Monthly Market And Economic Outlook: November 2015

Amy MagnottaAmy Magnotta, CFASenior Investment Manager, Brinker Capital

The market correction in the third quarter, prompted by the Federal Reserve’s decision to stay on hold and worries over China, resulted in investor sentiment reaching levels of extreme pessimism. Risk appetites returned in October and global equity markets rebounded sharply. The start to earnings season was also better than expected. With a gain of +8.4%, the S&P 500 Index posted its third-highest monthly return since 2010, bringing the index back into positive territory for the year. Fixed income markets were relatively flat, but high yield and emerging market debt experienced a rebound in the risk-on environment. Year to date through October, the S&P 500 Index leads both international equity and fixed income markets, a headwind for diversified portfolios.

Within the U.S. equity market sector leadership shifted again but all sectors were in positive territory. The energy and materials sectors, which have weighed significantly on index returns this year, both experienced double-digit gains for the month as crude oil prices stabilized. The more defensive consumer staples and utilities sectors underperformed. Large caps outpaced small and mid-caps, and the margin of outperformance for growth over value continued to widen.

International developed equity markets kept pace with U.S. equity markets in October despite a slight strengthening in the U.S. dollar. Performance in Japan and Europe was boosted on expectations of additional monetary easing. Emerging markets were only slightly behind developed markets, helped by supportive monetary and fiscal policies in China and stabilizing commodity prices. All regions were positive but performance was mixed, with Indonesia gaining more than +15% while India gained less than +2%.

U.S. Treasury yields moved slightly higher during October, and they have continued their move upward as we have entered November. Investment-grade fixed income was flat for the quarter and has provided modest gains so far this year. Municipal bonds outperformed taxable bonds. After peaking at a level of 650 basis points in the beginning of the month, the increase in risk appetite helped high yield spreads tighten more than 100 basis points and the asset class gained more than 2%. Spreads still remain wide relative to fundamentals.

Our outlook remains biased in favor of the positives, but recognizing risks remain. The global macro backdrop keeps us positive on risk assets over the intermediate-term, even as we move through the second half of the business cycle. A number of factors should support the economy and markets over the intermediate term.

  • Global monetary policy accommodation: Despite the Federal Reserve heading toward monetary policy normalization, their approach will be patient and data dependent. The ECB and the Bank of Japan have both executed bold easing measures in an attempt to support their economies. Emerging economies have room to ease.
  • U.S. growth stable and inflation tame: U.S. GDP growth, while muted, remains positive. Employment growth is solid as the unemployment rate fell to 5%. Wage growth has been tepid at best despite the tightening labor market, and reported inflation measures and inflation expectations remain below the Fed’s target.
  • U.S. companies remain in decent shape: M&A deal activity continues to pick up as companies seek growth. Earnings growth outside of the energy sector is positive, but margins, while resilient, have likely peaked for the cycle.
  • Washington: Policy uncertainty is low and all parties in Washington were able to agree on a budget deal and also raised the debt ceiling to reduce near-term uncertainty. With the new budget fiscal policy is poised to become modestly accommodative, helping offset more restrictive monetary policy.

However, risks facing the economy and markets remain, including:

  • Fed tightening: After delaying in September, expectations are for the Fed to raise the fed funds rate December. The subsequent path of rates is uncertain and may not be in line with market expectations, which could lead to increased volatility.
  • Slower global growth: Economic growth outside the U.S. is decidedly weaker. It remains to be seen whether central bank policies can spur sustainable growth in Europe and Japan. A significant slowdown in China is a concern, along with slower growth in other emerging economics like Brazil.
  • Geopolitical risks could cause short-term volatility.

While the equity market drop was concerning, we viewed the move as more of a correction than the start of a bear market. The worst equity market declines are associated with recessions, which are preceded by substantial central bank tightening or accelerating inflation. As described above, we don’t see these conditions being met yet today. The trend of the macro data in the U.S. is still positive, and a significant slowdown in China, which will certainly weigh on global growth, is not likely enough to tip the U.S. economy into contraction. Even as the Fed begins tightening monetary policy later this year, the pace will be measured as inflation is still below target. While we expect a higher level of volatility as the market digests the Fed’s actions and we move through the second half of the business cycle, we remain positive on risk assets over the intermediate term. Increased volatility creates opportunities that we can take advantage of as active managers.

Source: Brinker Capital. Views expressed are for informational purposes only. Holdings subject to change. Not all asset classes referenced in this material may be represented in your portfolio. All investments involve risk including loss of principal. Fixed income investments are subject to interest rate and credit risk. Foreign securities involve additional risks, including foreign currency changes, political risks, foreign taxes, and different methods of accounting and financial reporting. Brinker Capital, Inc., a Registered Investment Advisor.

Investment Insights Podcast – October 27, 2015

miller_podcast_graphicBill Miller, Chief Investment Officer

On this week’s podcast (recorded October 27, 2015):

What we like: Tentative budget debt deal between Congress and President should fund government for next several months; better news and business activity out of China; U.S. consumer balance sheet good; wage growth positive; oil prices remain low

What we don’t like: Initial third quarter earnings just OK; some sales misses due to strong dollar and energy; manufacturing sector under great pressure

What we’re doing about it: Slow and steady wins the race; keeping an eye on any recession-related talk

Click here to listen to the audio recording

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change.

Investment Insights Podcast – August 14, 2015

miller_podcast_graphicBill Miller, Chief Investment Officer

On this week’s podcast (recorded August 13, 2015):

What we don’t like: Oil prices are making new lows; the Federal Reserve is expected to raise interest rates in September; China economy continues to slow and there is an overall mix of economic news

What we like: Labor and wages; housing and automotive industries are strong; back to school season is around the corner; hopeful that we’re not too far from better economic news

What we’re doing about it: No change in our strategic products; more defensive in our tactical products and will remain that way going into the Federal Reserve’s interest rate policy in September

Click here to listen to the audio recording

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change.

 

Investment Insights Podcast – April 22, 2015

Bill MillerBill Miller, Chief Investment Officer

On this week’s podcast (recorded April 16, 2015), Bill provides an update from last week’s podcast and focuses on how companies are managing earnings:

Here are some of the highlights:

  • Two weeks into the earnings seasons, with 10% of S&P 500 companies reporting, news is surprisingly good
  • Expectations were down due to lower oil prices and strong dollar
  • It’s still early! Many reports are in from the financial sector but still waiting on materials, energy and industrials sectors
  • Initial earnings skewed by a few standout companies reporting strong quarters
  • If good sales growth and good earnings guidance continues, stock market could still perform well despite higher valuations.

Click here to listen to the audio recording.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change.

Monthly Market and Economic Outlook: March 2015

Amy MagnottaAmy Magnotta, CFASenior Investment Manager, Brinker Capital

Global equity markets delivered solid gains in February, helped by a stabilization in crude oil prices, signs of better economic growth in Europe, and a short-term resolution in Greece. It was a “risk-on” environment for U.S. equities, with the S&P 500 gaining 5.8%, despite more mixed economic data. Cyclical sectors, like consumer discretionary and information technology, posted gains of more than 8%, while the more defensive utilities sector fell more than -6% during the month. In the U.S. growth outpaced value, but there was little differentiation by size.

International developed equities were slightly ahead of U.S. equities in February despite continued U.S. dollar strength. European equities in particular exhibited strength ahead of the ECB’s quantitative easing program. Emerging market equities had positive returns in February, but lagged developed markets. Brazil, India and China were all relatively weak, while emerging European equities fared the best. A ceasefire agreement with Ukraine, as well as the stabilization in oil prices, helped boost Russia’s currency and their equity markets, which gained more than 22% in USD terms.

U.S. Treasury yields rose in February, with the yield on the 10-year Treasury note climbing 32 basis points to 2.0%. In her comments to Congress, Fed Chair Yellen laid the groundwork for the Fed’s first rate hike this year, which could come as early as June. All sectors in the Barclays Aggregate were negative in February, with Treasuries experiencing the largest decline. High yield credit spreads tightened meaningfully during the month and high yield bonds gained more than 2%. Municipal bonds were slightly behind taxable bonds for the month.

Our outlook remains biased in favor of the positives, while paying close attention to the risks. We feel we have entered the second half of the business cycle, but remain optimistic regarding the global macro backdrop and risk assets over the intermediate-term. As a result our strategic portfolios are positioned with a modest overweight to overall risk. A number of factors should support the economy and markets over the intermediate term.

  • Global monetary policy accommodation: Despite the Federal Reserve heading toward monetary policy normalization, the ECB and the Bank of Japan have both executed bold easing measures in an attempt to support their economies.
  • U.S. growth stable: Economic growth has improved over the last few quarters. A combination of strengthening labor markets and lower oil prices are likely to provide the stimulus for stronger-than expected economic growth in the near-term.
  • Inflation tame: Reported inflation measures and inflation expectations in the U.S. remain below the Fed’s 2% target.
  • U.S. companies remain in solid shape: U.S. companies have solid balance sheets are beginning to put cash to work. Earnings growth has been decent and margins have been resilient.
  • Less uncertainty in Washington: After serving as a major uncertainty over the last few years, Washington has done little damage so far this year; however, Congress will still need to address the debt ceiling before the fall. Government spending has shifted to a contributor to GDP growth in 2015 after years of fiscal drag.

However, risks facing the economy and markets remain, including:

  • Timing/impact of Fed tightening: The Fed has set the stage to commence rate hikes later this year. Both the timing of the first rate increase, and the subsequent path of rates is uncertain, which could lead to increased market volatility.
  • Slower global growth: While growth in the U.S. is solid, growth outside the U.S. is decidedly weaker. The Eurozone is flirting with recession and Japan is struggling to create real growth. Growth in emerging economies has slowed as well.
  • Geopolitical risks: Issues in Greece, the Middle East and Russia, could cause short-term volatility.
  • Significantly lower oil prices destabilizes global economy: While lower oil prices benefit consumers, should oil prices re-test their recent lows and remain there for a significant period, it would be a negative not only for the earnings of energy companies, but also for oil dependent emerging economies and the shale revolution in the U.S.

While valuations have moved above long-term averages and investor sentiment is neutral, the trend is still positive and the macro backdrop leans favorable, so we remain positive on equities. The ECB’s actions, combined with signs of economic improvement, have us more positive in the short-term regarding international developed equities, but we need to see follow-through with structural reforms. We expect U.S. interest rates to remain range-bound, but the yield curve to flatten. Fed policy will drive short-term rates higher, but long-term yields should be held down by demand for long duration safe assets and relative value versus other developed sovereign bonds.

However, as we operate without the liquidity provided by the Fed and move through the second half of the business cycle, we expect higher levels of market volatility. This volatility should lead to more opportunity for active management across asset classes. Our portfolios are positioned to take advantage of continued strength in risk assets, and we continue to emphasize high conviction opportunities within asset classes, as well as strategies that can exploit market inefficiencies.

Asset Class Outlook Comments
U.S. Equity + Quality bias
Intl Equity + Country specific
Fixed Income +/- HY favorable after ST dislocation
Absolute Return + Benefit from higher volatility
Real Assets +/- Oil stabilizes; interest rate sensitivity
Private Equity + Later in cycle

Source: Brinker Capital

Views expressed are for informational purposes only. Holdings subject to change. Not all asset classes referenced in this material may be represented in your portfolio. All investments involve risk including loss of principal. Fixed income investments are subject to interest rate and credit risk. Foreign securities involve additional risks, including foreign currency changes, political risks, foreign taxes, and different methods of accounting and financial reporting. Past performance is not a guarantee of similar future results. An investor cannot invest directly in an index.

Investment Insights Podcast – February 5, 2015

Raupp_Podcast_GraphicJeff Raupp, CFA, Senior Investment Manager

On this week’s podcast (recorded January 31, 2015):

What we like: Yields on investment-grade and high-yield corporate bonds have moved higher; credit is strong fundamentally; investors indiscriminately selling credit securities

What we don’t like: Impact of lower oil prices on energy companies; possible creation of defaults

What we’re doing about it: Keeping current weight to credit, but opportunities arising due to credit selling; monitoring falling oil prices

Click here to listen to the audio recording

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change.

An Update on Oil

Ryan DresselRyan Dressel, Investment Analyst, Brinker Capital

As of January 29, 2015, the price per barrel of West Texas Intermediate crude oil stands at $44, down just about 60% since its 52-week high in June 2014 (See chart below). For each 10% drop in oil, forecasters seemed to gawk at the possibility of further price decline, citing global demand projections, U.S. energy independence from The Organization of Petroleum Exporting Countries (OPEC), and increased consumption from emerging markets. What they omitted from their projections, however, was the impact that U.S. and Canadian production had on OPEC from a political standpoint.

Crude Oil WTI (NYM $/bbl) Continuous (CL00-USA)

Source: FactSet

OEPC has not adhered to an individual country production quota since 2011, but with oil prices around $100 per barrel in recent years, it was relatively insignificant news. These high prices actually worked against OPEC by encouraging too much competition from North America. During that time, North American energy companies were in the midst of ramping up production from shale, oil sands and other sources that were previously expensive to produce (refer to graphic below). In fact, United States domestic production has nearly doubled over the past six years[1]. Eventually in mid-2014, global demand for oil began to lag supply, caused by weak economic growth in Asia and Europe, which sent the price of oil plummeting.

Source: BofA Merrill Lynch Global Commodity Research

Source: BofA Merrill Lynch Global Commodity Research

Facing pressure from these new low prices, OPEC met on November 27, 2014 to discuss curbing production in an effort to support higher price levels. Since OPEC’s production quota was abandoned, each member country was unwilling to reduce its output.

The indecisiveness at this meeting signaled some very profound conclusions to the market. First, it re-confirmed that OPEC continues to become a disorganized collection of countries, rather than an organized cartel. This is important because it implies that OPEC is no longer acting as a balancing agent in global markets, which can significantly increase volatility. The second conclusion made by the market was that Saudi Arabia is unwilling to cede its crude oil market share (12.2% of global production as of September 2014[2]). In a bold statement made last December, Saudi Arabia’s oil minister, Ali Al-Naimi, confirmed these assumptions:

“If I reduce, what happens to my market share? The price will go up, and the Russians, the Brazilians, U.S. shale oil producers will take my share,” Al-Naimi told the Middle East Economic Survey last month. “Whether it goes down to $20 a barrel, $40 a barrel, $50 a barrel, $60 a barrel, it is irrelevant.”

The final conclusion from the November meeting was that smaller countries who depend on oil as a large part of their government revenue, cannot afford to cut production. These countries include Iran, Iraq, UAE, Venezuela and Nigeria among others. Due to the fact that Saudi Arabia’s reserves far exceed other OPEC members (See graphic below), they can afford to wait out low oil prices while others cannot.

Source: IEA, BofA Merrill Lynch Global Commodity Research

Source: IEA, BofA Merrill Lynch Global Commodity Research

What to Watch For:

There are many factors to watch as it relates to oil and its impact on various asset classes, interest rates, credit quality, and foreign exchange rates. The two most important factors are U.S. producer inventories and the Saudi production rate.

As of January 23, 2015, U.S. oil inventories reached their highest December levels since 1930 (383.5 million barrels)[3]. According to Bank of America Merrill Lynch, it takes U.S. shale producers 6 -12 months to react to rising or falling prices. If aggregate inventory levels remain near max capacity while the U.S. production rate falls, it would indicate that drilling projects are being cancelled and would likely have a large impact on small, highly-levered shale players. In turn, this could increase the number of defaults on energy company debt, which would have a negative impact on fixed income markets. The timing of these potential defaults could be accelerated as the foreign exchange rate of the U.S. dollar continues to rise. A stronger U.S. dollar makes it more expensive to finance debt levels[4]. As previously mentioned, it is clear that the Saudis want to retain their market share and continue to drive out production from their competitors.

Internationally, it will be important to monitor global economic growth (especially in China and India), which affects demand. If demand stays relatively low, it will put additional pressure on smaller OPEC members to plead with the Saudis to cut production or take unprecedented actions to support their economies. Those countries may have their patience tested, as the International Energy Agency forecast an annual demand increase of just 900,000 barrels per day in their January report (unchanged from December)[5].

Geopolitical risk is also an important factor to watch. The instability in neighboring Yemen could threaten Saudi Arabia’s production. Elsewhere, ISIS and the conflict between Ukraine and Russia add uncertainty to the global crude oil supply.

As the price of oil continues to decline, investors are attempting to take advantage. The four biggest oil exchange-traded products listed in the U.S. received a combined $1.23 billion in December, the most since May 2010, according to Bloomberg[6]. Regardless, the market may require patience as the Saudis’ political chess game plays itself out while crude oil prices continue to decline.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change.


[1] International Energy Agency, 2014

[2] U.S. Energy Information Administration, 2014. http://www.eia.gov/cfapps/ipdbproject/iedindex3.cfm?tid=50&pid=57&aid=1&cid=&syid=2010&eyid=2014&freq=M&unit=TBPD

[3] American Petroleum Institute, January 23, 2015

[4] Drilling, producing, and transporting oil is a very expensive process. As such, many U.S. energy producers require debt financing to fund capital investment. The total debt level of energy companies is approximately 16% of the U.S. High Yield Debt Market, which is almost four times higher than in 2004. Tudor, Pickering, Holt & Co. (TPH) has determined that at least 40 publicly held North American-focused E&Ps have reduced their 2015 capital expenditure guidance since December 8th by an average 31% from 2014 spending levels.http://www.naturalgasintel.com/articles/100977-domino-effect-of-lower-oilgas-ep-capex-now-hitting-offshore-midstream

[5] Oil Market Report, International Energy Agency. January 16, 2015. http://www.iea.org/newsroomandevents/news/2015/january/iea-releases-oil-market-report-for-january.html

[6] http://www.bloomberg.com/news/articles/2015-01-07/oil-investors-pour-most-money-into-funds-in-4-years

Investment Insights Podcast – November 6, 2014

Bill MillerBill Miller, Chief Investment Officer

On this week’s podcast (recorded November 5, 2014):

What we like: Current economic environment we are in; recession doesn’t appear to be close; U.S. Dollar is stronger; oil prices lower

What we don’t like: Europe; need to see more evidence of monetary action that will work

What we’re doing about it: Closer look at U.S. equities; considering future entry points in Europe

Click here to listen to the audio recording

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change.

Investment Insights Podcast – October 28, 2014

Bill MillerBill Miller, Chief Investment Officer

On this week’s podcast (recorded October 27, 2014):

What we like: Oil prices are down, which is good for overall energy prices; may present slight tax break; lower prices may help consumption moving into the holiday season

What we don’t like: U.S. has been the beneficiary of the energy renaissance for the past few years, with high oil prices being a good thing; lower oil prices may weaken that renaissance

What we’re doing about it: Watching to see if Goldilocks period will continue; watching if oil prices fall further and hurt U.S. energy renaissance

Click here to listen to the audio recording

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change.