented by the Russell 1000 Growth Index) producing a return of +4.7%. Comparatively, large-value stocks, represented by the Russell 1000 Value Index, returned +1.3% due to the lackluster performance of more value-oriented sectors, including the energy sector. Overall, every sector but telecom and energy produced positive quarterly returns, ranging from +1.6% for consumer staples to +7.1% for healthcare.
International and emerging stocks continued to rally in the second quarter, with the MSCI EAFE Index, representing international stocks, returning +6.1% in U.S. dollar terms (+2.7% in local currency terms). A depreciating dollar relative to international-developed market currencies had a strong, positive impact for U.S. investors in international-developed markets. The outperformance of growth stocks relative to value stocks was also present in the international-developed markets; while the MSCI EAFE Value Index produced a solid return of +4.8%, the MSCI EAFE Growth Index gained +7.5%. The MSCI Emerging Markets Index, representing emerging-markets stocks, was up 6.3% in U.S. dollar terms (+6.6% in local currency terms).
On the fixed-income side, there was widespread expectation of the Fed’s June rate hike, which had little effect on the bond market. The 10-year Treasury yield declined from 2.35% in the beginning of the quarter to 2.31% by the end. All segments of fixed income delivered solid returns. Investment-grade U.S. bonds, represented by the Bloomberg Barclays Aggregate Index, gained +1.4% during the quarter. Emerging debt (JPM GBI-EM Global Diversified Index UH) performed the best at +3.6%, and high-yield bonds (BofAML US HY C Pay BB-B Constd Index) were not far behind, gaining +2.2% as credit spreads remained tight. Municipal bonds (BBgBarc Municipal 1-10Y Blend 1-12Y) maintained the upward momentum from the first quarter, returning +1.4% in the second quarter.
Last quarter was a vivid example of how diversified investors can benefit from the returns generated by different asset classes across the globe. We have enjoyed a period of strong market performance these past few quarters and a relatively smooth ride with few spikes in volatility. While we do not know whether this smooth ride will continue throughout 2017, we believe that our investment approach — which combines broad diversification, tax awareness, research-proven strategies and cost efficiency — will help our investors achieve their long-term financial objectives.
Return data represent past performance and are not indicative of future results. Historical returns of indices do not reflect applicable transaction, management or other applicable fees, the incurrence of which would decrease historical performance results. Index information has been compiled by Hewins from sources Hewins deems reliable, but has not been independently verified. Historical performance results for investment indices and/or categories have been provided for general comparison purposes only. Any charts and graphs represented herein are for informational purposes only and cannot in and of themselves be used to determine which securities to purchase or sell, or when to purchase or sell securities.