HAIL TO THE CHIEF
With the U.S. Presidential elections on the horizon, investors have taken a seat on the sideline awaiting the outcome. Even the Fed has decided to take a step back from their tightening initiatives to avoid any perception of political motivation. Still, this Fed remains motivated to moderate long-term interest rates with the markets pricing in a 25 basis point rate hike post-election.
It is interesting to note that in June of 2015, each the seventeen FOMC participants disclosed “their judgement of the appropriate target level for the Federal Funds rate.” For 2017, “appropriate target levels” ranged from 1% up to 3.875%, a long way off from the current target levels of 0.25% – 0.50%. What a difference a year makes! Clearly, market expectations have changed from that time and the U.S. economy has become mired in a slow growth environment.
Attempts by the Fed to increase rates have been foiled by negative headlines including the earnings recession for U.S. companies, ongoing Eurozone issues which were capped by the United Kingdom’s “BREXIT” vote in June, and escalating geopolitical concerns. Still, we must remember: “Bull markets are born in pessimism, grow in skepticism and die in euphoria.” – Sir John Templeton
|Market Indicies (Total Return as of 9/30/2016)|
|MSCI Emerging Markets**||9.2||16.3||17.2||0.2||3.4|
|Source: Bloomberg Finance L.P; *Annualized; **USD|
Markets & Economic Data
The S&P 500 Index’s total return of 3.9% in the third quarter outshone the Dow Jones Industrial Average’s 2.8% total return for the period and the NASDAQ Composite sailed in with a 10.0% total return. International markets reversed course in the third quarter with the MSCI EAFE Index providing 6.5% total return for the quarter and Emerging Markets (MSCI Emerging Markets Index) posting a 9.2% total return for the period.
While the hunt for yield remains strong among investors, the high valuations of stocks in the Utility, Telecomm, and REIT sectors showed their sensitivity to an anticipated rate hike; with all three of the sectors trading down for the quarter. As of Sept. 30th, the 5-year U.S. Treasury yielded 1.15% and the 10-year yielded 1.61%.
The “risk on” trade was back in vogue with growth stocks outpacing value stocks and small-caps outpacing large-cap stocks during the quarter. As stocks can be a leading indicator for economic outlook, the third quarter results appear to be indicating that the economy is better than advertised both domestically and abroad.
U.S. economic data remains supportive of continued steady growth. While consumer data is mixed, wage growth remains steady and inflation pressures are weak. The housing sector has experienced a positive rate of growth and the outlook remains favorable. Currently, the consumer is the main source of growth for the economy. To spur GDP growth beyond the 1.5% – 2.0% range, there will need to be an increase in corporate investment or exports. The fourth source of economic growth, government spending, is not expected to increase given the current political environment.
Manufacturing in developed countries is growing as indicated by generally favorable PMI readings. The strengthening foreign economies are resulting in an improving profit outlook and favorable investment (630) 906-2000 http://www.oldsecond.com continued on back HAIL TO THE CHIEF OUTLOOK September 30, 2016 conditions. Easing concerns of a hard landing, China reported third quarter GDP growth of 6.7% year-over-year, supported by retail sales growing by 10.7% and infrastructure spending up by 19.4%.
Follow the money!
While eyes are focused on the U.S. elections and probabilities of who will be the next Commander-in-Chief; don’t lose sight of long-term investment goals. We believe that opportunities are defined by the flow of assets.
Contracting corporate earnings for U.S. companies over the last six quarters has set the stage for the third quarter earnings season to be an important factor in determining the economic outlook for the U.S. economy. Stabilizing energy and raw material prices are likely to show that earnings in the Energy and Materials sectors are improving along with a better outlook for earnings in 2017. Consensus estimates for 2016 earnings are higher than 2015 and are anticipated to gain six percent into 2017 over 2016.
Yield & Valuation
In the current interest rate environment, higher yielding stocks and bonds have become more appealing to investors. Consequently we have seen an increase in valuation for higher dividend payers such as Utilities, REITs, MLPs and Telecoms. Additionally, the spread on low credit quality debt over Treasury debt has continued to compress below historic averages. The premium investors are paying for higher yielding securities may be a very volatile investment in consideration of the anticipated Fed tightening.
The U.S. market continues to offer superior yields on both Fixed Income and Equity investments compared to its foreign counterparts. Should this differential in rates further increase, foreign flows to the U.S. would strengthen the U.S. Dollar, negatively impacting returns on foreign investments over the short-term. Yet, over the long-term, a stronger dollar would create favorable environment for foreign companies to increase exports to the U.S.
The Wealth Management Officers at Old Second work with clients to develop and implement investment strategies that fit their objectives of growth and income. Particularly in volatile markets, ensuring clients’ exposure to risk is appropriate for their situation remains most important. Challenges in the markets will be met with diligence and care. Our team of experienced professionals is available to help guide you along the path toward achieving your financial goals.
Rich Gartelmann CFP® – (630) 844-5730 firstname.lastname@example.org
Steve Meves, CFA® – (630) 801-2217 – email@example.com
Jean Van Keppel CFA® – (630) 906-5489 firstname.lastname@example.org
Brad Johnson CFA®, CFP® – (630) 906-5545 email@example.com
Joel Binder, SVP – (630) 844-6767 firstname.lastname@example.org
Jacqueline Runnberg CFP® – (630) 966-2462 email@example.com
Ed Gorenz, VP – (630) 906-5467 firstname.lastname@example.org
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