The pace of positive economic momentum remained strong in October as a string of encouraging data points came in above consensus expectations.

  • The September jobs report, released in early October, saw the unemployment rate fall dramatically from 8.1% to 7.8%.
    • The nonfarm payroll survey reported a gain of 114,000 jobs.  This was the 24th straight month of net new jobs in the series.
    • Even more surprising was the strong upward revisions to July and August, totaling 86,000 jobs.
  • The Institute of Supply Management (ISM) Manufacturing Index jumped to 51.5 in September, rebounding after three straight months below 50.0.  The improvement was unexpected given the weakness still evident in the Empire State and Philadelphia Fed regional manufacturing surveys, two important leading indicators for the ISM report.
    • The uptick in the manufacturing index was driven by a sharp improvement in the critical new orders component, which climbed 5.2 points to 52.3.  New orders had also been mired in contractionary territory for the past three months, making September’s report a welcome change.
    • Overall, the manufacturing index was broadly stronger, with nine of its ten component indices improving last month.
  • The first estimate of third quarter GDP was released during the month and showed that the US economy grew at a 2.0% annualized rate in the third quarter, edging out consensus estimates for a 1.9% reading.  It also represented a substantial jump from Q2’s 1.3% rate.
    • Improvement in GDP came from encouraging sources.  Pick-ups were evident in consumer spending and residential construction, further signs that both sectors are slowly healing.  Personal consumption expenditures grew at a 2.0% rate, up from 1.5%.  Home building rose at a 14.4% rate, nearly six percentage points higher than the previous quarter.  These sectors added 1.4% and 0.3% to the final GDP tally, respectively.
    • A more surprising source of strength in the GDP report was a rebound in Federal spending, specifically defense outlays.  Federal spending advanced at a 9.6% rate in the third quarter, the most since the second quarter of 2010.
    • It is important to note the first GDP estimate is based on incomplete data and that revisions can be substantial.  In the second quarter GDP was initially reported at 1.9% before being revised down to just 1.3%.


After a strong global rally in Q3, correlations fell across equity markets in October following coordinated policy actions by global central banks.  Unfortunately, fundamental developments were negative, with companies reporting fewer upside earnings surprises and lowering guidance in the first month of the Q3 earnings season.  This drove many stocks lower and increased concerns that central bank policy actions are having decreasingly positive impacts.  The MSCI All World Index, which includes both developed and emerging market equities, fell 0.6% in October as weakness in the US, Japan, and emerging markets more than offset strength in Europe.

  • US stocks gave back some of their summer gains in October, with the S&P 500 and Dow Jones Industrial Average dropping 1.8% and 2.4% respectively.  The NASDAQ significantly underperformed, falling 4.4% as investors reacted to poor earnings results and forward guidance from key companies in the index.
    • Sector performance was mixed across the cyclical and defensive areas of the market.  Financial stocks led returns in October, rallying 1.3% on solid earnings results, improving economic conditions, and the continued recovery in the US housing market.  Technology was the worst performing sector, falling 6.4% as poor earnings and weak forward guidance weighted on key components.
    • Through October, 79% of the S&P 500 reported Q3 results with 41% beating estimates.  Companies have beaten by an average of only 3.8%, well below the historical 4.5% mean.
    • Revenue trends are even more disturbing, with only 14% of firms beating on the top line and with an average surprise of -0.9%.
      • Most firms blamed poor performance or outlooks on both economic and policy uncertainty.  Sales results and forward guidance have been surprisingly weak in the technology sector, with high-profile revenue misses including Microsoft, Google, IBM, Oracle, and Apple.
      • Surprisingly, many of the companies that beat estimates and provided positive outlooks have also seen shares trade lower, as investors chose to take profits ahead of pervasive uncertainty heading into 2013.
    • After a strong 7.5% rally in Q3, international markets (MSCI ACWI ex-US Index) rose a modest 0.4% in October.  Europe lost some momentum but still led returns +1.5% due to the continued recovery in financial stocks.  Asia ex-Japan rose 0.5%, primarily through the strength in Australia up 2.7% and China up 5.7%.  China continued its rebound that started in Q3 as its manufacturing PMI ticked back up to 50.

Fixed Income

Treasuries failed to reflect the pull back in the equity markets as rates moved modestly higher across the curve.  The increase in rates may be a reflection of economic readings surprising to the upside.  Looking ahead, banter surrounding the resolution of the fiscal cliff may inject some volatility into the macro outlook.

  • Investment grade corporate bonds defied the sell-off in the equity markets to continue their streak of strong gains.  The sector gained 1.3% in the month as income was supplemented by a 0.9% price appreciation.
    • QE3 may be contributing to the outperformance of corporate bonds versus equity.  Collapsing yields in the agency MBS markets are pushing investors to one of the last “safe” fixed income sectors where policy makers are not directly intervening.
    • With interest rates at record lows, fixed income investors should be cognizant of corporate borrowers re-levering and/or engaging in behavior detrimental to creditors.  Borrowing costs for creditworthy companies are generally below their dividend yields.  Issuers have incentive to tap credit markets to fund shareholder-friendly actions such as stock buybacks and dividend increases.
  • Intermediate municipals gained 0.1% for the quarter.  With the exception of long munis, gains were primarily income driven as yields rose modestly along the curve.  Long duration and lower quality munis continued to outperform during the month as investors reached for yield.
    • Before a week of slight outflows to end October, munis had experienced 47 consecutive weeks of fund inflows to the tune of $44.6 billion year-to-date.  Robust retail demand (even amidst collapsing yields) could be attributed to uncertainty over future tax rates.  Higher tax rates, which are widely expected, may make the tax exemption feature of municipal securities even more valuable.


The fourth quarter started in difficult fashion for risk assets, with a sell-off in equities and commodities creating a downdraft in hedge fund performance.  Equity hedge managers were able to post positive returns in the month, while distressed and systematic traders were participants in the sell-off.

  • The DJ UBS Commodities Index fell 3.9% in October, pushed lower by industrial metals and crude oil.  Since the recent mid-September peak, commodities are down more than 6% with the US dollar rebound contributing to a third of the decline.
    • Oil and natural gas were polar opposites during the month.  Little fundamentally changed in the oil market but the commodity sold off as investors looked toward persistent concerns of subdued global economic growth.
      • One noteworthy takeaway came from the US Geological Survey, which showed that Russia will surpass Saudi Arabia as the world’s largest crude producer in 2012 at approximately 10.5 million barrels/day.
    • Natural gas was a beneficiary of Hurricane Sandy as the storm brought colder weather across the Midwest and East Coast.  The hurricane temporarily knocked out a substantial amount of nuclear power capacity escalating utility demand.
    • Gold fell 3.1% as Asian volumes proved lackluster despite the coming of Diwali (a gold-giving holiday in India).
  • The Alerian MLP Index rose 0.5% during the month despite falling oil prices.
    • While the impact of the hurricane on infrastructure, pipelines, and MLPs is not yet fully understood, several Sandy-related earnings adjustments are likely in the coming quarter.  At least three refineries and thirteen pipelines/ports were temporarily shuttered.  To help mitigate supply disruptions, the US temporarily suspended the Jones Act to allow foreign vessels into New York Harbor to deliver crude and refined products.  The exception will be in place until November 20th.  This was the first change of policy of its kind since Hurricane Katrina.


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