Market and Asset Class Overview: First Quarter 2017
Many factors drove global markets over the first quarter of 2017. Following 2016’s strong performance, equity markets entered 2017 with a good start as did worldwide consumer confidence which showed recovery from the weakness of previous years. The good news for the global economy is that this improved confidence affects more economies than just the U.S.
Following the U.S. Presidential election, U.S. equities continued to ride the “Trump Bump” for most of the first quarter. From year-end until the first day of March, the S&P 500 index gained about 7%. However, the month of March saw downward pressure on stocks as investors questioned whether the new administration would be able to fulfill the agenda it set for itself. In addition, there were increasing concerns that protectionist actions would hamper potential economic gains achieved from any regulation relief. These concerns culminated in an eight day losing streak for the Dow Jones Industrial Average near the end of March. The streak ended when the Consumer Conference Board reported consumer confidence was at its highest level since December 2000. Despite the blip in equity performance in March, the S&P 500 ended the first quarter of 2017 up about 6.1%. Overall, we view March’s pause in equities as healthy and expect a continuation of the bull market.
Both developed international (MSCI EAFE NR USD) and emerging markets (MSCI EM NR USD) appear to be taking over the lead in performance compared to domestic stocks. U.S. stocks (S&P 500) have outperformed international stocks for the past ten years. At the end of the first quarter, developed international equity performance gained 7.2% while emerging markets equity added a healthy 11.4%. The current turnaround of international stocks over U.S. stocks is attributed in part to relatively high valuations of U.S. equities, the continued positive momentum in global growth and a higher outlook for inflation in the U.S. The last two factors have helped take pressure off the dollar by shrinking the gap between foreign currencies and the U.S. dollar. While the headwind of a strong U.S. dollar appears to be subsiding, it still exists. Trade barriers as part of a possible protectionist stance by the U.S. could put downward pressure on any international (and domestic) growth.
From a U.S. perspective, Europe makes up about 60% of the developed international market. It stands to reason most of the momentum for developed international markets center on Europe. Political risks and diminishing growth prospects are two of the more prominent concerns for the European markets. Investors who worry the Brexit vote and U.S. election are the start of a wave of populist sentiment are keeping a watchful eye on the upcoming French and German elections. A decline in unexpected positive economic news for the European economy could lead to a slowdown in its relative growth compared to the U.S. If the value of the U.S. dollar continues to rise this could add a further drag to U.S. based investors.
Between these positive and negative factors we expect to see increased volatility. We believe volatility can provide opportunity so we are prepared to take advantage of any market pullbacks. We also believe the importance of diversification is reinforced in this scenario, as we want to participate in any upside movement and maintain downside protection.
Our overweighting to U.S. equities caused a slight performance lag compared to the equity benchmark (MSCI ACWI). We are watching for a lasting diverging trend in valuations between domestic and international equities for opportunities. We did not make any allocation or manager changes to our equity components.
After the sharp sell-off during the last quarter of 2016 bonds (BBgBarc US Agg Bond TR) gained 0.82% during the first quarter of 2017. This was less than a third of the performance of the index compared to the first quarter of 2016. However, 2017 started the year with two rate increases within three months of each other and expectations of more to come. We believe we will see two or possibly three additional quarter-point rate increases this year as the expectation for economic growth continues. Historically small gradual rate increases have not been detrimental to the economy.
While High Yield Bonds were the big winner last year, emerging market bonds opened the first quarter of 2017 in the lead at 3.3%, putting high yield in second place at 2.7%. Like emerging equities bonds benefited from the positive outlook for emerging economies.
It’s interesting to note that although the Fed has raised interest rates twice since December of last year for a total of 0.5%, bond yields are not necessarily following the same path. For example, the yield for the 10-year Treasury was about 2.45% in December. Today it is around 2.40%. While we recognize the further the maturity of a bond from the Fed’s rate the less influence there may be, we also feel this tells us long-term expectations for inflation remain low.
We made no changes this quarter in fixed income funds or allocation.
Alternatives are investments that are not considered traditional assets (equity and fixed income). They offer a wide range of strategies and, as expected, diverse returns. We find alternatives attractive, as their correlations to the two traditional asset classes are typically low. This may offer protection to portfolios in times of market or economic stress and possibly appreciation.
The Alerian Index (Master Limited Partnerships or MLPs) continued its recovery of the 2015 sell-off. Given the relatively high yield for MLPs compared to current fixed income yields, we find this an attractive holding.
Managed Futures identify and attempt to take advantage of trends, either positive or negative in a wide range of investments. During the past quarter we added a second managed futures fund to our line-up to complement the current fund in this strategy.
Option trading strategies look to exploit volatility found in the markets. We find this strategy attractive as it may provide protection or even appreciation during times when markets are not moving in any particular direction or in a bear market. In upward trending markets these strategies may be challenged. However, we believe this is a valuable strategy for long-term investors.
During the first quarter of 2017 we added a Global Macro fund. This is a strategy that attempts to interpret and anticipate large-scale events and how they relate to various markets and economies. Investments can be in fixed income, currencies, interest rates, equities or commodities.
While we added the two funds to our Alternative positions we maintained the same overall allocation.
As we experience appreciation in a certain asset class such as equities, keep in mind the strategy we’ve discussed and the ultimate goal for your portfolio. We believe it’s important to rebalance your portfolio. Doing so is a forced discipline to trim what has done well and buy what has trailed, which over the longer term should help reduce risk.
Read more perspective on the quarter just ended with our Economic Update. Thank you for your continued confidence in our ability to manage your investment assets. Please call me or anyone on our team at 404-874-6244 or email me here.
Unless stated otherwise, any estimates or projections (including performance and risk) given in this presentation are intended to be forward-looking statements. Such estimates are subject to actual known and unknown risks, uncertainties, and other factors that could cause actual results to differ materially from those projected. The securities described within this presentation do not represent all of the securities purchased, sold or recommended for client accounts. The reader should not assume that an investment in such securities was or will be profitable. Past performance does not indicate future results.