February 2015

Stocks reach record highs on earnings, easing global concerns
Stocks recorded strong gains in February and easily reversed the losses from January. Stabilizing oil prices, strong fourth-quarter earnings reports, and signs of an easing in the Ukraine crisis boosted investor sentiment. Most of the major benchmarks performed roughly in line with each other and established record highs by the end of the month. The technology-heavy Nasdaq Composite Index remained slightly below the peak it reached 15 years ago but outperformed the other indexes.

U.S. Stocks
  Total Returns
MSCI Indexes February 2015 Year-to-Date
DJIA    6.01%      2.22%
S&P 500 Index 5.75   2.57
Nasdaq Composite 7.08   4.80
S&P MidCap 400 Index 5.12   3.94
Russell 2000 Index 5.94   2.53
Note: Returns are for the periods ended February 28, 2015. The returns include dividends based on data compiled by T. Rowe Price, except for the Nasdaq Composite Index, whose return is principal only.

Past performance cannot guarantee future results. This chart is shown for illustrative purposes only and does not represent the performance of any specific security.

Rebound in crude prices drives early gains
Stocks started the month on a strong note, helped by a rebound in energy stocks and crude oil prices, which rose roughly 20% above their recent lows. The bounce was due in part to a sharp drop in the count of drilling rigs in the U.S., which raised hopes that production would fall back in line with demand. Oil prices and energy stocks surrendered a portion of these gains later in the month, however, as it became clear that mostly unproductive rigs were being taken offline, leaving overall production stubbornly high. T. Rowe Price energy portfolio managers believe that low oil prices will eventually weed out inefficient producers, while stronger competitors should benefit from the declining cost of extraction.

Easing concerns about Greece and Ukraine boost investor sentiment
Better news in Europe helped the market extend its gains later in the month. The announcement of a cease-fire in Ukraine at mid-month helped ease global geopolitical concerns, although investors kept a nervous eye on continued fighting in the region. U.S. stocks also followed European markets higher on news of a four-month extension of Greece's debt relief package, which seemed to remove any immediate threat that Greece would leave the eurozone or the European Union.

U.S. economy remains on track
Generally, data suggested the U.S. economy remained on the right track, if not growing quite as fast as it was in the middle of last year. Employers continued to add jobs at a healthy clip, and gauges of consumer attitudes stayed at multiyear highs. Evidence that lower gas prices were providing a substantial boost to consumer spending on discretionary items remained elusive in overall retail sales numbers, although a surge in sales of high-value SUVs and pickups in January suggested that consumers were responding to lower gas prices.

Profits grow overall even as energy sector earnings tumble
A continued flow of mainly positive fourth-quarter earnings reports confirmed that corporations managed to increase their profits even in the face of the strong U.S. dollar, which lowers the value of profits earned overseas and makes U.S.-produced goods less competitive in global markets. At the end of February, analytics and data firm FactSet announced that overall earnings for companies in the S&P 500 had grown by 3.7% (year-over-year) in the fourth quarter, with over three-quarters of companies managing to surpass analysts' estimates. If not for a 22% plunge in energy sector earnings, overall profit growth would have slowed only modestly from earlier in 2014.

Dividends and stock repurchases may support stock prices
In a recent roundtable conducted by Barron's, T. Rowe Price Chairman and Chief Investment Officer Brian Rogers acknowledged that falling energy revenues would weigh on overall profit growth in 2015, but he predicted that earnings growth would remain decent. While valuations (such as price-to-earnings ratios) appear somewhat elevated, he also anticipates that flush corporate coffers will provide some support for stock prices through dividend payments and stock repurchases.

February 2015

Sharpest sell-off in Treasuries since the 2013 taper tantrum
U.S. Treasuries experienced selling pressure, driving their yields higher, as signs of improving global economic growth encouraged investors to move out of safe-haven government debt and into riskier fixed income asset classes. By February 20, the yield on the benchmark 10-year Treasury note had increased about 40 basis points (a basis point is 0.01 percentage points) in approximately three weeks, marking the quickest sell-off since the "taper tantrum" in 2013. The 10-year note recovered some of its lost ground in the last week of the month to finish at a 2.00% yield. (Bond prices and yields move in opposite directions.)

Fed policymakers to evaluate timing of initial rate hike on a "meeting-by-meeting basis"
U.S. economic data continued to be generally healthy, with the January nonfarm payrolls report showing a better-than-expected 257,000 jobs added. Although the unemployment rate ticked up to 5.7%, the labor force participation rate also increased. In her semi-annual testimony before Congress, Federal Reserve Chair Janet Yellen said that the Fed will begin to evaluate an initial interest rate hike on a "meeting-by-meeting basis," with policymakers basing their decision on the latest available economic data, a statement that the market largely interpreted as dovish. T. Rowe Price Chief Economist Alan Levenson continues to believe that a June initial rate increase is likely, although deterioration in labor market conditions could affect the timing.

Emerging signs of economic rebound in Europe and Japan
Some signs of a rebound in economic growth outside the U.S. also emerged. The eurozone grew at a stronger-than-expected pace in the fourth quarter of 2014, led by Germany. This dampened the appeal of high-quality eurozone sovereign debt, which had rallied strongly after the European Central Bank's January announcement that it will buy sovereign bonds starting in March. Japanese fourth-quarter gross domestic product (GDP) data showed that the country came out of a short recession. The U.S. dollar was generally strong against most developed market currencies, weighing on the returns of debt denominated in euros or yen for U.S. investors, although the dollar's gains were not as pervasive as in late 2014.

Total Returns
Index February 2015 Year-to-Date
Barclays U.S. Aggregate Bond Index    -0.94%     1.14%
Credit Suisse High Yield Index  2.59  3.04
Barclays Municipal Bond Index -1.03  0.72
Barclays Global Aggregate Ex-U.S. Dollar Bond Index -0.78 -2.60
J.P. Morgan Emerging Markets Bond Index Global Diversified  0.85  1.79
Barclays U.S. Mortgage Backed Securities Index -0.16  0.68
Figures as of 02/28/15. Past performance cannot guarantee future results. This chart is shown for illustrative purposes only and does not represent the performance of any specific security.

Higher oil prices support high yield bonds
High yield bonds continued their 2015 rally, recovering some of the ground that they lost as oil prices plummeted late last year. Debt from energy-related issuers accounts for a large proportion of most high yield indexes. Crude oil prices rose slightly in February amid considerable volatility. Solid investor demand for bonds offering more yield as well as a buoyant equities market provided additional support for noninvestment-grade bonds. High yield credit spreads, which measure the additional yield above that of a comparable-maturity Treasury security that investors demand for holding a bond with credit risk, narrowed significantly.

Investment-grade corporate bonds lose ground
Credit spreads on investment-grade corporate debt also narrowed to some degree, but the move was not nearly as dramatic as in the high yield market. As a result of trading roughly in parallel with U.S. Treasuries, investment-grade corporate bond prices fell. The new issue market for investment-grade corporate debt continued to be busy, with companies bringing bonds to market to take advantage of the low interest rate environment. U.S. firms have also been rushing to sell new bonds in Europe, where rates are even lower. Coca-Cola sold €8.5 billion of bonds at the end of the month in the second-largest euro-denominated debt issue ever.

First down month for municipal debt in over a year
The broad municipal bond market posted its first monthly loss since December 2013, weighed down by heavy new issuance and the sell-off in Treasuries. In Puerto Rico, a federal judge struck down the territory's Recovery Act, which would have allowed Puerto Rico's public corporations (such as electric utility PREPA) to restructure their debt. PREPA bonds gained following the decision, while Puerto Rico's general obligation municipals lost ground. Both Standard & Poor's and Moody's downgraded Puerto Rico's debt, citing an increased risk of default.

Treasury Yields
Maturity January 31, 2014 February 28, 2015
3-Month    0.02%   0.02%
6-Month   0.07   0.07 
2-Year   0.47   0.63 
5-Year   1.18   1.50 
10-Year   1.68   2.00 
30-Year   2.25   2.60 
Source: Federal Reserve Board

Moody's downgrades Petrobras
Emerging markets bonds denominated in dollars generated positive returns amid country-specific volatility. Debt from developing countries denominated in local currencies fell in terms of U.S. dollars as the greenback strengthened against many emerging markets currencies. Brazil dominated the headlines in emerging markets after Moody's downgraded Petrobras, Brazil's huge state-run oil company, by a surprisingly aggressive two notches to below investment grade. The rating agency cited the company's very high debt levels as well as concerns about a corruption scandal that has plagued the firm since late last year. Much of Brazil's economy is linked to Petrobras, so emerging markets debt investors began to focus on the potential for a downgrade of the country's sovereign bonds.

Expectations for more refinancing drag down MBS
The low 10-year Treasury yield early in the month made refinancing a potentially more attractive option for homeowners, raising expectations for prepayments on residential mortgage-backed securities (MBS) and dragging their prices lower. Investors also expect a relatively high volume of new MBS issuance later in 2015, further weighing on prices. Commercial mortgage-backed securities (CMBS) remained resilient amid the month's heightened levels of interest rate volatility. Estimates of low net supply going forward provided support for CMBS.

Medium- to long-term value in emerging markets bonds
In general, emerging markets debt appears to offer more value relative to other fixed income sectors. However, the Fed's initial interest rate hike could trigger elevated volatility in emerging markets bonds. Looking at the medium to long term, T. Rowe Price analysts believe that dollar-denominated sovereign debt of developing countries looks attractive relative to developed markets bonds, and emerging markets corporate bonds seem to offer more value than similarly rated U.S. corporates.

February 2015

The Asia region underperformed in February's stock market rally
Developed non-U.S. stock markets surged, gaining 5.99% for the month in U.S. dollar terms, as measured by the MSCI EAFE Index. The local currency return for the index was 6.24%, which reflects modest ongoing U.S. dollar strength. The euro and the yen declined versus the U.S. dollar, while the British pound strengthened. An appreciating U.S. dollar detracts from returns for dollar-based investors holding securities in non-U.S. markets. Developed European equity markets outperformed developed markets in Asia, although Japan and Australia generated gains exceeding 7% in local currency terms. Emerging markets stocks underperformed developed markets, but the disparity across regions was significant. European emerging markets posted solid gains, the Latin America region slightly outperformed, and emerging Asian markets trailed the broad emerging markets benchmark.

Within the EAFE index, small-cap stocks generated modest outperformance in February versus large-caps, but they have virtually identical returns for the year to date. Growth stocks in the EAFE index underperformed value stocks in February, but growth stocks continue to hold the upper hand for the year to date. Sector performance in the EAFE index was mixed. The energy sector rallied strongly and turned positive for the year to date, but the sector is still down more than 20% for the past six months. Among other sectors, materials, industrials, consumer discretionary, and financials recorded above-average gains, while telecommunication services, health care, and consumer staples posted below-average gains. Utilities was the only sector to decline.

International Indexes
  Total Returns
MSCI Indexes February 2015 Year-to-Date
EAFE (Europe, Australasia, Far East)    5.99%      6.52%
All Country World ex-U.S. 5.36   5.22
Europe 6.29   6.30
Japan 6.07  8.55
All Country Asia ex-Japan 1.90  4.46
EM (Emerging Markets) 3.11  3.73
All data are in U.S. dollars as of February 28, 2015. Past performance cannot guarantee future results. This table is shown for illustrative purposes only and does not represent the performance of any specific security.

Japan emerges from recession
Japan's Prime Minister Shinzo Abe has been pressing corporations to raise wages to increase consumption levels and reverse a multi-decade cycle of wage and price deflation and is having modest success. However, Japanese household spending declined year-over-year in January, and retail sales fell for a fourth consecutive month. Abe has promoted economic policies that focus on aggressive monetary easing and public spending in an effort to boost the profitability of export-oriented manufacturers. Japan's economy emerged from recession in the fourth quarter of 2014, as gross domestic product (GDP) expanded at an annualized rate of 2.2%, mainly due to growing exports. Data showed that the economy also posted its sixth consecutive monthly trade surplus in December amid growing income from overseas investment and falling import costs due to lower energy prices.

In contrast, domestic consumption has become the largest driver for Chinese GDP growth. According to the National Bureau of Statistics (NBS), total consumption accounted for 51.2% of GDP in 2014, up from about 50% in 2013. According to Xie Hongguang, the NBS deputy director, "[this] means that the consumption-driven growth model has started taking shape, and the country's economic structure has started improving." The People's Bank of China (PBoC) announced a 25-basis-points (0.25%) cut to lending and deposit interest rates on February 28—China's central bank said that it will continue to maintain "prudent" monetary policy—in an effort to boost growth in the world's second-largest economy. However, the surprise move by the PBoC raised some concern about the country's slumping property market, slowing economic growth, deflationary pressures, and the capital exodus that is squeezing bank lending capacity.

The ECB comes through with QE, setting the stage for recovery
The European Central Bank's (ECB) quantitative easing (QE) program, announced in January and set to begin in March, was the equity market's cue for lift-off. Although T. Rowe Price sovereign analysts think that the program alone will not solve the eurozone's entrenched problems, they believe the stage is set for the 19-nation bloc to defy the gloomy consensus forecasts and improve in the second half of 2015. T. Rowe Price portfolio managers say the ECB's action could encourage investors to seek riskier assets. This also should be supportive of corporate investment as companies issue bonds to take advantage of low interest rates. According to Thomson Reuters I/B/E/S, about 55% of Europe's companies have matched or exceeded fourth-quarter profit forecasts-the best earnings season in more than three years. Additionally, the mid-month announcement of a cease-fire in Ukraine helped ease geopolitical concerns, although investors kept a nervous eye on continued fighting in the region. Europe's markets trended higher on news of a four-month extension of Greece's debt relief package, which seemed to remove any immediate threat that Greece would leave the eurozone or the European Union.

Non-U.S. stock valuations remain attractive, but U.S. dollar strength remains a wild card
Many T. Rowe Price portfolio managers are optimistic about the investment environment for global equities in the intermediate and longer term, but potential near-term headwinds include the strengthening U.S. dollar and ongoing global economic weakness. Although some individual stocks and sectors appear to be richly priced, there are opportunities for bottom-up stock selection. European companies have continued to meaningfully restructure, reduce costs, and improve their market positions, and we believe that many companies will experience significant operating leverage once a gradual recovery in Europe unfolds. In Japan, we believe domestic consumption and wage inflation need to be the next growth engines to support a sustained recovery. In emerging markets, returns have become considerably more reflective of underlying fundamentals at the stock and country levels, which is a positive development, in our view.

February 2015

Emerging markets stocks rise as Ukraine truce, Fed comments boost risk appetite
Emerging markets stocks rose in February as a peace agreement in Ukraine and the Federal Reserve's repeated reassurance that it would be patient in raising interest rates lifted investors' risk appetite. Despite reports of continued fighting in Ukraine, a peace deal negotiated in Minsk by European leaders spurred hopes that the nearly year-old conflict was stabilizing, raising speculation that the U.S. and Europe may roll back sanctions on Russia if the truce holds. Later in the month, Fed Chair Janet Yellen told U.S. lawmakers that the central bank would base the timing and pace of its interest rate increases on the strength of economic data. The MSCI Emerging Markets Index rose to a three-month high after Yellen's testimony, which investors interpreted to mean that a rate hike was not imminent. Nine sectors in the MSCI index rose, led by energy. The health care sector was the sole decliner.

International Indexes
  Total Returns
Index February 2015 Year-to-Date
MSCI Emerging Markets (EM) Index     3.11%     3.73%
MSCI EM Asia Index  2.42  4.88
MSCI EM Europe, Middle East, and Africa (EMEA) Index  4.84  5.03
MSCI EM Latin America Index  4.23 -2.20
All data shown are in U.S. dollars as of February 28, 2015. This table is for illustrative purposes only and does not represent the performance of any specific security. Past performance cannot guarantee future results.

Chinese stocks lead Asian markets higher

  • Chinese stocks advanced. China's central bank twice eased monetary policy during the month, first by reducing banks' reserve ratio requirements on February 4, then by making a surprise cut to benchmark lending and deposit rates at month-end. The reserve ratio cut was the first since 2012, while the interest rate cut was the second in three months. Both measures reflected the government's increasingly aggressive response to China's slowing growth.
  • Indian stocks rose slightly. India's gross domestic product (GDP) expanded 8.2% and 7.5% in the last two quarters of 2014, respectively, according to revised data released on February 9—outstripping the growth rates previously reported by the statistics ministry. The latest data, which resulted from a new way of calculating GDP, implied that India's growth rate exceeded China's but appeared suspect to many economists given that other indicators showed that India's economy stagnated over the period.
  • Southeast Asian stocks advanced. Domestic stock benchmarks in Indonesia and the Philippines hit record highs near month-end after Yellen's congressional testimony, but growth across the region remained subdued. Thailand reported that its 2014 GDP growth was the slowest in three years due to political unrest, while Indonesia's central bank unexpectedly cut its main interest rate for the first time in three years as inflation cooled.

Latin American stocks rise; Brazil advances despite Petrobras downgrade

  • Brazilian stocks rose after a string of monthly losses drew bargain hunters, but the country received a blow after Moody's cut the credit rating on state oil producer Petrobras to junk status. The downgrade of Petrobras, Brazil's biggest company, raised speculation that the country's sovereign credit rating was at risk and could even tip the economy into recession.
  • Mexican stocks strengthened. The country's central bank lowered its growth forecasts for 2015 and 2016 to reflect weaker domestic demand and a slump in global oil prices, which has forced the government to cut infrastructure projects and other spending.
  • Andean markets were mixed: Colombian stocks declined, while those in Chile and Peru advanced. Central banks in Chile and Peru kept their respective borrowing costs unchanged as inflation remains above target in both countries and weak commodity prices have weighed on their export-driven economies.

Russian stocks rally on Ukraine cease-fire deal; Turkish stocks fall amid central bank feud

  • Russian stocks rallied nearly 23% as the Minsk peace deal to end the Ukraine conflict appeared to stick, reducing the risk of more economic sanctions on the country. Hopes of a lasting truce in Ukraine and a rebound in crude oil prices drove a rally in the ruble, which climbed roughly 14% against the dollar in February and was the month's best-performing currency.
  • Turkish stocks sank about 9%. Turkey's currency, the lira, fell to a record low versus the dollar at month-end amid a growing feud between the country's central bankers and politicians over monetary policy, which unnerved investors. Turkey's central bank lowered three of its policy rates on February 24, but the move failed to appease government officials, who have repeatedly demanded lower rates to stimulate the economy despite above-target inflation.
  • South African stocks advanced even as the country received more grim economic news. South Africa's government cut its growth forecasts for this year and next due to electricity shortages, according to the country's finance minister, who added that more power disruptions could further harm economic growth. South Africa's economy is expected to grow just 2% this year after expanding 1.5% last year, which was its slowest pace since a 2009 recession.

Solid fundamentals offset near-term risks
We are optimistic about the long-term outlook for emerging markets. Rising consumption, an expanding middle class, and real wage growth are the drivers of huge economic potential in the developing world. Emerging markets are trading at a significant discount on an absolute and relative basis, making current valuations compelling for long-term investors. Most emerging markets have stronger financial positions, larger currency reserves, and more flexible foreign exchange policies than they did a decade ago. Additionally, most emerging markets are still expanding faster than developed ones and offer solid growth opportunities for long-term investors. In recent years, we have noted significant dispersion in the returns of emerging markets stocks even within the same country and industry. We anticipate more divergence in the performance of countries and companies than we have seen in the past 15 years, and we believe that careful stock selection will be crucial for producing good returns over time.