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Market Commentary 3rd Quarter 2014
Economy & Market Review
S&P 500 Index
YTDQtr
8.34%1.13%
Large US Stocks
YTDQtr
7.97%0.65%
Small US Stocks
YTDQtr
‐4.41%‐7.36%
Non‐US Stocks
YTDQtr
‐0.99%‐5.83%
Emerging Mkt Stocks
YTDQtr
2.75%‐3.36%
US Bonds
YTDQtr
4.10%0.17%
High Yield Bonds
YTDQtr
3.61%‐1.92%
Emerging Mkt Bonds
YTDQtr
7.94%‐1.31%
Commodities
YTDQtr
‐4.21%‐10.54%
Global Market PerformanceInvestors must be a little seasick after rough waters during the third quarter. Economic and political uncertainty gave rise to turbulence in the global markets. In West Africa, an Ebola epidemic ravaged the region. In Iraq and Syria, the resurgent movement of Islamic militants continued. In China, concern over slowing growth was overshadowed by political unrest in Hong Kong. In Europe, much of the Euro zone struggled to achieve growth with unemployment continuing to pose challenges.
All this and the U.S. economy slowly plodded along. After a dismal first quarter GDP of ‐2.9%, the second quarter saw an increase of 4.6%. This came primarily from a reversal of weather related factors. The U.S. dollar also made a comeback, with its largest quarterly gain since 2008. It is yet to be seen what impact the strong dollar has on multi‐national corporations and their revenue numbers going forward.
The job market continued to add an average of over 200,000 jobs per month and the unemployment rate dropped below 6% for the first time since 2008. Indications of a stronger labor market can also be seen in the most recent Job Openings and Labor Turnover Survey. The quits level increased over the past 12 months, showing workers' willingness or ability to leave a job ‐ an indication of improving conditions. The housing market continues to struggle relative to recent history. While the annual pace of existing home sales has increased since the beginning of the year, it is still lower than a year ago. As for new home sales, the persistent absence of first time buyers (primarily 18‐35 year olds) is a major factor for sluggishness.
In other news, Fed Chair Janet Yellen stated on September 17 that the committee intends to keep rates low for a "considerable time." The median estimate for the federal funds rate at the end of 2015 rose from 1.125% to 1.375%, while the end of 2016 estimate is now 2.9% instead of 2.5%. While the committee is concerned over the job market and lack of inflation, it was confirmed that QE's tapering would be concluded in October. That being said, there is still a disconnect between market estimates and the Fed projections. The market, at this time, appears to expect a more accommodative policy. It is yet to be seen whether the market will move towards Fed projections or continue to fight for lower rates.
As we look forward to the end of 2014, the big stories will be the ending of QE, the increased violence in the Middle East, the ramifications from protests in Hong Kong, and the economic conditions in Europe. All while facing elevated valuations in the broad domestic market. Volatility could continue if data or developments run counter to investors' optimistic outlook.
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Growth Outperforms
Value Outperforms
Market Commentary 3rd Quarter 2014
U.S. Equity Markets
Russell 200 Value
YTDQtr
8.05%0.89%
U.S. Equity Style Performance
Russell 200 Growth
YTDQtr
8.88%2.52%
Russell 1000 Value
YTDQtr
8.07%‐0.19%
Russell 1000 Growth
YTDQtr
7.89%1.49%
Russell 2000 Value
YTDQtr
‐4.74%‐8.58%
Russell 2000 Growth
YTDQtr
‐4.05%‐6.13%
U.S. Equity Sector Performance (S&P 500)
‐10
‐5
0
5
10
15
Excess Rolling 12
Mon
th Return, %
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
Growth Relative to Value (Russell 1000)
‐10 ‐8 ‐6 ‐4 ‐2 0 2 4 6 8 10
Qtr
Energy ‐8.62%
Materials 0.22%
Industrials ‐1.09%
Cons Discretionary 0.26%
Cons Staples 1.95%
Health Care 5.46%
Financials 2.33%
Information Technology 4.77%
Telecommunication Services 3.07%
Utilities ‐3.96%
Broad Performance: The third quarter began with the U.S. stock market crossing over 1,000 days since the last 10% correction. As it stands now, the current run is the third longest bull market without a 10% correction since WWII. While the S&P 500 limped to a positive return in the third quarter, most of the broad U.S. stock market struggled. The breakdown seen in the Russell 2000 during the second quarter might have been the "canary in the coal mine." The trend continued and for the first time in over two years, the small cap index had a quarterly loss.
Sector Performance: After a strong second quarter, Energy and other commodity‐related stocks lost momentum in the third quarter. A strengthening U.S. dollar has weighed on these sectors. Industrials were also impacted by the strong dollar as they compete to sell products and services overseas. Growth sectors, such as Information Technology and Health Care led the way.
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International Markets Outperform
U.S. Markets Outperform
Market Commentary 3rd Quarter 2014
International Equity Markets
Non‐U.S. Equity Performance International Diversification: Just as many thought Europe had extracted itself from a second recession, growth came to a halt. Three of the largest economies in the Euro zone (France, Italy and Germany) all had negative GDP growth rates in the second quarter. This lack of growth coupled with a renewed fear of deflation led the European Central Bank (ECB) to lower benchmark interest rates in July and announce a program, beginning in October, to buy asset‐backed securities and covered bonds. From a performance standpoint, international investing has been dampened by the rise in the US Dollar.
Emerging Markets: Emerging Market stocks were affected by the strong U.S. dollar as well, as positive returns in local currencies became negative for U.S. investors. While China fights against slowing growth, other emerging economies have their own battles. In Brazil, voters are headed to the polls to vote for a new president as many are tired of the status quo. Other countries with elections in 2014 include Turkey, Indonesia, South Africa, Thailand and Hungary. Due to the economic issues in these countries, the results of these elections may have an impact on future returns for the sector as a whole over the next couple of years.
Style and Regional Non‐U.S. Equity PerformanceNon‐U.S. Equity Returns Relative to U.S. (S&P 500)
‐50
‐25
0
25
50
Excess Return, %
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
EAFE EM (EMERGING MARKETS)
‐9
‐8
‐7
‐6
‐5
‐4
‐3
‐2
‐1
0
Total Return, %
Qtr
‐6.14%‐5.52%
‐7.77%‐7.19%
‐3.56%
EAFE VALUE EAFE GROWTH EAFE SMALL CAP AC EUROPE MSCI PACIFIC
‐8
‐6
‐4
‐2
0
2
4
6
8
Total Return, %
Qtr YTD
‐5.8%
‐3.4%
‐1.0%
2.7%
EAFE EM (EMERGING MARKETS)
‐8
‐6
‐4
‐2
0
2
4
6
8
Total Return, %
Qtr YTD
1.0% 0.7%
4.5%5.5%
EAFE (local) EM (local)
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3 Mo 6 Mo 2 Yr 5 Yr 10 Yr 30 Yr
Market Commentary 3rd Quarter 2014
Fixed‐Income Markets
‐2 ‐1 0 1
Qtr
BC Aggregate Bond 0.17%
High Yield ‐1.92%
Emerging Mkt Bond ‐1.31%
Corporate ‐0.14%
Mortgage 0.18%
Agency 0.25%
Fixed Income Performance Fixed Income: The persistent calls for the end of the 30‐year bond bull market have been somewhat delayed, as bond returns have been positive over the past three years. The recent stretch of a strengthening U.S. dollar, though, would lead some to believe interest rates are beginning their ascent. After struggling in 2013, volatility in fixed income continues to persist this year. During the third quarter, the BC Aggregate Bond Index was able to muscle a small return, while foreign and credit‐driven fixed income had negative returns.
Yield Curve: The shorter part of the curve began to move upwards while the longer part fell. Why does the yield curve matter? An inverted yield curve (short‐term > long‐term) has historically been a precursor to recessions and actually has occurred prior to every recession over the past 50 years. At this point, though, the short‐term has a ways to go, as 2 year yields are still below 1% and 5 year yields are below 2%.
Yield Curve
‐3
‐2
‐1
0
Excess Return, %
Qtr
‐2.35%
‐1.73%
‐0.56%
‐0.24% ‐0.18%
High Yield Emerging Mkt Bond Corporate Mortgage Agency
Excess Performance to Treasuries
0
1
2
3
4
Yield, %
9/30/2013 6/30/2014 9/30/2014
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