Economic and Investment Outlook Fourth Quarter 2017
The views presented in this document are those of the Geneva Capital Management
Investment Team at the time of writing and may not be reflective of views any time thereafter.
1
Economic Outlook
A detailed look at recent economic statistics suggests the U.S.
economy is in a labored but definitive uptrend with improved readings
in Industrial Production, Retail Sales (less autos), Non-Defense Cap
Goods (ex-aircraft), Durable Goods New Orders (ex-transportation),
building permits, and a positive inflection in the index of leading
indicators. Counter balancing these positive trends are measures that
reflect a loss of momentum in previously strong sectors, namely
housing starts and U.S. auto sales (domestic). Our forecasts for
2017/18 Real Gross Domestic Product (RGDP) reflect the political
uncertainties around possible tax reform, Affordable Health Care
revisions, an infrastructure spending agenda, and altered trade
agreements. While we originally believed that definable progress in
some of these areas would be evident by early 2018, this is appearing
increasingly unlikely. With this as a backdrop and with confidence that
a recession can be avoided through 2018, we’ve maintained our
RGDP forecasts at 2.2% and 2.4% respectively.
Investor focus was on global central banks this quarter given global
Purchasing Managers Index (PMI) experienced the strongest
quarterly readings in three years and continues to rise at an
annualized 2.5% rate. Growth appears to be broad based with relative
uniformity across the manufacturing and services sectors. Job
creation in the developed world continues to rise at rates not seen in
over a decade, perhaps portending nascent wage inflation. In
addition, rising capacity constraints, as evidenced by slower supplier
delivery times, suggests market demand exceeds supply, thereby
creating upward pricing pressure. Despite the economic disruption
caused by hurricanes in the quarter, the U.S.’s PMI remained vibrant
at 54.8 and job creation was robust. With the Federal Reserve (Fed)
Board telegraphing a 25 Bps rate increase in December and perhaps
three more in 2018, investors are beginning to factor in a gradual rise
in U.S. core inflation by late next year. Our forecast for the Headline
Consumer Price Index (CPI) numbers in 2017/18 remains unchanged
at 2.1%/2.3%.
Consumer buying behavior has changed radically over the last five
years as e-commerce transactions now comprise over 15% of total
retail sales in the U.S. Furthermore, this trend is accelerating with
over half of core U.S. retail sales growth driven by e-commerce
channels and of that, Amazon is contributing the majority. The
“Amazon Effect” is a real threat to traditional Brick and Mortar stores,
many of whom were ill-prepared for the dramatic shift in consumer
behavior, especially Millennials who almost uniformly prefer online
shopping to visiting strip centers or malls.
Looking at U.S. consumers in more detail suggests they face benign
growth in personal income (+2.80% y/y) despite near record
employment levels. Furthermore, the Personal Savings Rate, which
peaked at 6.30% in October 2015, has declined to 3.60% implying
that the average consumer is drawing down savings to fuel personal
spending (+4.20% y/y). Our hope (and that of the markets) is that a
broad tax cut program will ultimately be passed providing lower rates
for middle income consumers and U.S. companies. However, the
details and magnitude of such reform is anyone’s guess. Interestingly,
consumer sentiment remains high (101.1, September 2017) so a
continued decline in U-6 unemployment (workers upgrade their
employment status in an improving economy) coupled with possible
retroactive tax reimbursements should provide fuel for a strong
consumer spending rebound without a further drawdown of savings.
In such an improved environment, our forecasts for U.S. auto sales
(2017 12.8 million; 2018 13.0 million) and housing starts (2017 1.215
million; 2018 1.240 million) may have to be upwardly revised.
Geneva Capital Management LLC is a subsidiary of Janus Henderson Group plc and serves as
investment adviser on certain products.
Janus Henderson is a trademark of Janus Henderson Investors. © Janus Henderson Investors. The name Janus Henderson
Investors includes HGI Group Limited, Henderson Global Investors (Brand Management) Sarl and Janus International Holding LLC.
2
Economic Outlook
2017 is rapidly coming to a close, but two Federal Open Market
Committee (FOMC) meetings remain. As those meetings draw near,
probabilities that the Fed will tighten by year-end stand better than
75%. The move from an accommodative to normalized rate
environment is clearly data dependent, but in this instance the timing
of such a move will play a crucial role. The December meeting falls at
a time when certain data points such as lower unemployment and
stronger PMIs clearly allow for a rate hike.
Despite the volatility created by political and geopolitical events,
unemployment, inflation and economic growth play a more
meaningful role in determining the shape of the yield curve. We
believe future rate increases will be at a measured pace, but perhaps
faster than the market is implying. It will be some time before the
FOMC increases the cadence of rate hikes to “normalize” given the
low global interest rates of sovereign debt acting as an anchor.
Globally, U.S. Treasuries remain attractive given our country’s
relative economic stability and higher yields. Our year-end 2017
forecast for the benchmark 10-year and 30-year Treasury remains at
2.65% and 3.30%. Essentially, this is reflective of global market
conditions that dictate rates will continue to be lower for longer.
Among developed economies Eurozone growth continued to outpace
its peers driven by household consumption, fixed investment and
exports. In fact, European countries held 9 of the top 10 spots of the
global manufacturing PMI rankings. This is a positive development for
the U.S. economy as Europe is our largest trading partner and
stability and growth in the region should help support our slow escape
from moribund growth. Japan has also experienced reasonably
robust growth this year (IMF recently took up their GDP forecast)
driven by consumer spending and exports. While government
stimulus will begin to fade in the coming quarters, investments ahead
of the 2020 Tokyo Olympic Games should provide some added
stimulus. In the emerging economies, Russian growth lead all BRIC
(Brazil, Russia, India And China) countries with green shoots of
sustained growth manifesting in India and Brazil, which represents a
distinct reversal from previous quarters. Finally, China’s economic
growth appears to be improving driven by policy easing and supply
side reforms. To wit, Chinese GDP growth hit a 26 year low last year
of 6.7%, and should it usurp that level, it would mark the first instance
of a reacceleration in growth in nearly seven years. This review of
major economies around the globe does not create the depiction of
an imminent recession.
Longer-term
The most cited fear by economists and market pundits in the current
environment is the potential misstep by global central banks as they
remove the accommodative policies enacted following the great
recession. We will certainly be watching for the proverbial stumble,
but feel central bankers will err on the side of conservatism. If they
are too slow to remove stimulative measures, the consequence will
be accelerating inflation, resulting in a cyclical recession. Should they
pursue more aggressive action we could potentially be facing a
deflationary environment, which would be uncharted territory with few
tools to assist in navigating. Thus far, we have balanced such risks
well as most major economies are growing and accelerating
simultaneous to the implementation of less accommodative policies.
Concurrent with these challenges is the ever-changing landscape of
the U.S. economy. We are exasperated with discussions over the
impact of Amazon, although such contemplations are necessary,
given how the consumer has driven the economy over the last 30
years. In the 80’s, 90’s and 2000’s, the U.S. consumer borrowed
increasing amounts of money to spend and consume, refocusing our
The views expressed are those of the portfolio managers and do not necessarily reflect the views of others in Janus Henderson's
organization. They are subject to change, and no forecasts can be guaranteed. The comments may not be relied upon as
recommendations, investment advice or an indication of trading intent.
3
Economic Outlook
economy from a manufacturing powerhouse following the second
world war, to the largest importer of goods in history. The Millennial
generation is not as interested in accumulating “stuff” as Gen X’ers or
the baby boomers, which concurrent with the Amazon effect, has
resulted in a projected 20 billion square feet of retail store surplus.
Given the ingenuity of entrepreneurs, we are confident a productive
use of this space will be discovered, but generational shifts like this
can be long lasting and painful.
Finally, credit markets continue to display resilience as each
successive month represents a new record for corporate bond
issuance. The appetite globally for yield continues to be insatiable
given how we have been mired in a low return environment for a
decade. The implications for such a long duration of sub-normal
interest rates will be vast and reverberate through pension funds,
insurance companies, and savers for decades to come. Ultimately,
this debt does need to be repaid or potentially rolled into a higher rate
environment. The result will most likely be less capital allocated to
productivity/capacity enhancing investments, which has implications
for long-term economic growth. These are truly unique times in that
we have the largest generations in U.S. history both retiring and
entering the workforce concurrent with unprecedented global
uncertainty and central bank involvement in economic affairs. This
backdrop makes it difficult to articulate a long-term thesis on the
direction of the U.S. economy, but as long-term investors in equities,
you can be sure we will be vigilant in monitoring and communicating
the vicissitudes of our forecast in our forthcoming outlooks.
4
Economic Outlook
Fourth quarter 2017
Outlook 2014 2015 2016 2017E 2018E
Real GDP 2.4% 2.4% 1.9% 2.2% 2.4%
Inflation (Headline CPI)
YoY change
0.8% 0.7% 1.5% 2.1% 2.3%
Profits (S&P 500*) 6.9% 0.0% 6.3% 8.5% 8.0%
Annual housing starts
in thousands
985 1111 1175 1215 1240
Gross private domestic investment
fixed investment - non-residential
5.5% 2.9% 0.9% 4.5% 5.6%
U.S. auto sales
domestically produced vehicles in
millions
12.8 13.5 13.4 12.8 13.0
10-year Treasury (year-end) 2.17% 2.27% 2.44% 2.65% 3.00%
30-year Treasury (year-end) 2.75% 3.02% 3.07% 3.30% 3.55%
Source: Geneva Capital Management, Bloomberg, U.S. Federal Reserve, September 2017
*Operating Earnings
5 5
50
55
60
65
70
75
80
85
90
95
100
798081838485868889909193949596989900010304050608091011131415162.9
3.1
3.3
3.5
3.7
3.9
4.1
4.3
4.5
2.5
2.7
2.9
3.1
3.3
3.5
3.7
3.9
4.1
4.3
80 85 90 95 00 05 10 15 17
1.0
1.2
1.4
1.6
1.8
2.0
2.2
2.4
2.6
80 94 092.9
3.1
3.3
3.5
3.7
3.9
4.1
4.3
4.5
2.5
2.7
2.9
3.1
3.3
3.5
3.7
3.9
4.1
4.3
80 85 90 95 00 05 10 15
As Growth Reaccelerates in 2018, Keep an Eye on
These Four Excesses We are constructive on the 2018 outlook due to accelerating global growth. However, one should pay close attention to potential headwinds in the form of unaffordable home prices, rising auto debt, high corporate leverage and elevated commercial real estate values.
Source: Cornerstone Macro Economics as of 9/15/17
*Domestic non-financial corporate debt
U.S. Home Prices divided by Median Family Income
(NAR) 12 Month Average (1/1/80 – 7/31/17)
2.9
3.1
3.3
3.5
3.7
3.9
4.1
4.3
4.5
2.5
2.7
2.9
3.1
3.3
3.5
3.7
3.9
4.1
4.3
80 85 90 95 00 05 10 15
New: 4.43
(RHS)
Existing: 3.38
(LHS)
U.S. Corporate Debt*
% of Revenue (1/1/80 – 6/30/17)
U.S. Consumer Debt (NY Fed)
Auto Loans % Nominal DPI (1/1/03 – 6/30/17)
6.0
6.5
7.0
7.5
8.0
8.5
9.0
03 04 05 06 07 08 09 09 10 11 12 13 14 15 16 17
U.S. CRE Price Index, divided by GDP Deflator
Federal Reserve Board (1/1/80 – 6/30/17)
17
17
6 6
Source: Cornerstone Macro Economics, 1/1/05 – 8/1/17
80
85
90
95
100
105
05 06 07 08 09 10 11 12 13 14 15 16 17-0.9
-0.8
-0.7
-0.6
-0.5
-0.4
-0.3
05 06 07 08 09 10 11 12 13 14 15 16 17
Real Broad Trade Weighted U.S. Dollar (Fed) U.S. Real Net Exports
95.6
-$0.61
Trilli
ons (
$)
Tra
de w
eig
hte
d U
.S. D
olla
r -8.5%
The Weaker Dollar Will Be a Tailwind for Trade
The dollar’s 2017 decline is the largest since 2011, which back then drove an improvement in the trade
deficit. With global economies improving, we expect the dollar to remain soft, which would be supportive
of U.S. exports in 2018.
-0.9
-0.8
-0.7
-0.6
-0.5
-0.4
-0.3
05 06 07 08 09 10 11 12 13 14 15 16 17
From 2010 to today, there is a -91% correlation between the trade weighted dollar
and U.S. real net exports, with the dollar leading by one quarter.
7 7
120%
130%
140%
150%
160%
170%
180%
190%
200%
210%
220%
230%
240%
250%
260%
270%
-$0.40
-$0.30
-$0.20
-$0.10
$0.00
$0.10
$0.20
$0.30
$0.40
$0.50
$0.60
$0.70
$0.80
$0.90
$1.00
$1.10
$1.20
1962
1966
1970
1974
1978
1982
1986
1990
1994
1998
2002
2006
2010
2014
2018E
2022E
2026E
2030E
2034E
2038E
2042E
2046E
2050E
Dollar increase in GDP per
$1.00 increase in non-financial debt (left axis)
Total U.S. non-financial debt * % of U.S. GDP
(right axis)
* Total debt is household & business non-financial debt + Federal debt held by the public + state & local debt
1.00x
1.05x
1.10x
1.15x
1.20x
1.25x
1.30x
1.35x
1.40x
1.45x
1.50x
1.55x
1.60x
1.65x
1.70x
1Q
19
62
1Q
19
65
1Q
19
68
1Q
19
71
1Q
19
74
1Q
19
77
1Q
19
80
1Q
19
83
1Q
19
86
1Q
19
89
1Q
19
92
1Q
19
95
1Q
19
98
1Q
20
01
1Q
20
04
1Q
20
07
1Q
20
10
1Q
20
13
1Q
20
16
1Q
20
19
Source: Barry Bannister, Stifel Equity Strategy. Data from Bureau of Economic Analysis (BEA) and U.S. Federal Reserve. For the period
1959 – 2005 the Federal Reserve reported M3 (seasonally adjusted), and post-2006 we continue M3 using M2 + large time deposits
+ institutional money market + reverse repos with non-banks + interbank loans + Eurodollars (regression-derived). 1962 – 2Q 2017
Money Velocity
(i.e., Nominal GDP Divided by M3 Money Supply)
Incremental Nominal GDP from Each $1 of Additional Debt (left)
vs. U.S. Non-Financial Debt % of GDP (right)
The Decreasing Impact of Debt Issuance on Nominal
GDP Growth The declination in money velocity continues in terms of the ability to create new nominal GDP for each additional $1 of non-financial debt, which has plunged from $1 of new nominal GDP per $1 of new debt 50 years ago to only ~$0.35 of new nominal GDP for an extra $1 of non-financial debt currently. This declining efficiency of debt is a concern.
*Total debt is household & business non-financial debt + Federal debt held by the
public + state & local debt
E
8 8
Source: OECD as of 12/31/16
-1
0
1
2
3
4
5
6
Global Economic Growth
Global Expansion is Synchronized and Stronger
The global economy is strengthening and is accelerating at its fastest pace since 2011, with further
acceleration expected in 2018. For the first time since 2007, all 45 countries tracked by the OECD are
expected to deliver positive economic growth this year. P
erc
ent
9 9
The breadth of employment gains in the manufacturing sector hasn’t been this strong in nearly two
decades. The net share of U.S. companies planning to boost capital expenditures climbed to 32% in
August, the highest since October 2006. Improving sales expectations, steady economic growth, and
easing regulatory burdens are keeping small business optimism near 13-year highs.
Source: Bloomberg (1/1/98 – 8/31/17), Bureau of Labor Statistics, National Federation of Independent Business
U.S. Election
Hiring and Capital Expenditure Plans Remain Optimistic
0
10
20
30
40
50
98 00 02 04 06 08 10 12 14 16
Capital Expenditure Plans
32.0
Perc
ent
80
85
90
95
100
105
110
98 00 02 04 06 08 10 12 14 16
105.3
Small Business Optimism Index
Index le
vel
0
20
40
60
80
98 00 02 04 06 08 10 12 14 16
73.1
Manufacturing Employment Diffusion Index
Index le
vel
10 10
0.5
1.0
1.5
2.0
2.5
0.5
1.0
1.5
2.0
2.5
1996 2001 2006 2011 2016
Core PCE (% YoY)
Forecasts
2% target
0.0 0.5 1.0 1.5 2.0 2.5 3.0
US
UK
Eurozone
2017 forecast
2015
CPI Inflation in 2015 and 2017 Forecasts (% YoY)
Source: Bloomberg, as of September 2017
Note: 2017 numbers based on consensus forecasts
Source: Bloomberg, as of September 2017
Note: Forecasts based on consensus forecasts
*2% Fed inflation target
U.S. Core PCE Forecasts (%)
Inflation Gradually Recovers
Developed market inflation rates appear to be contained but accelerating.
*
U.S.
11 11
Source: Bloomberg as of 9/26/17
*The breakeven inflation rate represents a measure of expected inflation derived from 5-year Treasury
constant maturity securities and 5-year Treasury inflation-indexed constant maturity securities.
U.S. 5-Year Breakeven Rate* U.S. 10-Year Breakeven Rate*
Reflation Trade
The bond market’s outlook for U.S. price growth climbs after recent CPI data.
1.2
1.3
1.4
1.5
1.6
1.7
1.8
1.9
2.0
2.1
U.S. Election
Post-China PPI
UK Inflation
U.S. CPI Data
1.85
1.78
2.1
2.0
1.9
1.8
1.7
1.6
1.5
1.4
1.3
1.2
Pe
rce
nta
ge
po
ints
12 12
Source: Bloomberg as of 8/31/17
ISM Manufacturing PMI SA (U.S.) Markit Eurozone Manufacturing PMI
Nikkei Japan Manufacturing PMI Caixin China Manufacturing PMI
Contraction
Expansion
Global Purchasing Managers Index (PMI)
(9/1/14 – 8/31/17)
Institute for Supply Management (ISM) Manufacturing: PMI Composite Index
(1/1/00 – 8/31/17)
30.0
37.5
45.0
52.5
60.0
67.5
Jan-0
0
Jul-0
0
Jan-0
1
Jul-0
1
Jan-0
2
Jul-0
2
Jan-0
3
Jul-0
3
Jan-0
4
Jul-0
4
Jan-0
5
Jul-0
5
Jan-0
6
Jul-0
6
Jan-0
7
Jul-0
7
Jan-0
8
Jul-0
8
Jan-0
9
Jul-0
9
Jan-1
0
Jul-1
0
Jan-1
1
Jul-1
1
Jan-1
2
Jul-1
2
Jan-1
3
Jul-1
3
Jan-1
4
Jul-1
4
Jan-1
5
Jul-1
5
Jan-1
6
Jul-1
6
Jan-1
7
Jul-1
7
Global PMIs Trending in Positive Direction
Improving manufacturing surveys point toward synchronized global growth.
13 13
Note: *NFIB (National Federation of Independent Business)
Typical Reasons Applicant “Not Qualified”
0
5
10
15
20
25
30
2007 2017
Unemployment vs. Underemployment
The unemployment rate continues to fall, although the U6 measure remains above prior cycle lows.
Finding qualified workers remains a challenge for employers.
Source: Bloomberg as of 9/30/17 Source: NFIB* as of 9/30/17
40
35
30
25
20
15
10
5
0 0
5
10
15
20
25
30
35
40
Dec-73 Dec-76 Dec-79 Dec-82 Dec-85 Dec-88 Dec-91 Dec-94 Dec-97 Dec-00 Dec-03 Dec-06 Dec-09 Dec-12 Dec-15
NFIB Small Business Job Openings Hard to Fill
1973 1979 1985 1991 1997 2003 2009 2015
Businesses with Few or No
Qualified Applicants
Perc
ent
18
16
14
12
10
8
6
4
2
0 0
2
4
6
8
10
12
14
16
18
Jan-94 Jan-96 Jan-98 Jan-00 Jan-02 Jan-04 Jan-06 Jan-08 Jan-10 Jan-12 Jan-14 Jan-16
1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2017
U6 Unemployment
Total Unemployment
Perc
ent
Perc
ent
14 14
0%
2%
4%
6%
8%
10%
80 85 90 95 00 05 10 15
Source: Bureau of Labor Statistics as of 8/31/17
Average Hourly Earnings: Production
& Non Supervisory: Total Private Industries
% Change (YoY) Average
Source: Bureau of Labor Statistics as of 7/31/17
1.04%
Personal Savings Rate
Recessions
0%
2%
4%
6%
8%
10%
12%
00 05 10 15
Growth in Average Hourly Earnings Remains Muted
It appears the average consumer is saving less to supplement spending needs, a dynamic to monitor.
% Change (YoY) Recessions
15 15
14.5
15.0
15.5
16.0
16.5
17.0
17.5
18.0
18.5
19.0
198
0
198
1
198
2
198
3
198
4
198
5
198
7
198
8
198
9
199
0
199
1
199
2
199
4
199
5
199
6
199
7
199
8
199
9
200
1
200
2
200
3
200
4
200
5
200
6
200
8
200
9
201
0
201
1
201
2
201
3
201
5
201
6
Household Financial Obligations Ratio
15.61
15.09
17.63
15.62
18.12
14.95
Mean = 16.46%
1980
1981
1982
1983
1984
1985
1987
1988
1989
1990
1991
1992
1994
1995
1996
1997
1998
1999
2001
2002
2003
2004
2005
2006
2008
2009
2010
2011
2012
2013
2015
2016
19.0
18.5
18.0
17.5
17.0
16.5
16.0
15.5
15.0
14.5
Household Debt Service Ratio
9.0
10.0
11.0
12.0
13.0
14.0
198
0
198
1
198
2
198
3
198
4
198
5
198
7
198
8
198
9
199
0
199
1
199
2
199
4
199
5
199
6
199
7
1998
1999
200
1
200
2
200
3
200
4
200
5
200
6
200
8
200
9
201
0
201
1
201
2
201
3
201
5
201
6
Mean = 11.33%
10.25
12.09
10.37
13.21
9.89
1980
1981
1982
1983
1984
1985
1987
1988
1989
1990
1991
1992
1994
1995
1996
1997
1998
1999
2001
2002
2003
2004
2005
2006
2008
2009
2010
2011
2012
2013
2015
2016
14.0
13.0
12.0
11.0
10.0
9.0
Source: Bloomberg as of 8/31/17
Notes: Household financial obligations ratio includes vehicle leases, rent, insurance, and property taxes.
Debt service ratio is minimum debt service payment on mortgage debt and consumer credit as a % of disposable personal income.
15.47
10.04
Still
Historically
Low
Household Debt Service Manageable
Financial obligation and debt service ratios are at historically low levels, households are poised to
increase spending. This argues against a consumer-led recession.
16 16
The Fed dot plot is implying Fed funds rates will be at 2.7% in 2019, compared to 1.8% for the market-implied rate, thereby creating a disconnect between the two. The gap will close as the Fed preemptively attempts to attack nascent inflation.
0.5%
1.0%
1.5%
2.0%
2.5%
3.0%
-2%
-1%
0%
1%
2%
3%
4%
5%
19
93
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
20
17
20
18
Full Employment vs. Inflation
(1/1/93 – 12/31/18, Estimated)
U-3 Unemployment
(Left Axis)
Core PCE Inflation Y/Y%
12 Month Average (Right Axis)
X
Inflation is
late cycle
Dark Grey indicates the unemployment rate is below the “full employment” rate
Will the Fed Hike Rates More Than Expected in 2018?
-4%
-3%
-2%
-1%
0%
1%
2%
3%
4%
5%
6%
7%
8%
9%
10%
11%
12%
De
c-8
2
De
c-8
3
De
c-8
4
De
c-8
5
De
c-8
6
De
c-8
7
De
c-8
8
De
c-8
9
De
c-9
0
De
c-9
1
De
c-9
2
De
c-9
3
De
c-9
4
De
c-9
5
De
c-9
6
Dec-9
7
De
c-9
8
De
c-9
9
De
c-0
0
De
c-0
1
De
c-0
2
De
c-0
3
De
c-0
4
Dec-0
5
De
c-0
6
De
c-0
7
De
c-0
8
De
c-0
9
De
c-1
0
De
c-1
1
De
c-1
2
De
c-1
3
De
c-1
4
De
c-1
5
De
c-1
6
De
c-1
7
6%
10%
3%*
7%**
* 2.92% Dec-92 ** 6.54% Jul-00
1%
5%
(3)%
+ 16 MOS. = RECESSION
+ 8 MOS. = RECESSION
+ 17 MOS. = RECESSION
R R R
Fed Funds Actual Rate
(1/1/82 – 8/31/17)
Fed Funds Rate Recessions
…so the
preemptive
Fed likely
hikes rate to a
1.75% pinch
point in 2018
* 2.92% Dec-92 ** 6.54% Jul-00
Source: Barry Bannister, Stifel Equity Strategy. BLS and BEA data obtained via Bloomberg.
Notes: Full employment is called NAIRU, an acronym for non-accelerating inflation rate of unemployment, and refers to a level of unemployment below which
inflation may be expected to rise.
Shadow Fed Funds (Atlanta Fed) shows what the rate would have looked like if investors had not had recourse to cash, i.e., if 0% had not been the floor
during the 0% rate “ZIRP” era 2009-15. In addition to the simple trend pictured above, right, we doubt the fed funds meaningfully exceeds the neutral real
rate (Holston & Laubach of Fed, white paper) the next 2-3 quarters.
17 17
Source: Bloomberg as of 9/20/17.
Total Balance Sheet Assets of Central Banks
Balance Sheet Divergence
With the Federal Reserve expected to embark on shrinking its $4.5 trillion balance sheet, the divergence
in policy with the Japanese and European central banks looks set to continue, albeit at a lesser pace as
the ECB begins their taper program.
0
1000
2000
3000
4000
5000
6000 U.S. Federal Reserve Bank of Japan European Central Bank
1999 2001 2003 2005 2007 2009 2011 2013 2015 2017
6000
5000
4000
3000
2000
1000
0
18 18
Many investors are perplexed that the major U.S. stock indices are near all-time highs despite obvious concerns. Such concerns include a flattening of housing starts and auto sales, lackluster personal income growth, a tightening Federal Reserve (Fed) driving rates higher, extended equity valuations and political chaos. So why the investor enthusiasm for stocks? Perhaps it’s the concurrent acceleration of the Chinese, Japanese and European economies, the weaker U.S. Dollar, improving earnings growth for domestic companies or movement toward tax reform. Irrespective of the reasons, as investors, we must look forward through an unbiased lens and determine directionally where the market is headed and how to position our strategies therein. While the market has been unquestionably strong YTD, we still feel the pressure is to the upside for the next 12-18 months. The strength of the September corporate credit issuance underlies insatiable demand for yield. It’s important to remember, sentiment does not end equity bull markets, but credit bear markets do, and there is no sign of the latter in sight. Equity valuations are no doubt extended relative to history. We would make two points: 1) extended relative to what? Relative to real estate and fixed income, they look quite reasonable. 2) we are still in the midst of one of the greatest global central bank experiments in history and to say we know for certain what valuations for liquid transparent securities should be with a backdrop of extreme money creation, is showing hubris to say the least. With the underlying support of the credit markets and modest strength emanating from the global economy with improving trends in sectors such as industrials, financials and consumer discretionary, we feel the bull market will continue in the short-term with continued shallow downdrafts followed by recoveries as money on the sidelines continues to make its way into the market.
The third quarter, much like the third quarter of 2016, proved to be low quality and “risk-on.” Low quality companies, those rated as B or worse by S&P, returned 3.86% versus high quality companies, those rated B+ or better, returning 2.16%. Illustrating the point more forcefully was the 7.02% return of C&D rated companies versus the 1.27% return of A+
rated companies. The Russell growth indices also exhibited a low quality pattern of performance; the performance of the Russell Midcap Growth Index was driven by low P/E companies and high beta companies, both of which are inherently low quality. The same was true within the Russell 2000 Growth Index but the biases were less apparent; the most important factors to note were the outperformance of non-earners, which returned 10.5%, and the outperformance of high beta. Both of these factors were driven by the strong performance of the biotechnology industry which was up nearly 15%.
For the quarter, the Mid Cap Growth strategy returned 2.20% (gross returns) versus 5.28% for the Russell Midcap Growth Index, underperforming by 3.08%. The underperformance was pervasive across sectors and was primarily the result of the low quality environment during the quarter rather than poor stock selection. For the YTD period the absolute performance of the strategy remains strong with returns of 16.66% (preliminary, gross returns) versus 17.28% for the Russell Midcap Growth Index. The third quarter underperformance was most pronounced in the technology sector which detracted 1.58% from relative performance. What’s interesting to note is the underperformance wasn’t from the companies we owned but rather those that we did not; the strategy had just as many technology companies in the top ten contributors as it did in the top ten detractors and those top contributors actually contributed more to performance than the detractors took away. Where the strategy lagged was in an underweight to semiconductors, production technology and some of the higher beta and more cyclical technology companies. Outside of the technology sector, no other sector detracted more than 0.35% from performance and this is consistent with the factor attribution described above. Also contributing to underperformance was the strategy’s bias to smaller cap companies with less non-U.S. revenue exposure; during the quarter the dollar continued to weaken and this was a positive for companies with non-US revenue exposure.
Investment Outlook
19 19
Over the period, the Small Cap Growth strategy returned 6.57% (gross returns) versus 6.22% for the Russell 2000 Growth Index, outperforming by 0.35%. Performance at the sector level was mixed, with more sectors detracting from performance than contributing. Strong stock selection within the technology, producer durables and materials & processing sectors drove performance. This outperformance came in spite of what was a good environment for low quality stocks and non-earners. Contributing to performance was stock selection within the health care sector (ex-biotechnology) and technology. Performance in health care was led by Abiomed, Cantel Medical and Neogen Corp. Within technology top contributors were Cognex Corp., which produces machine vision systems, Envestnet, provides a technology platform for financial advisors and EPlus, which is a distributor of IT hardware, software and services. Each of these companies is unique within the technology space and their outperformance was driven by strong fundamentals. Detracting the most during the period was the underweight to biotechnology which was up 14.63% during the period and detracted 1.44% from relative performance. At a stock level, consumer discretionary company, Dorman Products Inc. was the largest detractor from performance. The company was down 13.47% and detracted 25bps from performance; the company reported results which missed analyst expectations and management sounded cautious given the challenged retail environment for auto supply companies.
Looking at our Valuation Model for the S&P 500, which incorporates 8.5% projected long-term earnings growth and 2017/18 earnings of $127.50/$138.00, suggests a 12-month total return of 7.82% for the S&P 500 Index. Assuming inflation and interest rates remain within our projected ranges for 2017/18, a trailing 12-month P/E (TTM) of 20x 2018 earnings on 12/13/18 would yield a year-end close of 2760, or 9.6% above 09/30/17. While the secular bull market is “long in the tooth”, the normal excesses that traditionally lead to the end of extended market up trends are not yet on the horizon (sharply higher rates, rising “cost push inflation”, coordinated world economic
retracements). That said, geopolitical events could derail our 2018 bullish market outlook so quality, earnings predictability and defensible valuations on selected issues are essential elements of a successful equity strategy during tumultuous times.
Global equity markets continued to perform well on the back of a strengthening global economy and improving consumer sentiment. Third quarter performance was once again driven by low quality companies as the summer is characterized by low volume and markets which are more influenced by macro events rather than company fundamentals. For much of the summer the expectation for tighter monetary policy here in the U.S. seemed to diminish as inflation data came in weaker than expected and various Fed governors seemed to be taking a more dovish tone. During September this changed with stronger inflation data and the Fed unveiling a plan to shrink the balance sheet and inferring a faster pace of rate increases. This more hawkish approach benefited high quality companies towards the end of the quarter and will be beneficial for Geneva’s style of investing into next year. The wild card remains who the President will nominate to be the next Fed Chairman once Janet Yellen’s term is up at the end of January. It’s difficult to envision the President nominating someone more dovish than Ms. Yellen, although the uncertainty surrounding this nomination could cause some weakness as investors don’t typically welcome uncertainty. Also impacting the near-term outlook are the prospects for tax legislation. At this juncture it’s too early to tell if the Republican proposal has the ability to attract enough votes but the President seems to be taking a different approach than he did on health care and investors are beginning to acknowledge the chance that something gets passed this year. If that’s the case and congress is able to meaningfully lower the corporate rate and reduce complexity in the tax code, then U.S. equity markets should rally and it would be especially meaningful to those companies who pay high marginal rates, namely small and mid-cap companies.
Investment Outlook
As of 9/30/17, Geneva US Small Cap Growth strategy held 3.55% in Abiomed Inc., 2.81% in Cantel Medical Corp., 2.32% in Neogen Corp.,
2.02% in Cognex Corp., 2.02% in Evestnet Inc., 2.03% in Eplus Inc. and 1.43% in Dorman Products Inc.
20 20
Investment Outlook
Longer-term
While we admit, we may sound like a broken record, vaticinating about
continued upside to these seemingly stretched equity markets, it is
important to put our forecast into context. Much of the haranguing
regarding this “irrational” bull market centers around the duration of the
bull market and equity valuations. With respect to the duration, one
can’t measure the commencement of a bull market from the trough,
which pundits indeed do, but rather from the point at which the market
breaks out from the previous highs. Thus, the bull market truly began in
April of 2013 and therefore is only 4.5 years old. In addition, the
average cumulative GDP growth of the last 11 cycles was 24% and we
are currently at 17%. Finally, each of the previous peaks seem to show
how investors are increasingly willing to justify higher valuations. The
market valuations are nowhere near the highs exhibited in 2000 yet we
see technology leading all sectors once again. The strengthening credit
markets will allow companies to continue to make acquisitions and buy
back stock, which engineers higher earnings. The earnings of the S&P
could easily reach $140-150/share by 2019 year-end (which we begin
to look forward to in mid-2018) and at a 20-22 multiple translates into a
3000+ level on the S&P 500 Index. If you are prone to altitude sickness,
grab some oxygen, because most market cycles end with the
crescendo of a speculative blow off top, and in 2020 we could see a 25-
30 multiple on this market, which translates into 4000-5000 on the S&P
500. While it may seem incredulous to most that we reach such levels,
one should never underestimate the irrational exuberance of market
participants. There are trillions of dollars sitting on the sidelines waiting
for the next big correction, which may never come and could explain the
shallow or short corrections we have experienced in the last few years.
As the individual investor begins to feel they are missing out on “easy
money”, similar to the 90’s, they will pile in at the top, which catapults
the markets to the levels aforementioned. We are witnessing the
infancy of the new tech boom with FAANG, IoT, and all of the chips
needed to make this labyrinth of technology seamlessly work. We
would also include biotechnology into the tech boom as it is truly new
groundbreaking technology, but of a different ilk. These fast growing
industries should lead the market higher initially, with sector rotation
occurring later, driven by algorithmic trading and hedge funds adjusting
exposure to the lagging sectors such as industrials, financials and
consumer stocks. This rotation appears to be underway as we write.
While we certainly admit this forecast may be wrong, it is so out of
consensus, it just feels right, as the market likes to inflict the most pain
possible to participants at any given time. Irrespective of such a
fantastic forecast, we will not waver in our search for financially sound,
profitable and growing companies, underlying the philosophy and
process which has served us well for over 31 years.
Stock ratings are provided by Standard & Poor’s and Bank of America Merrill Lynch U.S. Quantitative Strategy. Stock
rankings are assigned to all U.S. equity securities, which have the required 10 years of earnings and dividend history as
required by Standard & Poor’s.
Index returns illustrated do not include reimbursement of distributions. One cannot invest directly in an index.
21
*Actual returns may be more or less than projections
Geneva’s forecast of capital markets total returns – 12 months forward
30-day commercial
paper
2-year Treasury
note
10-year Treasury
note
30-year Treasury
note
S&P 500 at 8.5%
EPS growth
12-month return
potential* 1.30% 0.90% -2.32% -8.32% 7.82%
Level on 9/29/17 1.21% 1.48% 2.33% 2.86% 2,519
Source: Geneva Capital Management, Bloomberg, U.S. Federal Reserve, September 2017.
Investment Outlook
Fourth quarter 2017
22 22
Investment Styles & Risk Aversion
Investors appear to be focusing on high growth, lower quality stocks to maintain performance momentum.
Low Volatility vs. Growth: Difference of MSCI Low Vol Index vs. Russell 1000 Growth Index
Staples vs. Discretionary: Difference of S&P 500 Staples Index vs. S&P 500 Discretionary Index
Quality vs. Growth: Difference of MSCI Quality Index vs. Russell 1000 Growth Index
Low Volatility vs. Growth
-30
-25
-20
-15
-10
-5
0
5
12/1
/201
1
2/1/
2012
4/1/
2012
6/1/
2012
8/1/
2012
10/1
/201
2
12/1
/201
2
2/1/
2013
4/1/
2013
6/1/
2013
8/1/
2013
10/1
/201
3
12/1
/201
3
2/1/
2014
4/1/
2014
6/1/
2014
8/1/
2014
10/1
/201
4
12/1
/201
4
2/1/
2015
4/1/
2015
6/1/
2015
8/1/
2015
10/1
/201
5
12/1
/201
5
2/1/
2016
4/1/
2016
6/1/
2016
8/1/
2016
10/1
/201
6
12/1
/201
6
2/1/
2017
4/1/
2017
6/1/
2017
8/1/
2017
10/1
/201
7
MSCI Low Vol vs R1 Growth
5
0
-5
-10
-15
-20
-25
-30
2011 2012 2013 2014 2015 2016 2017
Consumer Staples vs. Consumer Discretionary
-70
-60
-50
-40
-30
-20
-10
0
10
12/1
/201
1
2/1/
2012
4/1/
2012
6/1/
2012
8/1/
2012
10/1
/201
2
12/1
/201
2
2/1/
2013
4/1/
2013
6/1/
2013
8/1/
2013
10/1
/201
3
12/1
/201
3
2/1/
2014
4/1/
2014
6/1/
2014
8/1/
2014
10/1
/201
4
12/1
/201
4
2/1/
2015
4/1/
2015
6/1/
2015
8/1/
2015
10/1
/201
5
12/1
/201
5
2/1/
2016
4/1/
2016
6/1/
2016
8/1/
2016
10/1
/201
6
12/1
/201
6
2/1/
2017
4/1/
2017
6/1/
2017
8/1/
2017
10/1
/201
7
Staples vs Con Disc
10
0
-10
-20
-30
-40
-50
-60
-70
2011 2012 2013 2014 2015 2016 2017
Quality vs. Growth
-50
-45
-40
-35
-30
-25
-20
-15
-10
-5
0
12/1
/201
1
2/1/
2012
4/1/
2012
6/1/
2012
8/1/
2012
10/1
/201
2
12/1
/201
2
2/1/
2013
4/1/
2013
6/1/
2013
8/1/
2013
10/1
/201
3
12/1
/201
3
2/1/
2014
4/1/
2014
6/1/
2014
8/1/
2014
10/1
/201
4
12/1
/201
4
2/1/
2015
4/1/
2015
6/1/
2015
8/1/
2015
10/1
/201
5
12/1
/201
5
2/1/
2016
4/1/
2016
6/1/
2016
8/1/
2016
10/1
/201
6
12/1
/201
6
2/1/
2017
4/1/
2017
6/1/
2017
8/1/
2017
10/1
/201
7
MSCI Quality vs R1 Growth
0
-5
-10
-15
-20
-25
-30
-35
-40
-45
-50
2011 2012 2013 2014 2015 2016 2017
23 23
Investment Styles & Risk Aversion
Assuming a less accommodative Fed policy, a “risk off” environment would be a distinct benefit to our quality-oriented investment philosophy.
Quality Large Cap Value vs. Growth
Momentum Small Cap Value vs. Growth
Quality: Difference of MSCI Quality Index vs. S&P 500 Index
Large Cap Value vs. Growth: Difference of Russell 1000 Value Index vs. Russell 1000 Growth Index
Momentum: Difference of MSCI Momentum Index vs. S&P 500 Index
Small Cap Value vs. Growth : Difference of Russell 2000 Value Index vs. Russell 2000 Growth Index
-40.0000
-35.0000
-30.0000
-25.0000
-20.0000
-15.0000
-10.0000
-5.0000
0.0000
12/5
/201
1
2/5/
2012
4/5/
2012
6/5/
2012
8/5/
2012
10/5
/201
2
12/5
/201
2
2/5/
2013
4/5/
2013
6/5/
2013
8/5/
2013
10/5
/201
3
12/5
/201
3
2/5/
2014
4/5/
2014
6/5/
2014
8/5/
2014
10/5
/201
4
12/5
/201
4
2/5/
2015
4/5/
2015
6/5/
2015
8/5/
2015
10/5
/201
5
12/5
/201
5
2/5/
2016
4/5/
2016
6/5/
2016
8/5/
2016
10/5
/201
6
12/5
/201
6
2/5/
2017
4/5/
2017
6/5/
2017
8/5/
2017
10/5
/201
7
0
-5
-10
-15
-20
-25
-30
-35
-40
2011 2012 2013 2014 2015 2016 2017
-25.0000
-20.0000
-15.0000
-10.0000
-5.0000
0.0000
5.0000
10.0000
15.0000
20.0000
12/1/2011 12/1/2012 12/1/2013 12/1/2014 12/1/2015 12/1/2016
20
15
10
5
0
-5
-10
-15
-20
-25
2011 2012 2013 2014 2015 2016 2017
0.0000
5.0000
10.0000
15.0000
20.0000
25.0000
30.0000
35.0000
40.0000
12/1
/201
1
2/1/
2012
4/1/
2012
6/1/
2012
8/1/
2012
10/1
/201
2
12/1
/201
2
2/1/
2013
4/1/
2013
6/1/
2013
8/1/
2013
10/1
/201
3
12/1
/201
3
2/1/
2014
4/1/
2014
6/1/
2014
8/1/
2014
10/1
/201
4
12/1
/201
4
2/1/
2015
4/1/
2015
6/1/
2015
8/1/
2015
10/1
/201
5
12/1
/201
5
2/1/
2016
4/1/
2016
6/1/
2016
8/1/
2016
10/1
/201
6
12/1
/201
6
2/1/
2017
4/1/
2017
6/1/
2017
8/1/
2017
10/1
/201
7
MSCI Mo vs SPX
40
35
30
25
20
15
10
5
0
2011 2012 2013 2014 2015 2016 2017
-30.0000
-25.0000
-20.0000
-15.0000
-10.0000
-5.0000
0.0000
5.0000
10.0000
15.0000
20.0000
12/1
/201
1
2/1/
2012
4/1/
2012
6/1/
2012
8/1/
2012
10/1
/201
2
12/1
/201
2
2/1/
2013
4/1/
2013
6/1/
2013
8/1/
2013
10/1
/201
3
12/1
/201
3
2/1/
2014
4/1/
2014
6/1/
2014
8/1/
2014
10/1
/201
4
12/1
/201
4
2/1/
2015
4/1/
2015
6/1/
2015
8/1/
2015
10/1
/201
5
12/1
/201
5
2/1/
2016
4/1/
2016
6/1/
2016
8/1/
2016
10/1
/201
6
12/1
/201
6
2/1/
2017
4/1/
2017
6/1/
2017
8/1/
2017
10/1
/201
7
R2 Value vs R2 Growth
20
15
10
5
0
-5
-10
-15
-20
-25
-30
2011 2012 2013 2014 2015 2016 2017
24 24
Source: Cornerstone Macro Economics as of 9/19/17.
Sector Average NTM
P/E Since 2000
Health Care 16.77
Telecom 16.52
Discretionary 16.34
Technology 15.91
Staples 15.00
Energy 14.65
S&P 500 14.66
Industrials 14.47
Materials 13.80
Utilities 13.04
Financials 11.34
25%
30%
35%
40%
45%
50%
55%
60%
25%
30%
35%
40%
45%
50%
55%
60%
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
19
00
Sector Composition Weight of Cyclical and Stability Sectors
S&P 500 Composition Weight: Cyclical Sectors
(Financials, Industrials, Materials, Energy)
S&P 500 Composition Weight: Growth and Stability Sectors
(Tech, Health Care, REITS, Discretionary)
Index Composition Plays an Outsized Role in
Determining the Level of Market P/E Ratios Sector composition has an enormous influence on the level of the S&P 500’s P/E ratio. Sector and industry mix,
long-term growth trends and U.S. fiscal trends all serve as structural drivers of the market P/E ratio.
1990 1993 1996 1999 2002 2005 2008 2011 2014 2017 2020
25 25
Source: Cornerstone Macro Economics as of 9/25/17
Note: FANG stocks (Facebook, Amazon, Netflix, Google)
Deteriorating Market Breadth Has Weighed on Bullish Sentiment
Investor Sentiment has Declined Alongside
Narrowing Market Breadth
The dramatic outperformance of the FANGs this year is a driving force behind the excess performance
of cap-weighted indices. As FANGs increasingly outperformed the S&P 500, market breadth has waned
over the past year.
45
50
55
60
65
70
75
10
15
20
25
30
35
40
45
50
Jun-16 Aug-16 Oct-16 Dec-16 Feb-17 Apr-17 Jun-17 Aug-17 Oct-17 Dec-17
AAII Bullish Sentiment (L) Market Breadth (% NYSE Stocks Trading Above 200 Day Moving Average,R)
50
AAII Bullish Sentiment (LHS) Market Breadth, % NYSE Stocks Trading Above 200 Day Moving Average (RHS)
45
40
35
30
25
20
15
10
75
70
65
60
55
50
45
Jun-16 Aug-16 Oct-16 Dec-16 Feb-17 Apr-17 Jun-17 Aug-17 Oct-17 Dec-17
Index L
evel
Perc
enta
ge
26 26
70
80
90
100
110
120
130
140
150
160Ja
n-1
6
Fe
b-1
6
Ma
r-1
6
Ap
r-1
6
Ma
y-1
6
Ju
n-1
6
Ju
l-1
6
Au
g-1
6
Sep-1
6
Oct-
16
No
v-1
6
De
c-1
6
Ja
n-1
7
Fe
b-1
7
Ma
r-1
7
Ap
r-1
7
Ma
y-1
7
Ju
n-1
7
Ju
l-1
7
Au
g-1
7
Se
p-1
7
160
150
140
130
120
110
100
90
80
70
Jan-16 Mar-16 May-16 Jul-16 Sep-17 Nov-17 Jan-17 Mar-17 May-17 Jul-17 Sep-17
Source: Cornerstone Macro Economics as of 9/25/17.
FANG Relative S&P 500 (Indexed to 100, 1/1/16)
Can the Tech Giants Be Stopped? – WSJ, 7/14/17
Internet Giants Once Above the Fray, Are on the Defensive in Washington – Reuters, 9/24/17
Are the FANG Stocks Beginning to Roll Over?
A move away from momentum stocks could instill broader market participation.
Company NTM P/E
Facebook 27.9
Amazon 140.2
Netflix 105.7
Google 25.3
S&P 500 17.7
27 27
Source: Strategas Weekend Reader as of 9/25/17.
S&P 500 Index Performance Following Significant Historical Events
Event Date Day Of +20 Days +65 Days +125 Days +250 Days
Germany Invades France 5/10/1940 -3.0% -23.6% -15.0% -3.1% -19.6%
Pearl Harbor 12/7/1941 -3.8% 0.3% -10.5% -5.6% 3.7%
JFK Assassinated 11/22/1963 -2.8% 6.3% 11.8% 15.7% 23.9%
Oil Embargo 10/16/1973 0.1% -5.3% -13.3% -15.0% -35.4%
Pres. Nixon Resigns 8/9/1974 -0.9% -13.8% -7.1% -2.8% 6.7%
Continental Illinois Bailout 5/9/1984 -0.3% -3.2% 3.3% 5.3% 12.4%
1987 Stock Market Crash 10/19/1987 -20.5% 9.7% 8.1% 15.3% 22.4%
Iraq Invades Kuwait 8/2/1990 -1.1% -9.3% -11.3% -3.0% 10.0%
9/11 Terror Attacks 9/11/2001 -4.9% 4.9% 10.0% 12.2% -14.3%
Iraq War 3/20/2003 0.2% 2.0% 12.1% 17.2% 28.3%
Bear Stearns Collapse 3/14/2008 -2.1% 3.1% 4.9% -3.0% -41.7%
Lehman Brothers Collapse 9/15/2008 -4.7% -15.9% -23.4% -36.8% -12.6%
BREXIT 6/24/2016 -3.6% 6.4% 6.0% 11.2% 19.5%
Political and Geopolitical Events Tend to Matter in the
Short Term but are Less Impactful over Longer Periods
Any transitory political events generally create buying opportunities for long term investors.
28 28
Pullbacks During Growth Periods
Investors have become conditioned to assume every stock market selloff aligns with a financial crisis,
however, we have experienced a number of corrections with no corresponding recession.
Source: Bloomberg
S&P 500 Index Double Digit Losses with No Recession
Dates Performance (%) Plus 5 Years (%) Plus 10 Years (%)
1939 -21.24 15.52 43.58
1940 -29.60 59.85 104.93
1941 -22.93 80.40 180.88
1943 -13.05 32.65 121.17
1947 -21.04 55.56 201.96
1962 -26.44 74.72 104.92
1966 -22.18 35.07 39.82
1967 -14.54 27.09 33.77
1971 -13.94 12.30 33.94
1978 -13.55 78.87 187.47
1984 -12.68 124.01 204.97
1987 -33.51 91.85 332.09
1998 -19.34 -1.86 24.89
2002 -33.75 96.00 80.51
2010 -15.99 102.15 —
2011 -19.39 91.02 —
2015 -12.35 — —
Average -20.33 55.86 121.06
29 29
Investments in the U.S. Capital Markets
(1926 – 2016)
Year-end 1925 = $1.00
Small Caps are the Only Asset Class to Outperform
Inflation Every Decade
1925 1935 1945 1955 1965 1975 1985 1995 2005
$100,000
$10,000
$1,000
$100
$10
$1
$0
Small-Cap
Stocks
Gold
Inflation
Source: Strategas, 8/28/17. Small-cap stocks represented by Russell 2000 Index.
Past performance does not guarantee future results or results of any investment product.
30 30
Source: Bloomberg as of 9/26/17
Reduction in S&P 500 companies’ Capital Stock Investment (inverted)
Backing off Buybacks
Buybacks by S&P 500 companies peaked in June 2016 and dropped 14% through the end of August
2017 on a per-share basis. As this trend matures, we anticipate U.S. companies may utilize more of
their excess cash flow to reinvest in R&D, equipment, facilities, etc. rather than financial engineering by
simply buying back stock.
-70
-65
-60
-55
-50
-45
-40
-35
-30
-25
Jan-1
0
Ju
n-1
0
No
v-1
0
Ap
r-1
1
Se
p-1
1
Fe
b-1
2
Ju
l-1
2
De
c-1
2
Ma
y-1
3
Oct-
13
Ma
r-1
4
Aug-1
4
Ja
n-1
5
Ju
n-1
5
No
v-1
5
Ap
r-1
6
Sep-1
6
Fe
b-1
7
Ju
l-1
7
Jan-10 Nov-10 Sep-11 Jul-12 May-13 Mar-14 Jan-15 Nov-15 Sep-16 Jul-17
-70
-65
-60
-55
-50
-45
-40
-35
-30
-25
U.S
. d
olla
rs p
er
S&
P 5
00
sh
are
31 31
Piling Up the Dry Powder
Investors are pouring money into private equity in search of higher returns in a low return environment,
driving near-record fundraising levels and speeding up the pace of inflows. More dollars chasing fewer
deals creates a recipe for disappointing returns.
Source: Preqin Ltd., Bloomberg as of 9/1/17
Uninvested Funds Committed Globally to Private Equity Firms, Year End
2000 2005 2010 2015
200
400
600
800
$1,000 billion
32 32
Passive Penetration by Domicile & Asset Class
Passive Ownership: Opportunity for Active Managers?
Given the unprecedented level of investor participation in ETFs, we would pose one question:
What happens when there is a market panic and everyone wants to sell?
38%
22%20%
9%
34%
16%15%
5%
8%
2%
12%
6%
0%
5%
10%
15%
20%
25%
30%
35%
40%
U.S. Equity U.S. Bond Non-U.S.Equity
Non-U.S. Bond Total U.S. Total Non-U.S.
2016
2004
Source: Strategic Insight Simfund.
33 33
Annual Disclosure Presentation
US Small Cap Growth
Page 1 of 2
Compliance Statement
Geneva Capital Management claims compliance with the Global Investment Performance Standards (GIPS®) and has prepared and presented this report in compliance with the
GIPS standards. Geneva Capital Management has been independently verified for the periods January 1, 1993 through June 30, 2017.
Verification assesses whether (1) the firm has complied with all the composite construction requirements of the GIPS standards on a firm-wide basis and (2) the firm's policies and
procedures are designed to calculate and present performance in compliance with the GIPS standards. The US Small Cap Growth composite has been examined for the periods
January 1, 1999 through June 30, 2017. The verification and performance examination reports are available upon request.
The Firm
Geneva Capital Management LLC (formally known as Henderson Geneva Capital Management) is a registered investment adviser. On October 1, 2014 Geneva Capital
Management LLC became a wholly owned subsidiary of Henderson Global Investors (North America) Inc.
Annual Performance Results 3-year Ex-Post Standard Deviation
Total Firm Composite
Year
End
Assets
USD (millions)
Assets
USD (millions) Number of
Accounts
Composite
Gross
Composite
Net
Russell 2000®
Growth Russell 2000®
Composite
Dispersion Composite
Russell 2000®
Growth
Russell
2000®
2016 5,327 1,982 47 11.84% 11.17% 11.32% 21.31% 0.1% 13.08% 16.67% 15.76%
2015 4,682 1,101 36 11.66% 10.93% -1.38% -4.41% 0.2% 12.33% 14.95% 13.96%
2014 4,892 882 37 -1.77% -2.41% 5.60% 4.89% 0.1% 11.40% 13.82% 13.12%
2013 6,695 1,011 36 45.18% 44.41% 43.30% 38.82% 0.4% 13.70% 17.27% 16.45%
2012 3,774 288 21 17.76% 17.15% 14.59% 16.35% 0.2% 17.39% 20.72% 20.20%
2011 2,609 173 14 1.44% 0.95% -2.91% -4.18% 0.2% 22.15% 24.31% 24.99%
2010 1,872 110 8 38.02% 37.39% 29.09% 26.85% 0.4%
3-year Ex-Post Standard Deviation
Not required Prior to 2011
2009 1,393 45 6 23.75% 23.22% 34.47% 27.17% N.A.
2008 979 28 Five or fewer -33.18% -33.49% -38.54% -33.79% N.A.
2007 1,579 9 Five or fewer 14.15% 13.69% 7.05% -1.57% N.A.
2006 1,355 6 Five or fewer 6.31% 5.90% 13.35% 18.37% N.A.
2005 1,073 5 Five or fewer 15.85% 15.39% 4.15% 4.55% N.A.
2004 815 4 Five or fewer 22.72% 22.22% 14.31% 18.33% N.A.
2003 693 3 Five or fewer 33.43% 32.89% 48.54% 47.25% N.A.
2002 531 2 Five or fewer -14.40% -14.71% -30.26% -20.48% N.A.
2001 537 1 Five or fewer 4.15% 3.67% -9.23% 2.49% N.A.
2000 514 1 Five or fewer 2.77% 2.30% -22.43% -3.02% N.A.
1999 470 1 Five or fewer 7.50% 7.13% 43.09% 21.26% N.A.
N.A. - Information is not statistically meaningful due to an insufficient number of portfolios in the composite for the entire year.
34 34
Annual Disclosure Presentation
Page 2 of 2
Composite Description
The US Small Cap Growth composite contains fully discretionary equity accounts invested in approximately 50-60 small capitalization growth securities whose market capitalization
ranges generally fall between $250 million to $2 billion at the time of purchase. Securities are selected using a “bottom-up” fundamental analysis of the company and supplemented
by “top-down” considerations of economic conditions. Prior to September 30, 2015, the composite was named Geneva Smallcap Composite. There is no minimum account size for
this composite. Prior to January 1, 2006, the minimum account size was $500,000. From January 1, 2004 through December 31, 2005, accounts were removed from the composite if
they fell more than 20% below the minimum account size. Beginning July 1, 2008, composite policy requires the temporary removal of any portfolio incurring a client initiated
significant cash inflow or outflow of 30% portfolio assets or greater. The temporary removal of such an account occurs at the beginning of the month in which the significant cash flow
occurs and the account re-enters the composite the last day of the month in which the cash flow takes place.
Composite Benchmark
For comparison purposes, the US Small Cap Growth composite is measured against the primary index Russell 2000® Growth Index and secondary Russell 2000® Index. The Russell
2000® Growth Index measures the performance of the small-cap growth segment of the US equity universe. It includes those Russell 2000® Index companies with higher price-to-
value ratios and higher forecasted growth values (Source: http://www.russell.com). The Russell 2000® Index measures the performance of the small-cap segment of the US equity
universe. The Russell 2000® is a subset of the Russell 3000® Index representing approximately 10% of the total market capitalization of that index. It includes approximately 2000 of
the smallest securities based on a combination of their market cap and current index membership (Source: http://www.russell.com). Performance results in presentations prior to
January 1, 2002 were measured against the S&P® 600 Index. From January 1, 2002 through January 1, 2008 performance results were primarily measured against the Russell
2000® Index. The benchmark was changed to be more representative of the composite strategy and style. Information regarding the S&P 600® Index is available upon request.
Fee Information
The annual fee schedule is 100 bps (1.00%) on the first $50 million, 90 bps (0.90%) on $50 to $100 million, and 80 bps (0.80%) on the balance over $100 million. Actual investment
advisory fees incurred by clients may vary.
Basis of Returns
Results are based on fully discretionary accounts under management, including those accounts no longer with the firm. Returns are presented gross and net of management fees
and include the reinvestment of all income. Net of fee performance was calculated using actual management fees. Prior to January 1, 2000, net returns were calculated using the
highest fee per the fee schedule in the ADV which was 1.0%. Past performance is not indicative of future results.
Composite Dispersion
The annual composite dispersion presented is an asset-weighted standard deviation calculated for the accounts in the composite the entire year.
GIPS Policies and Procedures
The Firm maintains a complete list of composite descriptions, which is available upon request. Policies for valuing portfolios, calculating performance, and preparing compliant
presentations are available upon request.
Composite Creation Date
The US Small Cap Growth composite creation date is January 1, 1999.
Composite Currency
The US Dollar is the currency used to express performance.
35 35
Annual Disclosure Presentation
US Mid Cap Growth
Page 1 of 2
Compliance Statement
Geneva Capital Management claims compliance with the Global Investment Performance Standards (GIPS®) and has prepared and presented this report in compliance with the GIPS®
standards. Geneva Capital Management has been independently verified for the periods January 1, 1993 through June 30, 2017.
Verification assesses whether (1) the firm has complied with all the composite construction requirements of the GIPS® standards on a firm-wide basis and (2) the firm’s policies and
procedures are designed to calculate and present performance in compliance with the GIPS® standards. The US Midcap Growth composite has been examined for the periods January
1, 1993 through June 30, 2017. The verification and performance examination reports are available upon request.
The Firm
Geneva Capital Management LLC (formally known as Henderson Geneva Capital Management) is a registered investment adviser. On October 1, 2014 Geneva Capital Management
LLC became a wholly owned subsidiary of Henderson Global Investors (North America) Inc.
Annual Performance Results 3-year Ex Post Standard Deviation
Total Firm Composite
Year
End
Assets
USD
(millions)
Assets
USD
(millions) Number of
Accounts
Composite
Gross Composite Net
Russell
Midcap®
Growth Russell
Midcap®
Composite
Dispersion Composite
Russell
Midcap®
Growth Russell
Midcap®
2016 5,327 2,299 108 3.08% 2.61% 7.33% 13.80% 0.2% 11.41% 12.18% 11.55%
2015 4,682 2,807 111 4.54% 4.08% -0.20% -2.44% 0.1% 11.13% 11.31% 10.85%
2014 4,892 3,247 128 5.90% 5.44% 11.90% 13.22% 0.2% 10.56% 10.87% 10.14%
2013 6,695 4,896 190 32.00% 31.46% 35.74% 34.76% 0.1% 13.69% 14.62% 14.03%
2012 3,774 2,860 168 11.51% 11.03% 15.81% 17.28% 0.2% 16.62% 17.91% 17.20%
2011 2,609 1,958 140 4.19% 3.73% -1.65% -1.55% 0.2% 18.86% 20.82% 21.55%
2010 1,872 1,297 119 30.83% 30.25% 26.38% 25.48% 0.4%
3-year Ex-Post Standard Deviation
Not required Prior to 2011
2009 1,393 928 96 36.89% 36.28% 46.29% 40.48% 0.4%
2008 979 618 96 -35.54% -35.86% -44.32% -41.46% 0.3%
2007 1,579 1,061 92 17.00% 16.50% 11.43% 5.60% 0.2%
2006 1,355 794 89 5.62% 5.15% 10.66% 15.26% 0.2%
2005 1,073 581 70 15.84% 15.39% 12.10% 12.65% 0.4%
2004 815 399 38 20.92% 20.47% 15.48% 20.22% 0.2%
2003 693 340 34 26.55% 26.10% 42.71% 40.06% 0.3%
2002 531 229 24 -14.05% -14.36% -27.41% -16.19% 0.4%
2001 537 244 24 -3.84% -4.18% -20.15% -5.62% 0.3%
2000 514 212 16 13.36% 13.00% -11.75% 8.25% 0.6%
1999 470 286 56 14.29% 13.19% 51.29% 18.23% 4.1%
1998 380 206 53 28.77% 27.56% 17.86% 10.09% 1.9%
1997 259 135 36 25.03% 23.85% 22.54% 29.01% 2.7%
1996 214 90 34 27.40% 26.20% 17.48% 19.00% 1.7%
1995 195 73 32 28.40% 27.20% 33.98% 34.45% 2.9%
1994 133 53 28 -0.50% -1.50% -2.16% -2.09% 1.3%
1993 120 28 26 5.02% 3.99% 11.19% 14.30% 1.6%
36 36
Annual Disclosure Presentation
Page 2 of 2
Composite Description
The US Mid Cap Growth composite contains fully discretionary equity accounts invested in approximately 50-60 mid capitalization growth securities whose market capitalization
ranges generally fall between $1 billion to $10 billion at the time of purchase. Securities are selected using a “bottom-up” fundamental analysis of the company and supplemented by
“top-down” considerations of economic conditions. Prior to January 1, 2006, the composite was named Geneva Growth. Between January 1, 2006 and September 30, 2015 the
composite was named Geneva Midcap Growth Composite. The minimum account size for this composite is $500,000. As of January 1, 2004 accounts are removed annually if they
fall more than 20% below the minimum account size. Beginning January 1, 2006, composite policy requires the temporary removal of any portfolio incurring a client initiated
significant cash inflow or outflow of 30% portfolio assets or greater. The temporary removal of such an account occurs at the beginning of the month in which the significant cash flow
occurs and the account re-enters the composite the last day of the month in which the cash flow takes place. Prior to January 1, 2000, balanced portfolio segments were included in
this composite and performance reflects required total segment plus cash returns using a predetermined cash allocation percentage.
Composite Benchmark
For comparison purposes, the US Mid Cap Growth composite is measured against primary index Russell Midcap® Growth Index and secondary Russell Midcap® Index. The Russell
Midcap® Growth Index measures the performance of the mid-cap growth segment of the US equity universe. It includes those Russell Midcap® Index companies with higher price-to-
book ratios and higher forecasted growth values (Source: http://www.russell.com). The Russell Midcap® Index measures the performance of the mid-cap segment of the US equity
universe. The Russell Midcap® is a subset of the Russell 1000® Index. It includes approximately 800 of the smallest securities based on a combination of their market cap and current
index membership. The Russell Midcap® represents approximately 31% of the total market capitalization of the Russell 1000® companies (Source: http://www.russell.com).
Performance results in presentations prior to January 1, 2002 were measured against the S&P® 400. From January 1, 2002 through January 1, 2008 performance results were
primarily measured against the Russell Midcap® Index. The benchmark was changed to be more representative of the composite strategy and style. Information regarding the S&P
400® Index is available upon request.
Fee Information
The annual fee schedule for institutional clients is 75bps (0.75%) on the first $100 million, 60bps (0.60%) on the balance over $100 million. The annual fee schedule for retail clients is
100 bps (1.00%) on the first $1.5 million, 85 bps (0.85%) on the next $8.5 million, and 70 bps (0.70%) on the balance over $10 million. Actual investment advisory fees incurred by
clients may vary.
Basis of Returns
Results are based on fully discretionary accounts under management, including those accounts no longer with the firm. Returns are presented gross and net of management fees
and include the reinvestment of all income. Net of fee performance was calculated using actual management fees. Prior to January 1, 2000, net returns were calculated using the
highest fee per the fee schedule in the ADV which was 1.0%.Past performance is not indicative of future results.
Composite Dispersion
The annual composite dispersion presented is an asset-weighted standard deviation calculated for the accounts in the composite the entire year.
GIPS Policies and Procedures
The Firm maintains a complete list of composite descriptions, which is available upon request. Policies for valuing portfolios, calculating performance, and preparing compliant
presentations are available upon request.
Composite Creation Date
The US Mid Cap Growth composite creation date is January 1, 1988.
Composite Currency
The US Dollar is the currency used to express performance.
37 37
Economic and Investment Outlook
Geneva Capital Management (or “Firm”) prepares an Economic and Investment Outlook (“EIO”) on a quarterly basis. The purpose of the EIO is to communicate
the views and opinions held by the Firm’s Investment Team (“the Team") at a particular time regarding current and future economic and market trends. The views
expressed in the EIO may change as new information becomes available to the Team. Clients and prospects of the Firm may receive the EIO as a reference for
understanding the Firm’s intermediate and long-term outlook. This process has been in place since the inception of the Firm.
The EIO includes commentary, charts and graphs that are produced either internally or sourced from outside research organizations. The Firm carefully reviews all
external source material used in the EIO and believes the information to be reliable; however, we cannot guarantee the accuracy or completeness of external data.
Views expressed in the EIO should not be interpreted as a recommendation to buy or sell a particular security or type of securities and any forward looking views
or statements may not come to pass. Current and prospective clients may obtain additional information about the Firm in our Form ADV brochure. A copy is
available upon request.
Geneva Capital Management
100 E. Wisconsin Avenue
Suite 2550
Milwaukee, WI 53202
Telephone: (414) 224-6002
Fax: (414) 224-9503
www.genevacap.com
Important information
Advisory services provided by Geneva Capital Management LLC, an SEC registered investment adviser. Geneva Capital Management LLC is an indirect wholly
owned subsidiary of Henderson Global Investors (North America) Inc. ("HGINA"), HGINA is an indirect wholly owned subsidiary of Janus Henderson Group plc, the
ultimate parent of the global asset management group, Janus Henderson Investors.
All investments involve risk, including loss of principal. Past performance is no guarantee of future results. Institutional separate accounts are subject to applicable
account minimums. The value of an investment and the income from it can fall as well as rise and you may not get back the amount originally invested. Geneva
does not consider tax implications when making investment decisions, the strategy is generally tax efficient due to Geneva's low turnover rate. Geneva will take
specific steps to achieve tax efficiency if directed by the client. Nothing in this document is intended to or should be construed as advice. This document is not a
recommendation to sell or purchase any investment.
On occasion, we may utilize a broad-based, benchmark representatives ETF to gain exposure to a strategies market. We will do so in instances where we are
managing the cadence of direct investment opportunities or during times of market volatility. Any ETF holding will not account for more than a 5% holding and we
envision using ETFs only opportunistically and on a limited basis as investments in ETFs are subject to fund management fees.
Statement of Purpose
Fees are billed or charged to the account in arrears, at one quarter of the annual rate, on a quarterly basis or as applicable based on the
average month-end values for each of the three months comprising a quarter. Actual investment advisory fees incurred by clients may vary.
C-1017-13381 01-30-18 699-44-411667 10-17
