Performance | Tuesday, July 13, 2021

Schwab Intelligent Portfolios & Q2 2021 Market Performance¹

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Key Points

  • Global equities continued to grind higher in Q2, with leadership from U.S. and international large cap stocks as U.S. small cap stocks took a breather following their Q1 surge.

  • Fundamental ETFs remained top performers YTD amid the market rotation to value-oriented companies poised to benefit from the economic reopening.

  • Inflation fears moderated as supply chain pressures and commodity prices eased, benefiting fixed income asset classes as interest rates edged down from their Q1 highs.

  • More aggressive portfolios did best in Q2 as stocks continued to rally, though portfolios across the risk spectrum delivered solid returns as bonds were also positive.

How did financial markets do in Q2 2021?

The first quarter's light at the end of the tunnel brightened tremendously in Q2 as spring gave way to summer. After a year of social distancing and business shutdowns, life is moving back toward normal as restrictions have lifted. Businesses have reopened, and long-delayed family gatherings and travel plans have taken off. While some uncertainties remain, the world seems to have taken on a brighter and more optimistic hue than just a few months ago.

Financial markets continued to rally throughout Q2, with the broad U.S. stock market as represented by the S&P 500® Index reaching a succession of new all-time highs. Value stocks have led significantly this year amid a market rotation toward companies poised to benefit from economic reopening. By contrast, the so-called COVID-19 winners of last year, the handful of large consumer technology growth stocks that powered much of the early stages of the recovery, paused or pulled back from their highs. International stocks also performed well during the quarter as vaccine distribution and economic expectations overseas improved.

At the same time, inflation heated up along with the weather and sparked fears that the massive economic stimulus could result in higher long-term inflation. At its meeting near quarter-end, the Federal Reserve discussed plans for beginning to gradually cut back on its bond purchases in coming quarters and moved up the timetable for its first potential rate hike to 2023. However, the Fed has maintained that the recent inflation spike will prove transitory and is partially a result of last year's economic dislocation. Indeed, by quarter-end, inflation fears had moderated as supply chains improved and prices came back down for commodities such as lumber that had spiked earlier in the quarter. As interest rates edged down from their Q1 highs, fixed income asset classes delivered positive returns for the quarter.

Figure 1: Market performance (ranked by Q2 2021 total return)

  Index total returns (%)
Asset class Q2 2021 1-Year 3-Year (annualized)
U.S. real estate investment trusts (REITs) 11.9 37.8 10.0
U.S. large cap stocks 8.6 40.8 18.7
International large cap stocks 5.2 32.4 8.3
Emerging markets stocks 5.1 40.9 11.3
International small cap stocks 4.3 41.0 8.4
U.S. small cap stocks 4.3 62.0 13.5
Gold & other precious metals 4.3 -0.3 12.1
Investment-grade corporate bonds 3.3 3.0 7.4
Treasury Inflation Protected Securities (TIPS) 3.3 6.5 6.5
Emerging markets bonds 2.9 8.0 5.3
High-yield bonds 2.4 14.1 7.1
Municipal bonds 1.4 4.2 5.1
U.S. Treasuries 0.7 -1.4 4.6
Securitized bonds 0.4 -0.2 3.9

Source: Morningstar Direct, as of June 30, 2021. Performance figures shown are total returns for each asset class during the designated period. Indexes used are: U.S. real estate investment trusts, S&P United States REIT Index; U.S. large cap stocks, S&P 500® Index; International developed market large cap stocks, MSCI EAFE Index; Emerging markets stocks, MSCI Emerging Markets Index; International developed market small cap stocks, MSCI EAFE Small Cap Index; U.S. small cap stocks, Russell 2000® Index; Gold and other precious metals, LBMA Gold Price; Investment-grade corporate bonds, Bloomberg Barclays U.S. Corporate Credit Index; Treasury Inflation Protected Securities, Bloomberg Barclays TIPS Index; Emerging markets bonds, Bloomberg Barclays Emerging Markets Local Currency Government Bond Index; High-yield bonds, Bloomberg Barclays High Yield Very Liquid Index; Municipal bonds, Bloomberg Barclays Municipal Index; U.S. Treasuries, Bloomberg Barclays U.S. Treasury 3-7 Year Bond Index; Securitized Bonds, Bloomberg Barclays Securitized Index. Past performance does not guarantee future results. Indexes are unmanaged and cannot be invested in directly.

Fundamental ETFs lead YTD amid market shift to "value"

Fundamental ETFs had mixed performance relative to their market cap counterparts in Q2 as the markets shifted between growth and value leadership during the quarter. However, Fundamental ETFs have significantly outperformed YTD and lead their market cap counterparts by a range of about two to nine percentage points across the five major equity asset classes.

The market rotation toward value in recent quarters followed several years in which market cap ETFs led much of the time, highlighting the diversification benefit of including both types of index investments within a portfolio. Schwab Intelligent Portfolios® includes both market cap ETFs and fundamental ETFs for the five major equity asset classes to provide enhanced diversification as different investment styles move in and out of favor over time.

Economic reopening ramped up as new COVID cases declined

As the number of vaccine doses administered across the U.S. has risen, new COVID-19 cases have declined, allowing business restrictions and social distancing measures to be relaxed. The ramp up in business operations has kept corporate earnings and overall economic growth expectations solid, though the pace is expected to moderate in coming quarters as the economy transitions from recovery to expansion. Unemployment has continued to edge lower as businesses have reopened, though it will take time to get back to full employment, likely keeping any Fed rate hikes at bay for some time.

How did Schwab Intelligent Portfolios do?

For Schwab Intelligent Portfolios, the continued rally in equity markets in Q2 brought strong gains for portfolios across the risk spectrum. Aggressive Growth portfolios saw the strongest returns in Q2 and YTD due to their emphasis on stocks. Moderate portfolios also saw solid returns due to their balanced mix of stocks and bonds. Conservative portfolios delivered positive though more moderate gains due to their emphasis on bonds.

Knowing which type of portfolio is most appropriate for you is a matter of understanding your goals and risk tolerance. Schwab Intelligent Portfolios is designed to recommend a portfolio consistent with your objective, time horizon and ability and willingness to take risk. Whether you're recommended to invest in a more conservative or more aggressive portfolio is based on your answers to our online investor profile questionnaire. We recommend that you revisit the questionnaire at least annually to ensure that your portfolio continues to be suitable based on your current goal, time horizon and risk tolerance.

Looking ahead to Q3 2021

The strong market gains so far this year are welcome, though valuations have risen and potential volatility at some point in the second half of the year wouldn't be a surprise. As always, it's important to stay focused on what you can control, such as time-tested principles for long-term investment success through investing in a diversified portfolio based on your risk profile, rebalancing and ignoring short-term market noise.

David Koenig CFA®, FRM®, is Vice President and Chief Investment Strategist for Schwab Intelligent Portfolios