58
Morningstar ® Markets Observer 1st Quarter 2015 Data as of December 31, 2014
Morningstar®
Markets Observer1st Quarter 2015Data as of December 31, 2014
Table of Contents
Market Overview 4
Economic Indicators 13
Funds 37
Equities 45
Fixed Income 53
Robert Johnson, CFA — Director of Economic Analysis
Timothy Strauts — Markets Research Manager
Alina Tarlea — Senior Markets Research Analyst
Roland Czerniawski — Markets Research Analyst
Summer Bornman — Senior Production Designer
Morningstar® Markets Research Team
Mar
ket O
verv
iew
QMO5
Equities
S&P 500
Russell 2000
MSCI EAFE
MSCI Emerging Markets
12 Mo. Yield
U.S. Aggregate
U.S. Corporates
High Yield
Municipals
Emerging Markets
1.8
1.3
3.7
2.9
2.3
3.3
6.9
2.1
5.6
Bloomberg Commodity
Morningstar Commodity
YTD
13.7
4.9
–4.9
–2.2
6.0
7.3
2.5
9.1
7.4
–17.0
–24.4
3 Mo
1.8
1.5
–1.1
1.4
–0.6
–12.1
–18.7
4.9
9.7
–3.6
–4.5
1 Yr
6.0
7.3
2.5
9.1
7.4
–17.0
–24.4
13.7
4.9
–4.9
–2.2
3 Yrs
2.7
5.6
8.4
4.3
6.1
–9.4
–9.0
20.4
19.2
11.1
4.0
5 Yrs
4.4
7.1
8.9
5.2
7.6
–5.5
–2.5
15.5
15.5
5.3
1.8
Return (%)
Broad Commodities
Fixed Income Curr. Yield
P/E
18.6
21.5
16.3
12.8
Brent Crude Oil
Gold
P/B
2.7
2.2
1.6
1.5
110.7
1,204.5
P/S P/C
Fundamental Measures
Interest Rates
Commodities
2 Yr Treasury
5 Yr Treasury
10 Yr Treasury
20 Yr Treasury
Prime Rate
Current
57.3
1,206.0
1.8
1.3
1.0
1.2
0.7
1.7
2.2
2.8
3.3
1 Yr Ago
11.5
11.5
8.8
7.2
0.4
1.8
3.0
4.0
3.3
Return (%)
> 20
10 to 20
0 to 10
–10 to 0
–20 to –10
< –20
5–Year ReturnValue Blend Growth
Sm
all
Mid
Larg
e
13.3 16.7 15.4
17.0 18.6 16.3
16.9 15.9 16.7
Return (%)
> 20
10 to 20
0 to 10
–10 to 0
–20 to –10
< –20
1–Year ReturnValue Blend Growth
Sm
all
Mid
Larg
e
9.2 17.1 14.4
11.5 15.9 9.8
10.0 8.2 2.5
3–Month ReturnValue Blend Growth
Sm
all
Mid
Larg
e
2.2 7.8 4.3
4.8 6.8 5.3
9.5 7.6 7.3
Return (%)
> 8
4 to 8
0 to 4
–4 to 0
–8 to –4
< –8
Market DashboardAll nine Morningstar Style Box categories posted positive returns over all time periods shown. International developed and emerging markets haven’t fared as well. For all the talk about rising interest rates, all Treasury rates except the very short-term 2-year have declined. Oil prices have fallen by more than 50%, with far-reaching consequences across the entire global economic landscape.
Source: Morningstar Direct. U.S. Aggregate—Barclays U.S. Aggregate Bond Total Return, U.S. Corporates—Barclays U.S. Corporate 5-10 Year Total Return, High Yield—Bank of Ameri-ca Merrill Lynch U.S. High Yield Master II Total Return, Municipals—Barclays Municipal Total Return, Fidex Income Emerging Markets—JPMorgan EMBI Global Diversified Total Return, Gold—London Fix Gold PM Price Return. © 2015 Morningstar. All Rights Reserved. 5
1930’s 1940’s 1950’s 1960’s 1970’s 1980’s 1990’s 2000’s
0.1
1
10
5
Gray bars represent recessions
35 10
151 months
9 21 18
3749
1650.9%36.2%
44 months193.3% total return34.1% annualized
34 months–83.4%
6–21.8%
6–22.3% 19
–29.3%21–42.6%
3 –29.6%
25–44.7% 16
–50.9%
6785.9%11.7%
2124.0%13.1%
1214.6%14.6%
3355.1%17.3%
181 months
935.8%
16.8%
146697.7%18.6%
134434.5%16.2%
135523.2%17.7%
An Expansion measures subsequent market performance
from the end of the recovery until it reaches the next peak
level before another 20% decline.
A Recovery is represented as the number of months
from the bottom of a contraction to when the
market reaches the level of its previous peak again.
A Downturn is defined by a decline in the
stock market from its peak by 20% or more.
QMO6
U.S. Market Downturns, Recoveries, and ExpansionsThere have been 8 market downturns since 1926, the most severe one being, without doubt, the Great Depression. More recently, during the “lost decade,” two consecutive downturns with little to no expansion all but discouraged U.S. investors. However, the market returned an impressive 55.1% since the expansion started in March 2012 and, as the chart illustrates, there is ample potential for future growth.
Source: Stocks—Ibbotson Associates SBBI U.S. Large Stock Index. © 2015 Morningstar. All Rights Reserved.
6
Jan 2014 Apr 2014 Jul 2014 Oct 2014
• Developed-markets stocks • U.S. bonds• U.S. stocks • Commodities• Emerging-markets stocks
–25
–20
–15
–10
–5
0
5
10
15
20% Return
QMO1
Trailing 12-Month Performance of Major Asset ClassesDespite increased volatility, U.S. stocks performed well over the past year, substantially outperforming all other asset classes. Commodities posted a substantial loss over the last six months, as oil prices registered a dramatic decline. International developed- and emerging-markets stocks also began declining toward the end of the year because of a very strong U.S. dollar and global growth concerns.
Source: U.S. stocks—Morningstar U.S. Market Index. Developed-markets stocks—Morningstar Developed Markets ex-U.S. Index. Emerging-markets stocks—Morningstar Emerging Markets Index. U.S. bonds—Morningstar Core Bond Index. Commodities—Morningstar Long-Only Commodity Index. © 2015 Morningstar. All Rights Reserved.
7
QMO4
–2.3
9.0
8.8
–12.5
7.4
8.2
U.S. Market
Basic Materials
Cons. Cyclical
Cons. Defensive
Energy
Financial Services
Health Care
Industrials
Real Estate
Technology
Utilities
–15% Return –10 –5 0 105 15 20 25 3530
7.0
4.6
8.6
16.8
25.9
11.6
9.3
28.7
19.0
27.3
–8.8
12.9
4.5
13.2
• Trailing quarter
• Trailing 1 year12.95.1
U.S. Sector PerformanceAs oil prices dropped, the energy sector posted a large negative return for both the fourth quarter and the entire year 2014. On the positive side, defensive sectors such as real estate, utilities, and health care provided robust returns. Some of the reasons why these sectors per-formed well include lower interest rates, low commodity prices, and aging baby-boomer demand for medical services.
Source: Morningstar Sector Indexes. © 2015 Morningstar. All Rights Reserved.
8
Europe
ex UK
UK Asia
ex Japan
Japan Developed
International
Middle East
& Africa
EM Asia Latin
America
Eastern
Europe
Emerging
Markets
Emerging MarketsDeveloped Markets
–30
–25
–20
–15
–10
–5
10% Return
0
5
QMO3
–2.1
–0.5
–13.2
• Trailing quarter
–19.5
–4.1
2.3
–2.0–3.5
• Trailing 1 year
–28.2
6.6
–6.8
–3.1
–12.7
–1.0
–1.8
–5.2
5.3
–4.5 –3.7 –4.3
International Stock Market PerformanceAfter a strong first half of the year, both emerging and developed markets turned negative as 2014 drew to a close as the U.S. dollar stength-ened, Russia entered a recession, China growth slowed, and worries over Europe lingered. Lower oil prices and the European Central Bank’s quantitative easing program should help developed markets going forward, but international growth prospects remain muted.
Source: Morningstar Indexes. © 2015 Morningstar. All Rights Reserved.
9
QHF1
Derivatives
Relative Value
Event
Directional
equity/debt
Morningstar MSCI Composite AW
Multistrategy
Global macro
Volatility
Systematic futures
Currency
Equity market neutral
Debt arbitrage
Convertible arbitrage
Diversified arbitrage
Merger arbitrage
Event driven
Distressed securities
Long/short debt
Asia/Pacific long/short equity
EM long/short equity
Europe long/short equity
U.S. small cap long/short equity
U.S. long/short equity
Global long/short equity
• Trailing quarter • Trailing 1 year
–15% –10 –5 0 5 10 15
1.1
–2.6
–0.1
–7.7
6.4
1.7
–1.7
–1.1
–8.0
–0.8
–2.6
–4.6
–5.5
–3.3
–3.0
–3.2
–2.5
–6.6
–4.2
–3.8
–5.7
2.2
6.9
0.9
–11.4
2.6
2.8
2.4
5.7
–0.9
–0.1
0.1
0.8
0.0
2.5
–1.9
–2.2
2.3
0.8
10.6
Hedge Fund Category ReturnsMost hedge-fund categories performed poorly in the fourth quarter. Systematic futures was the winner for the quarter and for the year, as this strategy probably took advantage of oil price volatility to boost returns. Despite increased volatility in both U.S. and global markets, it seems most hedge funds were not able to capitalize on available opportunities.
Source: Morningstar Hedge Fund Database. Category returns as of November 2014. © 2015 Morningstar. All Rights Reserved.
10
QAA1
Lowest
return
Highest
return
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
Entire
Period
42.2%
12.3
9.7
7.7
–5.9
–10.7
–11.4
–36.0
10.8
8.5
5.3
5.3
3.8
–15.1
–20.5
–23.1
34.0
13.5
11.1
–1.4
–3.8
–13.8
–20.4
–23.5
52.4
47.7
41.2
29.0
27.0
24.7
7.9
2.7
24.8
21.7
20.4
17.6
11.1
9.5
4.9
3.0
33.9
25.5
15.3
5.8
4.9
2.7
1.1
0.7
35.6
25.1
17.0
15.9
11.8
4.9
3.6
–0.2
38.3
31.8
12.1
10.3
6.7
6.0
1.9
–0.7
14.1
–3.2
–26.2
–33.8
–36.1
–36.2
–43.4
–53.2
79.6
58.2
37.7
35.2
24.8
20.9
19.5
–1.4
28.4
23.6
21.1
15.1
13.4
11.2
8.5
7.1
9.4
5.2
5.0
2.6
–2.6
–5.3
–12.0
–18.8
19.0
17.4
16.5
16.0
15.8
11.2
3.7
2.5
37.9
31.8
22.0
7.4
0.6
–1.8
–2.7
–3.7
2014
13.6
6.9
4.5
3.9
2.5
–0.8
–3.9
–24.4
9.2
7.5
7.4
6.7
6.3
5.7
3.8
3.5
• Intermediate-term government bonds
• Intermediate-term corporate bonds
• International-developed stocks
• Emerging-market stocks
• High-yield bonds
• Commodities• Large stocks
• Small stocks
Asset-Class Winners and LosersIn 2013, U.S. and international developed-market equities crushed all other investment categories. In 2014, U.S. stocks, both large and small, delivered decent returns, although nowhere near their previous-year highs. International developed and emerging stocks suffered along with commodities, as plunging oil prices and currency devaluation drove investors away from these riskier assets.
Source: Small stocks—Morningstar Small Cap Index. Large stocks—Morningstar Large Cap Index. International-developed stocks—Morningstar Developed Mkts ex-U.S. Index. Emerg-ing-market stocks—Morningstar Emerging Mkts Index. Intermediate-term govt bonds—Morningstar Interm. U.S. Govt Bond Index. Intermediate-term corp. bonds—Morningstar Interm. Corp. Bond Index. High-yield bonds—Barclays U.S. High Yield Corp. Bond Index. Commodities—Morningstar Long-Only Commodity Index. © 2015 Morningstar. All Rights Reserved. 11
0
5
10
15% Return
Conservative Moderate Aggressive
80%
20%
50% 50%
80%
20%
• U.S. stocks • U.S. bonds
Last quarter 5 year1 year 3 year
• Moderate portfolio
QAA2
• Conservative portfolio
• Aggressive portfolio
Performance of Risk-Based PortfoliosStrong stock market performance has caused the aggressive portfolio to significantly improve upon the return of the conservative portfolio over 3- and 5-year time periods. However, the rewards for taking more risk may not always be as apparent in the short run: The conservative portfolio actually posted higher last-quarter and 1-year returns.
Source: Stocks—Morningstar Global Total Return Index. Bonds—Morningstar Core Bond Total Return Index. Returns for periods longer than 1 year are annualized. Portfolios are rebal-anced annually. © 2015 Morningstar. All Rights Reserved.
12
Econ
omic
Indi
cato
rs
2011 2012 2013 2014 2015* 2016*
Euro area
Japan
Australia
Brazil
Russia
India
China
Canada
United States
Advanced
Emerging
World
1.6
–0.5
2.6
2.7
4.3
6.6
9.3
2.5
1.6
1.7
6.2
4.1
% –0.7
1.5
3.6
1.0
3.4
4.7
7.7
1.7
2.3
1.2
5.1
3.4
–0.4
1.5
2.3
2.5
1.3
5.0
7.7
2.0
2.2
1.4
4.7
3.3
0.8
0.9
2.8
0.3
0.2
5.6
7.4
2.3
2.2
1.8
4.4
3.3
1.2
0.6
2.9
0.3
–3.0
6.3
6.8
2.3
3.6
2.4
4.3
3.5
1.4
0.8
3.0
1.5
–1.0
6.5
6.3
2.1
3.3
2.4
4.7
3.7
*These figures are IMF estimates
World GDP Growth Rates
QEI16
U.S. Shines as World Growth Rates Slashed AgainThe IMF has been consistently too optimistic about world growth rates over the past 5 years. A slowing Chinese growth engine, unfavorable demographics, and falling commodity prices have all contributed to the missed forecasts. The most recent forecast shows the world economy stuck in a growth rut, which would have been even worse without an accelerating U.S. economy.
Source: International Monetary Fund, World Economic Outlook Database. © 2015 Morningstar. All Rights Reserved.
14
GDP Breakdown: $16205.6 billion
–2.7% Net Exports
67.9% Consumption
17.0% Investment
18.0% Government
GDP Growth Contributions : 5.0% total growth
0.8% Government
1.2% Investment
2.2% Consumption
0.8% Net Exports
Mar 2012 Jun Sep Dec Mar 2013 Jun Sep Dec Mar 2014 Jun Sep–2
5%
4
3
2
0
1
–1
Quarterly Annualized GDP Growth
QEI7
Q3 2014
5.0% Growth
U.S. Real GDP Sustains Its Rapid Growth in the Third QuarterAfter a sizable second-quarter bounceback, the U.S. economy continued its rapid growth in the third quarter, expanding at an annualized rate of 5.0%. Consumer spending was the biggest contributor to the third quarter growth, followed by nonresidential business investment. Despite the acceleration in the second and third quarter, the 2014 full-year GDP growth is still expected to fall between 2.3–2.5%.
Source: Bureau of Economic Analysis, Morningstar Calculations. Percentage breakdowns might not add up to their totals due to rounding differences. © 2015 Morningstar. All Rights Reserved.
15
2001 2003 2005 2007 2009 2011 2013
• Quits• Job openings • Hires
1,000
2,000
3,000
4,000
5,000
6,000
Job Openings, Quits, and Hires, Seasonally Adjusted, Thousands of Workers
QEI26
Job Openings Continue to RiseThere were 5 million job openings as of November 2014, the second highest level in the 14-year-old history of the report. The level of net openings has increased by over a million, or more than 20%, between December 2013 and November 2014. This reinforces our thesis that the labor market is tightening, with a lower supply of workers relative to the number of jobs available.
Source: Bureau of Labor Statistics. © 2015 Morningstar. All Rights Reserved.
16
Since 1980
4%
–6
–4
0
2
–2
4
6%
–6
2010 2011 2013 20142012
Employment Growth Since 2010, Year-Over-Year, 3-Month Average
1980 1984 1988 1992 1996 2000 2004 2008 2012
2
0
–4
2
• Total nonfarm• Private sector
QEI13
Year-Over-Year Employment Growth Picks UpThe employment growth accelerated in the fourth quarter, with an average of 289 thousand new jobs added each month. As a result, the year-over-year 3-month average growth rate widened to 2.0% at year-end. Excluding the poorly performing government sector, the year-over-year average private sector growth sped up to 2.4%, the fastest pace of private job creation since early 2012.
Source: Bureau of Labor Statistics, Morningstar Calculations. © 2015 Morningstar. All Rights Reserved.
17
–8
–4
0
4
8%
Year-Over-Year Change, 3-Month Average
2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
Recession
• Consumption• Wages • Disposable income
QEI3
As Wages and Incomes Edge Higher, Consumer Spending Will FollowIncreased employment and higher wages are finally driving consumption up. With accelerating employment data and low gasoline prices, consumption growth could move even higher. Consumption is the biggest driver of the U.S. economy.
Source: Bureau of Economic Analysis, Morningstar Calculations. © 2015 Morningstar. All Rights Reserved.
18
–4
0
4
8
12
16%
1955
Average = 3.6%
Consumer Price Index, Year-Over-Year Change, 3-Month Average
1961 1967 1973 1979 1985 1991 1997 2003 2009
0 25¢ 50¢ 75¢ $1
2003
1983
1993
Inflation-Adjusted Value, Today, of $1 From…
Gray bars represent recessions
QEI5
Inflation Rate Declines Amid Low Commodity Prices, Slower World Growth RatesDespite the pick up in overall U.S. economic activity, the year-over-year 3-month average inflation rate ticked down to 1.2% in December. The slower inflation rate is due to the collapse in oil prices and a slower world-wide demand for commodities. As low oil and gasoline prices persist, the annual inflation rate is expected to turn temporarily negative in 2015.
Source: Bureau of Labor Statistics, The National Bureau of Economic Research, Morningstar Calculations. © 2015 Morningstar. All Rights Reserved.
19
100%
80
60
40
20
0
–20
–40
–60
–80
–100
2010 2011 2012 2013 2014
QC3
Trailing QuarterTotal Return (%) Trailing Year
Energy
Livestock
Precious metals
Industrial metals
Grains
–36.6
–5.3
–3.9
–6.2
16.7
–39.4
11.6
–6.7
–6.9
–9.4
Commodity Prices Fall Amid Slowing Economies WorldwideOutside of the livestock category, global commodity prices have fallen yet again in 2014. As world-wide growth and China in particular con-tinue to slow down, the demand for commodities, especially energy and industrial metals, suffers.
Source: Morningstar Direct. Data represented by Bloomberg Commodity Indexes. © 2015 Morningstar. All Rights Reserved.
20
Jan 2014 Feb 2014 Mar 2014 Apr 2014 May 2014 Jun 2014 Jul 2014 Aug 2014 Sep 2014 Oct 2014 Nov 2014 Dec 2014
•Russian stocks •Russian bonds•Crude oil • Ruble
–60
–50
0
–40
–30
–20
–10
10%Return
QEI29
$1 buys 33 Rubles
Russia invades Crimearegion of Ukraine
Crimea votes to join Russian Federation
U.S. sanctions ban business transactions for certain Russian companies
Oil peaks at $115
Malaysia AirlinesFlight 17 shot down
EU announces sanctions
$1 buys 72 Rubles
Crude oil ends year at $57 a barrel
Oil Export Dependent Russia Crippled by Commodity Price ShockThe Russian economy is dependent on oil revenues to survive. 68% of Russia’s exports and over 50% of government total revenue come from oil and natural gas sales. While Russia’s invasion and annexation of Ukraine territory hurt stock prices, the biggest reasons that pushed the stock market over the edge were the drop in oil prices and the subsequent collapse of the Russian ruble.
Source: Morningstar Direct. Russian stocks—Morningstar Russia Index. Russian bonds—Barclays Emerging Markets Russia Aggregate Index. Crude oil—Brent crude spot price. © 2015 Morningstar. All Rights Reserved.
21
$4.00
3.60
3.80
3.40
3.20
3.00
2.80
2.60
2.40
2.20
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
National Average Gasoline Prices By Year
QEI28
2012 110.49
2013 110.65
2014 57.33
Crude Oil Prices at Year End ($)
Tumbling Gasoline Prices Pressure Down U.S. InflationGasoline accounts for about 5% of the Consumer Price Index. Falling gasoline prices, down 20% year-over-year, have taken a full percentage point off the index. Falling fuel prices are particularly beneficial to low-income consumers who typically spend a higher proportion of their incomes on gas.
Source: U.S. Energy Information Agency, Morningstar Direct. Oil data—Brent crude spot price. © 2015 Morningstar. All Rights Reserved.
22
–20
–15
Tuition, other
school fees,
and child care
All items
less food
and energy
ApparelFood HousingMedical care All items Gasoline
–10
0
–5
5%
14.1 5.93.1 41.9 4.43.5
Relative Importance of Components in the Consumer Price Index (%)
Consumer Price Index Components, Year-Over-Year Change
3.4 3.2 3.0 2.51.6
0.8
–21.0
–2.0
QEI17
Still, Not Everyone Is Benefiting from Low InflationDespite the collapse in gasoline prices and low overall inflation, consumers are being hurt by high food prices, rising healthcare costs, and sharply accelerating rents. Unlike the rest of the world, the U.S. does not appear to be at risk of persistent deflation. Stabilization in gas prices and a tightening labor market create a potential for inflation to return to the Fed’s long-term 2% target in the years ahead.
Source: Bureau of Labor Statistics, Morningstar Calculations. © 2015 Morningstar. All Rights Reserved.
23
3.0%
0
2.5
2.0
1.5
1.0
0.5
1998 2000 2006 2008 201420042002 2010 2012
Five-Year, Five-Year-Forward Breakeven Inflation
QFI4
Long-Term Inflation Expectations Still IntactWhile the current U.S. inflation rate remains well below the Fed’s target of 2%, investors still show confidence that long-term inflation will return to target. After peaking in November 2012, inflation expectations have been declining following the Fed’s tapering and the fall of global commodity prices. Despite the drop, 5-year inflation expectations still stood at 2.1% at year end.
Source: Bloomberg, Morningstar Calculations. © 2015 Morningstar. All Rights Reserved.
24
Pacific6.0
Mountain5.1
East North Central5.1
East South Central3.8
South Atlantic4.8
MiddleAtlantic0.8
New England2.3
WestNorth Central3.8
United States4.5%
WestSouth Central5.6
Annual Price Change (%)
• Less than 0
• 0 to 2
• 2 to 5
• 5 to 10
• Greater than 10
QEI2
FHFA Home Prices Approach Goldilocks TerritoryAccording to the FHFA, U.S. home price growth stood at 4.5% year-over-year in October. That is a much slower pace compared with a year ago when home prices were growing at a rate of 7–8%. We view real estate market price moderation as a positive development as it should ease affordability pressures, while still helping consumers with underwater mortgages to recover home values lost during the recession.
Source: Federal Housing Finance Agency. © 2015 Morningstar. All Rights Reserved.
25
5
0
10
15
20%
Sep 13 Oct Nov Dec Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov 14
Building Permits Versus Housing Starts—Year-Over-Year Growth, 3-Month Average
• Building permits • Housing starts
0
500
1,000
1,500
2,000
2,500
Housing Starts—SAAR, Thousands of Units
2000 2002 2004 2006 2008 2010 2012 2014
Housing Starts
Breakdown,
March 2005
15%
37%
63%
85%
Housing Starts
Breakdown,
Nov 2014
• Single-family • Multi-family
QEI8
After a Disappointing 2014, Housing Market Set to Accelerate in 2015Low affordability, stagnant income growth, large student loans, and tight lending standards held back housing makret growth in 2014. Higher incomes, accelerated employment growth, and less-stringent lending standards should provide fuel for further improvement in 2015 and beyond. While the single-family sector struggles, the multi-family category is likely to continue to be a key factor for housing market growth.
Source: Census Bureau, Morningstar Calculations. © 2015 Morningstar. All Rights Reserved.
26
30
35
40
45
50
55
60
65
1990 1993 1996 1999 2002 2005 2008 2011 2014
PMI Composite Versus Recessions, 3-Month Average
Reading Over 50 Indicates an Expansion
Reading Below 50 Indicates a Contraction
Gray bars represent recessions
QEI10
Danger Zone
2014 Banner Year for U.S. ManufacturingManufacturing growth has accelerated in 2014 as strong auto, furniture, machinery, and plastics sectors drove 2014 results. Limited growth in autos, combined with new pressures on oil and gas related machinery, likely means slower manufacturing growth in 2015. A strong U.S. dollar and decelerating world growth are also likely to hurt U.S. industrial exports.
Source: Institute for Supply Management, The National Bureau of Economic Research. © 2014 Morningstar. All Rights Reserved.
27
15%
10
5
0
–5
–10
–15
–20
1985 1989 1993 1997 2001 2005 2009 2013
• Manufacturing employment• Industrial production – manufacturingYear-Over-Year Growth, 3-Month Average
Since 1985: Production DoubledEmployment Dropped by a Third
QEI14
Productivity Improvements Limit Manufacturing Employment GrowthDue to efficiency and productivity improvements, factory output levels have been growing significantly faster than employment. As a result, manufacturing employment is only at about 67% of its 1985 level, while production has doubled since then. This trend continued in 2014 as manufacturing production grew by 4.8% while manufacturing employment increased by only 1.5%.
Source: The Federal Reserve, Bureau of Labor Statistics, Morningstar Calculations. © 2015 Morningstar. All Rights Reserved.
28
0.2
0.6
0.4
0.8
1.0
1.2
2005 2007 2009 2011 2013
8.0
13.0
18.0
23.0
Monthly Domestic Auto Sales (Millions of Units)
Auto Industry Recovery • Sales• Production • Employment
1 Equals full recovery, based on 2005 high, 3-month average
QEI4
Auto Recovery Beginning to Show Its AgeAutos are an example of a manufacturing sector with production levels already approaching previous highs, while employment growth remains stagnant. As auto sales approach pre-recession highs, annual growth in auto sales has slowed for the past two years. In fact, the growth is expected to slow further in 2015.
Source: The Federal Reserve, Bureau of Economic Analysis, Bureau of Labor Statistics, Morningstar Calculations. © 2015 Morningstar. All Rights Reserved.
29
• 2015 forecast • 2013 forecast • Year-over-year growth
0.0
2.0
4.0
6.0
8.0
10.0
12.0 millions of barrels/day
U.S. Oil Production
1995 2000 2005 2010 2015 2020
–10
0
–5
5
10
15
20%
QC2
U.S. Oil Production Begins to Lose Its MomentumThe 2010 oil boom has helped the U.S. economy in a number of ways. It spurred job creation, contributed to the reduction in the trade deficit, and helped to keep inflation under control. Going forward, U.S. oil production will not be as big of a contributor as it has in the past, as the growth is likely to plateau much sooner than previously expected.
Source: Energy Information Agency, Morningstar Estimates. © 2015 Morningstar. All Rights Reserved.
30
6.0%
5.0
4.0
3.0
2.0
1.0
0.0
2.0%
1.8
1.6
1.4
1.2
1.0
0.8
1963 1968 1973 1978 1983 1988 1993 1998 2003 2008 2013
Population Growth Versus Real GDP Growth, Trailing 5-Year Averages
• Population growth (lagged 5 years) • Real GDP growth
QEI19
Demographics Will Limit Long-Term Economic GrowthThe gradual shift in demographics has started to impact GDP growth as the U.S. has moved to a sub 1% population growth rate in recent years. Considering this trend, economic growth rates of 3%–4% might be a thing of the past, and investors should build their expectations around a more modest 2.0%–2.5% GDP growth over the long term.
Source: Census Bureau, Bureau of Economic Analysis. © 2015 Morningstar. All Rights Reserved.
31
27%
25
23
21
19
17
15
13
1950 1956 1962 1968 1974 1980 1986 1992 1998 2004 2010 2016 2022 2028 2034
• Receipts• SpendingReceipts and Spending as a Percentage of GDP
QEI12
Budget Problems Reappear as Baby Boomers RetireThe federal budget deficit has fallen dramatically from 9.8% of GDP in 2009 to just 2.8% in 2014. The improvement is driven by a better economy and budget agreements that limited spending. However, longer-term expenditures on Social Security and Medicare benefits will rise dramatically as baby boomers retire.
Source: The Congressional Budget Office. © 2015 Morningstar. All Rights Reserved.
32
1.5% 0.00.51.0 –0.5 –1.0 –1.5 –2.0
Unemployment Trends in G7 Nations
2
4
6
8
10
12
14
12-month difference in unemployment rate
Unemployed
(mil)
Germany
Japan
Italy
United StatesCanada United Kingdom
France
16%
Current unemployment rate
QEI18
3.5
2.8
2.1
1.2
2.3
2.0
8.7
Eurozone Unemployment Rates Still Elevated; U.S., U.K. See Biggest Improvements The employment situation in G7 nations remains mixed as countries such as Italy and France experience double-digit unemployment rates. The countries that implemented aggressive quantitative easing (QE) programs, namely the U.S. and the U.K., have seen unemployment drop by more than 1% over the past year. Now, the eurozone has joined the QE club in hopes of achieving similar improvements.
Source: Eurostat, Japan Statistics Bureau, Statistics Canada, Bureau of Labor Statistics. © 2015 Morningstar. All Rights Reserved.
33
As employment data has improved dramatically in the U.S., the Fed completed its bond purchases following a period of large acquisitions that appear to have successfully stimulated growth. Until recently the European Central Bank had been dragging its feet on a quantitative easing program, stifling the economic recovery. With a QE program now in place, the hope for an improved European economy is revived.
U.S. and European Monetary Policy Going in Opposite Directions
2006 2012 20132010 20112008 20092007 2014
• European Central Bank (EUR)• US Federal Reserve (USD)
0
1
3
2
4
$5 trillion
Central Bank Balance Sheets
QEI25
Source: Federal Reserve and the European Central Bank © 2015 Morningstar. All Rights Reserved.
34
2004 2012 20132010 20112008 200920072005 2006 2014
• M3
• Loans to non-financial corporations
• Loans to private sector (NSA)
• Loans to households
–5
0
5
10
15%
Eurozone Money Supply and Lending Growth
QEI24
Easier Monetary Conditions Raise Hope for More Bank Lending in EuropeAt least some of the weakness in Europe can be tied to overly restrictive lending practices. While very modest improvements have taken place in recent months, year-over-year growth in business and consumer lending is still negative. The European Central Bank is now imple-menting quantitative easing programs to bring inflation to its 2% target, which should also stimulate the flow of credit as a side effect.
Source: European Central Bank. Year-over-year growth. Loans to private sector are not seasonally adjusted. © 2015 Morningstar. All Rights Reserved.
35
120
115
110
105
100
95
90
2008 2009 2010 2011 2012 2013 2014
QEI27
Trade-Weighted Dollar Index: Broad
18% increase
Index Country Weights %
China 20.8%
Euro area 16.2
Canada 12.6
Mexico 11.7
Japan 7.6
Korea 3.8
Other 27.3
U.S. Dollar Continues to Trend Higher Since 2011, the U.S. dollar has moved up by 18%. The stronger dollar has limited U.S. inflation, and it has hurt U.S. dollar returns on non-U.S. investments. A higher dollar also means overseas profits now turn into fewer dollars for U.S. corporations. Over time, a stronger dollar could hurt U.S. competitiveness.
Source: The Federal Reserve © 2015 Morningstar. All Rights Reserved.
36
Fund
s
Jan 2013 Apr 2013 Jul 2013 Oct 2013 Jan 2014 Apr 2014 Jul 2014 Oct 2014
Cumulative Flows Over the Past 24 Months
–100
100
0
$400 bil
200
300
Total Net Asset Distribution as of December 2014
Total net assets: $13,180 billion
• International equity
• Allocation
• U.S. equity
• Alternatives + Commodities
• Bond
45%
17%
27%
10%
2%
QFF6
International-Equity Funds Most Popular Category Over the Past 24 MonthsIn terms of cumulative flows, investors pooled the largest sums into international-equity funds, attempting to take advantage of lower valua-tions and faster growth opportunities outside the United States. Domestic-equity funds saw a sharp uptick in flows during the last quarter of 2014. Taxable-bond funds experienced withdrawals for most of 2013, but started attracting investors again in 2014.
Source: Morningstar Direct. © 2015 Morningstar. All Rights Reserved.
38
–200
–100
0
100
200
300
$400 bil
1994 1997 2000 2003 2006 2009 2012
• Taxable bond • U.S. equityRolling 12-Month Fund Flows
QFF2
Bond Versus Equity Fund FlowsInvestor behavior is tied to market performance, but the timing may not always be right. In 2009, as the stock market hit bottom, investors should have been buying cheap stocks, but instead bond flows increased. In 2013, there was a sharp reversal in stock and bond flows. So far this year the trend reversed one more time, with stock inflows down and bond inflows up.
Source: Morningstar Direct. Funds analyzed include U.S. open-end mutual funds and ETFs. © 2015 Morningstar. All Rights Reserved.
39
–20
–10
0
10
20
$30 bil
Jan 13 Apr 13 Apr 14Oct 13 Jan 14Jul 13 Jul 14 Oct 14
–20
–10
10
0
$20 bil
Taxable Bond Active Versus Passive Fund Flows, 3-Month Average
U.S. Equity Active Versus Passive Fund Flows, 3-Month Average • U.S. Equity, Active • U.S. Equity, Passive
• Taxable Bond, Active • Taxable Bond, Passive
QFF5
Flows into Passively-Managed Funds on the RiseIn recent years, passively-managed funds have become increasingly popular and started attracted a larger portion of investor money than their actively-managed counterparts, especially in the U.S.-equity category. Investors now appear to display a marked preference for passive, lower-cost mutual funds and ETFs.
Source: Morningstar Direct. © 2015 Morningstar. All Rights Reserved.
40
30
60
90
120% Share Classes
Below Average Fee Level
9020% of Assets Rated
4 Stars or Better
4030 50 60 70 80
More highly rated fundsFewer highly rated funds
More expensive
Less expensive
Oppenheimer
American Funds
BlackRock
Franklin Templeton
FidelityJPMorgan
DFA
Vanguard
PIMCO
T. Rowe Price
QMF3
A
B
A
A
B
Vanguard
Fidelity
American Funds
T. Rowe Price
Franklin Templeton
143,281
–5,295
345
11,166
657
1
2
3
4
5
93
92
95
95
96
71
50
58
80
36
31
61
99
42
61
Morningstar
Stewardship
Grade
Net Asset
Flow ($ mil),
2014
Manager
Retention
Rate
Success
Ratio
Manager
Investment
>$500,000
C
B
B
C
C
PIMCO
JPMorgan
DFA
BlackRock
Oppenheimer
–148,957
27,751
27,706
18,826
1,785
6
7
8
9
10
90
95
92
88
91
48
57
61
32
47
52
67
5
72
63
Morningstar
Stewardship
Grade
Net Asset
Flow ($ mil),
2014
Manager
Retention
Rate
Success
Ratio
Manager
Investment
>$500,000
Top 10 Mutual Fund Companies by AssetsFor mutual funds, performance is closely linked with expenses. From the bottom left, representing weaker risk-adjusted returns and higher costs, the bubbles tend to move up and to the right, toward higher returns and lower costs. The largest company, Vanguard, had the highest asset inflows in 2014, while investors withdrew an unprecedented amount of assets from PIMCO.
Source: Morningstar Direct. © 2015 Morningstar. All Rights Reserved.
41
Allocation
Alternative
Commodities
International Equity
U.S. Equity
U.S. Sector Equity
Taxable Bond
Municipal Bond
0.0
0.0
–0.3
–0.4
0.4
–0.3
–1.0
–0.9
–8.0
–8.9
–1.9
–8.8
–9.4
–4.2
–7.4
–6.8
8.4
10.7
4.5
5.1
7.4
7.7
7.8
5.5
1
0
0
1
0
6
3
0
18,707
152
2,971
19,458
26,438
45,044
77,147
65,688
72%
0%
0%
31%
36%
73%
87%
97%
1.3
–3.6
–5.2
–2.7
2.5
–4.9
–0.9
2.5
6.9
1.9
–8.9
0.5
7.1
8.3
5.6
18.2
3 Year Z-
Statistic
Broad
Category
Current
Avg.
Discount (%)
Avg.
Distribution
Rate (%)
Number of
IPOs in
2014
Total
Assets
($ mil)
% of
Funds Using
Leverage
3 Month
Total
Return (%)
1 Year
Total
Return (%)
–4
–2
0
2
3 Year Z-Statistic of Taxable Bond Universe
2012 20141990 1992 1994 1996 1998 2000 2002 2004 2006 20102008
Selling Opportunity
Buying Opportunity
QCEF1
Closed-End Funds Trading at Above Average DiscountsAll closed-end fund categories are currently trading below fair value, but discounts have tightened slightly in the last quarter of 2014. Taxable and municipal bonds offer the most attractive opportunities, based on their 3-year z-scores. As you can see in the chart, buying below −1 and selling above 1 has historically been a good strategy.
Source: Morningstar Direct. The z-statistic result is the number of standard deviations away from the average discount over the time period measured. Z-statistic = (Current discount–Average discount)/Standard deviation of discount. © 2015 Morningstar. All Rights Reserved.
42
QMF4
RetirementIncome
2000–2010 2011–2015 2016–2020 2021–2025 2026–2030 2031–2035 2036–2040 2041–2045 2046–2050 2051+
2014 Target-Date Flow Trends • Estimated net inflows• Net assets • Organic growth rate• Estimated net outflows
–20
80
100
120
$140 bil
60
40
20
0
70%
60
50
40
30
20
0
10
–10
2051+
2031–2035
2026–2030
2041–2045
2046–2050
2036–2040
2021–2025
2016–2020
2011–2015
2000–2010
RetirementIncome
0 2 4 6 8 10 12 14 16
Total Return (Annualized) • 1 year • 3 year • 5 year
Vanguard
Fidelity
T. Rowe Price
Others
27.4%
26.7
17.4
28.5
5.2
–12.4
1.5
5.6
Fund family Market shareChange in market sharefrom 5 years ago
2014 Market Share of Target-Date Firms
Target-Date-Fund Assets Continue to IncreaseAll target-date categories had positive flows in 2014, except 2000–2010 and 2011–2015. This makes sense because those two categories are aimed at now-retiring baby boomers. Vanguard, Fidelity, and T. Rowe Price continue to dominate the industry, with Vanguard replacing Fidelity as the top provider in terms of market share.
Source: Morningstar Direct. © 2015 Morningstar. All Rights Reserved.
43
100%
90
80
70
60
50
40
30
20
10
00
Expense Ratio (%)
0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80 0.90 1.00 1.10 1.20 1.30 1.40 1.50
QMF5
• Passive funds and ETFs
• Active funds and ETFs
Cumulative Share of Assets Invested at Different Expense Ratios, U.S. Equity
65% of passive assets invested at
an expense ratio of 0.10% or less
65% of active assets invested at
an expense ratio of 0.90% or less
Total Net Assets ($ billion)
3,724.9
2,252.7
Investors in Passively-Managed Funds More Sensitive to CostsActively-managed U.S. equity funds still hold the largest share of the industry’s assets. Within the active universe, cost is only one of many factors influencing investors’ decisions. Investors appear willing to pay higher expense ratios in exchange for active managers’ expertise. Within the passive universe, however, investors show an overwhelming preference for the lowest-cost funds.
Source: Morningstar Direct. © 2015 Morningstar. All Rights Reserved.
44
Equi
ties
150% Overvalued
100
50
0
–50
–100 Undervalued
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
• 90–95 percentile
• 75–90 percentile
• 50–75 percentile
• 25–50 percentile
• 10–25 percentile
– Median
– Fair Value
• 5–10 percentile
QQE1
Morningstar Price to Fair Value Distribution, U.S. EquityThe distribution of Price to Fair Value can yield a richer interpretation of market valuation than simple averages. At times, the median U.S. stock may be slightly overvalued, but the extent of the overvaluation can be substantial. Today, U.S. equities appear to be fairly valued on a median basis, with a narrow distribution by historical standards. However, the distribution widened slightly toward the end of 2014.
Source: Morningstar quantitative and analyst fair value data. © 2015 Morningstar. All Rights Reserved.
46
4.3%
Total Market
–1.7
Style Uncertainty
8.0 6.9
Value
< –10 –10 to –5 –5 to 0 0 0 to 5 5 to10 > 10
Blend Growth
Sm
all
Mid
Larg
e
3.9 –2.8 8.8 6.1
7.2 2.1 8.0 11.2
1.6 –1.1 2.3 3.8
9.2 4.6 –3.4
Low Medium High
Non
eN
arro
w
Wid
e
5.1 8.2 4.2 –3.3
4.4 11.5 4.1 –2.8
0.2 6.8 9.5 –4.6
Undervalued Fairly valued Overvalued
Moat
Siz
e
QQE4
Morningstar Price to Fair Value, U.S. Equity Style BoxesCurrent market valuations seem to present few attractive buying opportunities. Large- and small-value stocks appear to be trading at slight discounts. In the uncertainty/moat style box, there is a wide disparity between low- and high-uncertainty stocks. Since high uncertainty means higher risk, it is not surprising that investors are moving away from these stocks in the current market environment.
Source: Morningstar quantitative and analyst fair value data. Style boxes based on market-cap weighted data. © 2015 Morningstar. All Rights Reserved.
47
–45
–30
–15
0
30% Overvalued
15
0
25
50
100%
75
Basic
Materials
Comm
Services
Consumer
Defensive
Energy Financial
Services
Healthcare Industrials Real Estate Technology UtilitiesConsumer
Cyclical
• Overvalued
• Fairly valued
• Undervalued
Percentiles
90th
75th
25th
10th
Median
Market Cap Weighted Avg
QQE2
Morningstar Price to Fair Value Distribution by U.S. SectorAmong U.S. equity sectors, energy and healthcare were the two most undervalued at the median (basic materials also, but to a lesser extent). Market-cap weighted averages, however, can paint a different picture. In the healthcare sector, most large companies appear to be overvalued, pushing the market-cap weighted average up while the median stays low.
Source: Morningstar quantitative and analyst fair value data. © 2015 Morningstar. All Rights Reserved.
48
–40*
0
–20
North America Latin America UK & Ireland Africa IND, PAK &
Middle East
Asia Pacific Australia &
New Zealand
Europe
20%Overvalued
*Undervalued
QQE3
Percentiles
90th
75th
25th
10th
Median
Market Cap Weighted Avg
Top 10 Most Undervalued Countries
Country
Greece
Nigeria
Saudi Arabia
Bangladesh
Vietnam
Brazil
Russia
Portugal
Egypt
Pakistan
Undervalued By (%)
–18.0
–14.7
–12.6
–10.0
–9.8
–9.5
–9.0
–8.8
–8.8
–7.5
UncertaintyRating
Very High
Very High
High
Very High
Very High
High
Very High
High
Very High
Very High
Number ofCompanies
56
85
124
263
235
224
104
27
159
306
Top 10 Most Overvalued Countries
Country
China
Finland
Mexico
Japan
India
Indonesia
Turkey
United States
Sweden
South Africa
Overvalued By (%)
14.5
7.8
7.6
7.6
7.0
6.6
6.0
4.3
5.9
5.5
UncertaintyRating
High
Medium
High
High
High
High
High
Medium
High
High
Number ofCompanies
2,275
107
87
3,439
2,382
390
343
4,314
452
204
Morningstar Price to Fair Value Distribution by RegionMarkets have been pricing in the risks of lower global economic growth expectations. Geopolitical risks continue to weigh on the equity valuations of many countries (a majority of them emerging). All regions are undervalued at the median, but again, on a market-cap weighted basis, the story can be different. Strong equity market performance landed China at the top of the overvalued list.
Source: Morningstar quantitative and analyst fair value data. © 2015 Morningstar. All Rights Reserved.
49
QQE5
Overvalued/Undervalued (%)
>5.01.1 to 5.0 < –5.0
Undervalued Overvalued
Greater Asia 8.4
–5.0 to –1.1 –1.0 to 1.0
Fairly Valued
U.S. 4.3Greater Europe 0.5
United States 4.3
Chile 3.1
Brazil –9.5
South Africa 5.5
Finland 7.8 Russia –9.0
Canada 2.3
Portugal –8.8
Norway –0.7
U.K. –2.9
Spain –2.8
China 14.5
Japan 7.6
South Korea 1.6
Vietnam –9.8%
Thailand 2.9
India 7.0
New Zealand 4.8
Australia –1.9
Countries not highlighted
Mexico 7.6
France –3.5
Germany 4.4
Sweden 5.9
Morningstar Price to Fair Value by CountryOn a regional basis, Asia is currently overvalued by 8.4%, while Europe is fairly valued, at 0.5%. Rapidly declining oil prices landed Russia in highly undervalued territory, while Brazil suffered because of decreased demand for raw materials. Concerns about potential deflation and weak economic growth in Europe kept many European countries undervalued.
Source: Morningstar quantitative and analyst fair value data. © 2015 Morningstar. All Rights Reserved.
50
2000 2002 2004 2006 2008 2010 2012 2014
–10
–5
0
35%
25
30
20
15
10
5
Excess Return of Small Over Large U.S. Stocks, Rolling 12 Months
• Small stocks outperform
• Large stocks outperform
QE4
Small stocks
Large stocks
8.1
4.7
6.9
13.6
19.8
20.2
Trailing QuarterTotal Return (%) Trailing 1 Year Trailing 3 Years
U.S. Large Versus Small Stock PerformanceSince 2000, small stocks have outperformed large stocks a majority of the time. On a 12-month rolling basis, the chart illustrates that large stocks have outperformed recently. However, the gap narrowed in the last quarter. The trailing-quarter return of small stocks, displayed in the table, was actually higher than that of large stocks by 3.4%.
Source: Morningstar Indexes. © 2015 Morningstar. All Rights Reserved.
51
• Buyback yield • Dividend yield • Total yield• Buybacks • Dividends paid
20142003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
0
200
400
600
800
$1000 bil
0
2
4
6
8
10%
Yield
S&P 500 Dividends and Buybacks, Trailing 12 months
QE5
Total Yield of S&P 500 Close to 5%Companies can reward investors by paying out dividends or--an option sometimes forgotten--buying back their own stock. Dividend yield has been fairly stable over time at about 2%. Buyback yield has fluctuated a lot more because companies are not compelled to maintain buy-backs during tough economic times. The buyback yield has been accelerating over the last year and a half and currently stands at 2.8%.
Source: Morningstar Equity Data. © 2015 Morningstar. All Rights Reserved.
52
Fixe
d In
com
e
4.5%
4.0
0
0 years 5 20 301510
3.5
3.0
2.5
2.0
1.5
1.0
0.5
25
Current 1 year ago
1–Year Return
Barclays US Aggregate Bond Index 6.0
10 Year US Treasury Bonds 9.0
20+ Year US Treasury Bonds 27.5
US Corporate Bonds 7.2
US High Yield Bonds 2.5
US Mortgage Bonds 6.4
USD EM Bonds 5.1
Local Currency EM Bonds –3.7
%
QFI6
Long-Term Interest Rates Declined in the Last YearDuring the past year, the U.S. Treasury yield curve steepened at the short end and flattened at the long end, reflecting investors’ expectations that short-term rates will rise and that inflation will stay below average in the long term. In 2014, long-term rates actually declined, despite expectations to the contrary. Long-duration, low-credit-risk bonds posted the strongest returns, while EM and high-yield bonds struggled.
Source: 10-Year US Treasury Bonds—Barclays US Treasury 7-10 Year Bond Index. 20+ Year US Treasury Bonds—Barclays US Treasury 20+ Year Bond Index. US Corporate Bonds—Morningstar Corporate Bond Index. US High Yield Bonds—Barclays US Corporate High Yield Bond Index. US Mortgage Bonds—Morningstar Mortgage Bond Index. USD EM Bonds—Morningstar EM Composite Bond Index. Local Currency EM Bonds—Barclays EM Local Currency Broad Bond Index. © 2015 Morningstar. All Rights Reserved. 54
8% Yield
7
4
3
6
5
2
1
0
2004 2006 2008 2010 2012 2014
France
JapanGermany
ItalyU.S.
QFI10
Last quarter
Last 1 year
Last 3 years
–0.7
–2.4
–5.1
–0.6
–1.0
–0.1
–0.6
–1.6
–2.4
–0.4
–1.3
–0.1
–0.2
–0.4
–0.6
ItalyYield Difference U.S. France Germany Japan
World 10-Year Government Bond YieldsYields for all countries analyzed have declined over all time periods analyzed. Since the Federal Reserve began reducing its stimulus efforts in spring 2013, there has been talk of U.S. rates climbing, but that hasn’t happened yet. On the other hand, the European Central Bank has only begun its own QE initiative, which should keep European rates low going forward.
Source: OECD, investing.com, Morningstar Calculations. © 2015 Morningstar. All Rights Reserved.
55
25%
20
15
10
5
0
1997 1999 2007 2009 20112003 20052001 2013
Corporate Credit Spreads
AAA
BBB
High Yield
0.7%
2.0
5.0
0.8
2.1
5.8
0.2
0.7
2.4
6.1
8.0
21.8
Current Min Max
0.1
0.4
0.6
Change OverLast Quarter
Average
QFI9
Corporate Credit SpreadsAll corporate credit spreads spiked in 2007–2009 during the financial crisis, but have been on the decline until recently. All spreads are still below their long-term averages, but not by much. There has been an uptick in the past few months, especially in high-yield spreads, as Treasury yields fell.
Source: Federal Reserve, Morningstar Calculations. © 2015 Morningstar. All Rights Reserved.
56
Intermediate-Term Bond
Intermediate Government
Inflation-Protected Bond
Corporate Bond
Long-Term Bond
Long Government
World Bond
0.47
–0.05
0.33
0.51
0.40
–0.28
0.57
0.83
0.94
0.74
0.76
0.86
0.79
0.67
S&P 500Core Bond Categories Barclays Aggregate Bond
Correlation
High Yield Bond
Multisector Bond
Bank Loan
Nontraditional Bond
Emerging Markets Bond
Preferred Stock
0.76
0.75
0.61
0.70
0.70
0.66
0.25
0.47
0.03
0.26
0.53
0.38
S&P 500Non-Core Bond Categories Barclays Aggregate Bond
Correlation
20142008 2009 2010 2011 2012 2013
0
50
60
70
80%
20
30
40
10
Percentage of Fixed-Income Mutual Fund and ETF Assets by Category
• Non-core • Core
QFI12
Core Versus Non-Core Fixed-Income AssetsSince 2008, assets have been trickling away from core and into non-core fixed-income categories as investors continued to search for yield. As illustrated by the correlation tables, non-core categories tend to have higher correlations with stocks and therefore may carry more risk than their core counterparts. In 2014, core bonds outperformed stocks, which made them attractive to investors once again.
Source: Morningstar Direct. © 2015 Morningstar. All Rights Reserved.
57
QFI8
Lowest
return
Highest
return
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
Entire
Period
• Intermediate-term gov’t
• Long-term gov’tBonds:
2014
• Long-term corp
• Short-term
• Municipal
• International
• Emerging-market
• High-yield
• Bank loans
• Aggregate
19.2%
14.4
12.3
11.8
11.7
9.7
8.6
4.9
–1.3
–5.9
11.7
9.1
8.5
8.5
5.3
5.2
5.1
4.2
1.4
–3.0
24.8
16.7
13.5
13.1
10.8
10.4
9.6
7.3
1.9
–1.4
29.0
25.7
18.7
10.2
10.0
5.3
4.0
3.2
2.7
2.4
14.6
11.7
11.1
8.0
6.9
5.2
4.5
4.5
3.0
1.5
10.7
5.1
5.0
3.5
2.7
2.7
2.5
1.6
1.1
–7.3
11.8
9.9
6.8
6.7
4.8
4.3
4.1
4.1
3.6
2.2
10.8
10.3
9.9
7.4
7.3
6.3
4.3
3.4
2.1
1.9
20.7
14.1
10.3
7.6
5.0
–2.5
–3.5
–10.9
–26.2
–29.1
58.2
51.6
28.2
20.2
12.9
4.6
4.2
4.2
–1.4
–9.2
15.1
12.0
11.1
10.1
9.4
7.1
6.3
5.8
3.5
2.4
22.7
11.8
10.7
9.4
8.5
8.0
6.9
5.0
2.3
1.5
18.5
15.8
13.4
9.7
6.8
4.4
3.9
3.5
2.5
1.7
7.4
5.3
0.6
–1.9
–2.6
–2.7
–4.5
–4.5
–6.6
–9.9
18.2
12.8
9.1
6.1
5.5
3.9
2.5
2.0
1.6
1.0
9.4
8.0
7.8
7.5
5.9
5.8
5.7
5.6
5.0
4.0
Fixed-Income Winners and LosersThe last two years witnessed a complete reversal in fixed-income performance. Interest rates rose in 2013, so low duration categories like high-yield, bank loans, and short-term bonds posted the only positive returns. In 2014, interest rates declined, so the longer duration categories were the top performers. At the same time, rising credit spreads hurt bank-loan and high-yield returns.
Source: Long-term gov’t—Morningstar LT U.S. Gov’t Bond Index. Intermediate-term gov’t—Morningstar IT U.S. Gov’t Bond Index. Long-term corp—Morningstar LT Corp Bond Index. Short-term—Morningstar Short-Term Core Bond Index. Municipal—Barclays Municipal Bond Index. International—Citigroup WGBI Non-USD 5+ Year Bond Index. Emerging-market—JPM EMBI Global Bond Index. High-yield—Barclays U.S. Corp High Yield Bond Index. Bank loans—S&P/LSTA Leveraged Loan Index. Aggregate—Morningstar Core Bond Index. © 2015 Morningstar. All Rights Reserved.
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