2007 ended with a nasty hangover in the case of some asset classes and stock market sectors, but also with pockets of splendid performance. Reviewing the past year’s investment returns makes for interesting reading, but also provides guidelines in some instances of what to expect in the year ahead.
In order to glean the macro view of what transpired last year, it is useful to consider the performance of the principal asset classes as a point of departure. I have deliberately kept the commentary rather brief as the detailed reasons for specific movements have already been covered in my weekly “Words from the Wise” article.
Commodities (+16.7%), in general, were the top-performing asset class, followed by the US 10-Year Treasury Note (+4.9%) and the S&P 500 Index (+3.5%). A money market investment, based on the average US 3-Month T-Bill rate, would have yielded a return of 4.4% – somewhat better than the S&P 500 Index (but less than the Dow Jones Industrial Index and the Nasdaq Composite Index as shown later in the article).
The other side of the coin saw the Dow Jones REIT Index declining by 19.2% and the US Dollar Index by 8.4%. The dollar weakness was naturally one of the factors contributing to the strength in commodities.
Interestingly, the performance table changed around quite dramatically during July 2007 as the subprime problems started to surface, resulting in an acceleration of the US dollar’s downtrend and large-scale switching from stocks to bonds and commodities.
Zooming in on stock markets, the chart below shows the Dow Jones World Index gaining 8.4% during 2007. Top-notch performance was achieved by emerging markets (+28.8%), and specifically by China (+110.1%), India (+69.4%) and Hong Kong (+39.4%). On the other end of the spectrum, Japanese stocks (-5.5%) were in the doldrums and experienced losses.
As far as the major US stock markets are concerned, the blue-chip Dow Jones Industrial Index gained 6.4% – somewhat better than the S&P 500 Index’s 3.5%, but behind the technology-heavy Nasdaq Composite Index’s respectable 9.8%. US small caps, as represented by the Russell 2000 Index, fared poorly in the light of being more sensitive to an economic slowdown and depreciated by 2.8%.
Click here for the detailed performance figures, ranging from one month to three years, for 55 global stock markets.
Looking in some more detail at the various US stock market sectors, seven out of the nine sector SPDRs recorded gains, whereas the Consumer Discretionary SPDR (-14.0%) and Financial SPDR (-20.0%) were the big losers. This weakness was offset by Energy (+36.1%), Materials (+21.5%), Utilities (+17.0%) and Technology (+15.4%), resulting in the major US indexes still ending the year in positive territory.
The stark difference in performance between the diamonds and dogs are illustrated clearly by the graph below comparing two of the top-performing industries – Oil Services (+50.9%) and Gold & Silver (+21.8%) – with three of the worst casualties – Housing (-38.9%), Banks (-24.6%) and Retail (-17.9%). The subprime fallout, needless to say, stands largely to blame for this dismal performance.
The credit crunch resulted in interest rates declining across the spectrum of the yield curve but to a larger extent on the short end, resulting in a steepening yield curve as shown in the diagram below. As the credit situation deteriorated, safe-haven buying resulted in yields of government bonds being pushed down across the globe.
The US dollar’s downward trend intensified as the implications of the subprime debacle started to unfold, resulting in the US Dollar Index losing 8.4% during the course of 2007. The largest beneficiary of the dollar’s woes was the euro with a gain of 10.6%.
On the commodities front, oil (+52.3%) was the star performer on the back of a tight demand/supply situation and omnipresent geopolitical tension. Agricultural commodities (+41.1%) also shined as producers battled to keep up with increasing demand.
The precious metals complex benefited from the Fed’s easier money policy and mounting concerns about rising inflation. Industrial metals, however, were the odd one out and faced declining prices as investors started factoring in slower economic growth.
The overriding message of the above analysis is the strong emphasis on defensive asset classes and sectors. There also does not seem to be any indication of last year’s primary trends reversing as we enter 2008, although some of 2007’s laggards may bottom out during the course of this year.