By Steven Denike

Key Takeaways:

  • Economy more cheerful than markets
  • Growth likely to accelerate near term
  • Fed tightening pace will be critical

Although financial markets have stumbled recently, the U.S. economy continues to grow. In fact, the economy's vital signs are the strongest in a very long time. Confidence is booming, the labor market just posted its strongest quarter since 2016, and business surveys are signaling some of the best economic conditions of the expansion thus far.

Beyond the current health of the economy, forces in place are likely to accelerate growth, at least near term. The tax cut package and recently signed budget agreement will not only boost household incomes but should also give businesses an incentive to ramp up investment after years of caution.

QU 1Q18 Denike Chart 1

Stronger economic growth is welcome news since the current expansion has been the weakest on record. But what this cycle has lacked in strength, it compensated for in duration. In April, the expansion became the second longest on record, something few would have expected in June of 2009 when the economy began its halting recovery from the Great Recession.

None of this should encourage complacency, and it is important to keep monitoring risks. While the Trump administration's proposed tariffs on China may be primarily a negotiating tactic, uncertainty about possible trade wars could begin to overshadow decent signals from the economy. Another risk is that faster growth could hasten the expansion's expiration date if fiscal stimulus does not come with increased productivity. A major reason the current cycle has lasted so long is that growth has been so slow. New spending may accelerate growth, but it also raises the risk of overheating.

QU 1Q18 Denike Chart 2

The key question is how the Fed will behave. There is an old adage that expansions don't die of old age but are murdered by central banks. However, we think the point where higher interest rates undermine economic health is still some ways off. Overheating pressures that have historically prompted aggressive Fed tightening do not seem imminent. Instead, policymakers may be inclined to let the economy run a little hotter rather than risk tightening too quickly and ending the expansion prematurely.

No expansion lasts forever, and we're almost certainly closer to the current cycle's end than the beginning. Still, signs of potential economic weakness or recession remain low. As always, we're scanning the horizon for indications of trouble, but for now the coast looks clear and the outlook bright.

Read the next article in the series: Rate Volatility Likely as Year Progresses.

Index Definitions

Bloomberg Barclays U.S. Municipal High Yield Index: measures the non-investment grade and non-rated USD-denominated, fixed-rate, tax-exempt bond market within the 50 United States and four other qualifying regions (Washington DC, Puerto Rico, Guam, and the Virgin Islands). The Index has four main sectors: state and local general obligation bonds, revenue bonds, insured bonds, and pre-refunded bonds.

The Bloomberg Barclays Municipal Bond Index is considered representative of the broad market for investment grade, tax-exempt bonds with a maturity of at least one year.

Bloomberg Barclays U.S. Corporate High Yield Index: measures the USD-denominated, high yield, fixed-rate corporate bond market. Securities are classified as high yield if the middle rating of Moody's, Fitch, and S&P is Ba1/BB+/BB+ or below.

The Bloomberg Barclays Emerging Markets Hard Currency Aggregate Index is a flagship hard currency Emerging Markets debt benchmark that includes USD-denominated debt from sovereign, quasi-sovereign, and corporate EM issuers.

The S&P/LSTA U.S. Leveraged Loan 100 Index is designed to reflect the performance of the largest facilities in the leveraged loan market.

Bloomberg Barclays Intermediate U.S. Corporate Index: measures the performance of U.S. corporate bonds that have a maturity of greater than or equal to 1 year and less than 10 years. The Index is a component of the Barclays U.S. Corporate Index and includes investment grade, fixed-rate, taxable, USD-denominated debt with $250 million or more par outstanding, issued by U.S. and non-U.S. industrial, utility, and financial institutions.

The Bloomberg Barclays US Treasury Index measures US dollar-denominated, fixed-rate, nominal debt issued by the US Treasury. Treasury bills are excluded by the maturity constraint, but are part of a separate Short Treasury Index.

Indices are unmanaged, and one cannot invest directly in an index. Index returns do not reflect a deduction for fees or expenses.

Important Disclosures

The information presented does not involve the rendering of personalized investment, financial, legal, or tax advice. This presentation is not an offer to buy or sell, or a solicitation of any offer to buy or sell any of the securities mentioned herein.

Certain statements contained herein may constitute projections, forecasts, and other forward-looking statements, which do not reflect actual results and are based primarily upon a hypothetical set of assumptions applied to certain historical financial information. Certain information has been provided by third-party sources and, although believed to be reliable, it has not been independently verified, and its accuracy or completeness cannot be guaranteed.

Any opinions, projections, forecasts, and forward-looking statements presented herein are valid as of the date of this document and are subject to change.

There are inherent risks with fixed income investing. These risks may include interest rate, call, credit, market, inflation, government policy, liquidity, or junk bond. When interest rates rise, bond prices fall. This risk is heightened with investments in longer duration fixed-income securities and during periods when prevailing interest rates are low or negative.

Investments in below-investment-grade debt securities, which are usually called “high-yield" or “junk bonds," are typically in weaker financial health, and such securities can be harder to value and sell, and their prices can be more volatile than more highly rated securities. While these securities generally have higher rates of interest, they also involve greater risk of default than do securities of a higher-quality rating.

The yields and market values of municipal securities may be more affected by changes in tax rates and policies than similar income-bearing taxable securities. Certain investors' incomes may be subject to the Federal Alternative Minimum Tax (AMT) ,and taxable gains are also possible.

Investments in the municipal securities of a particular state or territory may be subject to the risk that changes in the economic conditions of that state or territory will negatively impact performance. These events may include severe financial difficulties and continued budget deficits, economic or political policy changes, tax base erosion, state constitutional limits on tax increases, and changes in the credit ratings.

All investing is subject to risk, including the possible loss of the money you invest.

As with any investment strategy, there is no guarantee that investment objectives will be met, and investors may lose money.

Diversification does not ensure a profit or protect against a loss in a declining market.

Past performance is no guarantee of future performance.

Investment management services provided by City National Bank through its wholly owned subsidiary City National Rochdale, LLC, a registered investment advisor.