Monthly Market and Economic Outlook: April 2015

Amy MagnottaAmy Magnotta, CFASenior Investment Manager, Brinker Capital

After 2014 was dominated by the strong performance of the narrow S&P 500 Index, the first quarter of 2015 showed better results for diversified portfolios and higher levels of volatility across and within asset classes—both positive developments for active management.

The focus remained on the Federal Reserve and the timing of the initial interest rate hike despite U.S. economic data coming in below expectations. The S&P 500 gained just 1% for the quarter, while mid caps and small caps fared better, gaining 4%. Growth outperformed value across all market caps, and high-dividend-paying stocks lagged amid concern of higher interest rates. The strong dollar also hurt U.S. multinationals as a high percentage of their profits are derived from overseas. Despite a strong February, commodity prices fell again in March and were the worst performing asset class for the quarter.

shutterstock_28211977While the anticipation of tighter monetary policy may have weighed on U.S. equity markets in the first quarter, looser monetary policy helped to boost asset prices in international developed markets. The MSCI EAFE Index surged 11% in local terms, but the stronger dollar dampened returns in U.S. dollar terms to 5%, still 400 basis points ahead of the S&P 500 Index. The euro fell -11% versus the dollar, the largest quarterly decline since its inception in 1999. Japan also benefited from central bank policy, gaining 10%.

Emerging market equities outpaced U.S. equities for the quarter, gaining 2.3%; however, dispersion was quite wide. All emerging regions delivered positive returns in local currency terms, although weaker currencies in Latin America had a significant impact for U.S. investors. For example, Brazil’s equity market gained 3% in local terms, but fell -15% in U.S. dollar terms. China and India posted solid gains of 5-6% for the quarter.

The 10-year U.S. Treasury yield bounced around in the first quarter, first declining 49 basis points in January, then climbing 56 basis points in February before declining again to end the first quarter at a level of 1.94%, 23 basis points lower than where it started. The Barclays Aggregate Index outperformed the S&P 500 Index for the quarter, with all sectors in positive territory. Credit spreads tightened modestly during the quarter and the high-yield sector outperformed investment grade. Municipal bonds were slightly behind taxable bonds as the market had to digest additional supply.

Our outlook remains biased in favor of the positives but recognizes that risks remain. We feel we have entered the second half of the business cycle and 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: U.S. economic growth remains solidly in positive territory and the labor market has markedly improved.
  • 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 through capex, hiring and M&A. Earnings growth outside of the energy sector is 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 initial 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. It remains to be seen whether central bank policies can spur sustainable growth in Europe and Japan. Growth in emerging economies has slowed as well.
  • Geopolitical risks: Issues in the Middle East, Greece 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 normalize, but remain range-bound, and 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.

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 + Neutral vs. U.S.
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 11, 2015

Rosenberger_PodcastAndrew Rosenberger, CFA, Senior Investment Manager

On this week’s podcast (recorded February 5, 2015): We break away from our traditional format to hear Andy breakdown 2014 performance in terms of a diversified portfolio versus the S&P 500.

Highlights from the podcast include:

  • U.S. markets trumped mostly all other markets in 2014
  • Caution against knee-jerk reactions from investors to move portfolios from international to domestic
  • Encourage keeping an open mind to international opportunity given the 2014 pace of U.S. equities may be unlikely to continue
  • International markets are up year to date; U.S. slightly negative
  • Risks remain–new Greek government, elections in Spain, etc.

Listen here for the full version of Andy’s insights.

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.

Yale Endowment Proves, Once Again, That A Free Lunch is Not a Thing of the Past

Sue BerginSue Bergin, President, S Bergin Communications

In 1952, Harry Markowitz, an unknown 25-year old graduate student at the University of Chicago, defined risk mathematically for the first time. He also explained how investors could lower volatility while preserving expected returns if they incorporated different investments that are not highly correlated. He went on to explain, “diversification is a kind of free lunch at which you can combine a group of risky securities with high expected returns into a relatively low-risk portfolio, so long as you minimize the covariances, or correlations, among the returns of the individual securities.”

YaleThe most prominent institutional investor in developing the multi-asset class investment model was, and remains, David Swensen, chief investment officer of the Yale University Investment Office. The power of diversification to act as a free lunch is described in his book Pioneering Portfolio Management. Swensen, the long-term Chief Investment Officer at Yale University and father of the Yale Endowment Model, believed in avoiding liquidity rather than seeking it, since it comes at a cost of lower returns. The Yale Endowment Model emphasizes broad diversification and makes the case for allocating only a small amount to traditional U.S. equities and bonds and more to alternative investments.

Today, multi-class investing means different things to different people. Initially the Yale Model was based on an asset class composition that included six asset classes. It currently uses seven asset classes: domestic equity, foreign equity, fixed income, absolute return, natural resources, real estate, and private equity.

When it comes to achieving purity of asset class composition, Swensen had to say this:

Purity of asset class composition represents a rarely achieved ideal. Carried to an extreme, the search for purity results in dozens of asset classes, creating an unmanageable multiplicity of alternatives. While market participants disagree on the appropriate number of asset classes, the number should be large enough so that portfolio commitments make a difference, yet small enough so that portfolio commitments do not make too much of a difference. Committing less than 5 percent or 10 percent of a fund to a particular type of investment makes little sense; the small allocation holds no potential to influence overall portfolio results. Committing more than 25 percent or 30 percent to an asset class poses danger of overconcentration. Most portfolios work well with around a half a dozen of asset classes [1].

Swensen’s views on diversification and asset allocation continue to pay off. According to the preliminary 2014 results of the NACUBO-Commonfund Study of Endowments, larger, better-diversified endowments have outperformed their smaller, equity heavy peers.

On average, the 426 university and college endowments in the study returned 15.8%, while endowments with more than $1 billion returned on average 16.8%, and endowments with between $500 million and $1 billion, saw investment returns of 16.2%.

Free LunchYale University led the group, posting 20.2% gains. Further proof that the free lunch concept is alive in well in 2014.

The principles and benefits of diversification are well supported by academic thought. When selecting an investment manager, advisors and investors should consider a firm that believes in the value of the free lunch by taking a multi-asset class investment approach.

[1] Swensen, D. (2009). Asset Allocation. In Pioneering Portfolio Management (p. 101). New York: Simon and Schuster.

The views expressed are those of Brinker Capital and are for informational purposes only. Brinker Capital, Inc., a Registered Investment Advisor.

Investment Insights Podcast – July 25, 2014

Bill MillerBill Miller, Chief Investment Officer

On this week’s podcast (recorded July 23, 2014), we alter the format to provide commentary on a recent publication from the Ned Davis Research Group.

The article references an old adage that when the public gets in the stock market, it’s too late. While that’s a bit cynical, the public is not always wrong. Recently, the bond market seems to show that over the past five years, the public is pretty smart. Here are some additional takeaways:

  • The allocation to stocks is on the high side, but not excessive
  • Cash allocation seems low
  • Flows into equities and bonds have been good

This, and other measures, lends itself to believe that the public is in (the market), but not excessively in. However, are they in because they want to be in or because the have to be in? The Fed’s zero interest rate policy seems to drive behavior of investors towards stocks–creating a feeling that the public is not in.

The takeaway is that we have to be mindful if the allocations get too big. A defense for that is diversification across different asset classes.

Click the play icon below to launch the audio recording or click here.

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.

Technology Watch: Investing Into The Future

Dan WilliamsDan Williams, CFP, Investment Analyst

I recently had the opportunity to attend a conference that centered on the big ideas in technology happening right now. Hearing from such people as Andrew McAfee (author of the 2012 book Race Against the Machine and his most recent The Second Machine Age), Steven Kotler (author of Abundance: The Future Is Better Than You Think), and Charles Songhurst (former Head of Corporate Strategy at Microsoft), I can make a few blanket statements.

First, these guys are humbled, awestruck, and blown away by the advances being made in technology; specifically in robotics, 3D printers, and in general computing power. Second, the individual and the consumer will be empowered by this technology. Lastly, don’t try to pick the winning company, rather win by picking the area as a whole.

3D PrintingThis last point may seem to some as a “coward’s way out”, but consider the CNN Money article from December 31, 1998, Year of the Internet Stock. In this article Amazon, eBay, AOL,, Cyberian Outpost, and a few other names that have since been lost to history, are listed as stocks that had a great year and are part of the revolution. In the 15 years (1/1/1999 to 12/31/2013) following this article, Amazon and eBay clearly have proven to be the winners among the group, returning a cumulative return of 644.81% and 445.81% respectively as the others essentially went to zero. However, if you broaden the technology space, Apple would have been the big winner with an astonishing 5,569.77% cumulative return for this 15-year period. In other words, the idea that the internet was going to be a game changer in the way we communicate and the technologies we use was right, but our clever execution by picking the few likely winners likely would have missed the boat.

Now, let’s fast forward to today as we stare upon a robotic and biotech revolution. While there are a few select names that seem to be the smart bets to land among the big winners—given the magnitude of impact these two areas will have on the way we live and the uncertainty in the specifics of the path this change will actually take—picking an individual winner involves a level of hubris, while diversification within this idea can add value.

Future of TechnologyI left the conference fully convinced that these concepts, both current and future, are going to change the world; however, I remain very cautious regarding the execution and process. Without giving any type of recommendation, there exists at least half a dozen Biotech-focused ETFs. Late last year, the first robotics-focused ETF (ROBO) was launched—and it won’t be the last. All of these are less exciting answers to investing in new technologies versus trying to pick the winner, but as the American poet Ogden Nash once wrote, “Too clever is dumb.”

Investment Insights Video: Responding to Rising Interest Rates

In May, Federal Reserve Chairman, Ben Bernanke, announced the possibility that they will begin tapering in the upcoming months. As that notion looms, so too does the prospective of rising interest rates.

We sat down with Bill Miller, Chief Investment Officer, and Jeff Raupp, Senior Portfolio Manager to discuss how Brinker is prepared to respond to the upcoming policy changes.  In this installment of Investment Insights, Bill and Jeff will give financial advisors and investors a clearer understanding of the tools available to Brinker Capital and how our portfolios can manage the impending environment of rising interest rates.


Seeking a Greater Purpose in Investing

Dan WilliamsDan Williams, CFP, Investment Analyst

The “science” of investing is well known. The modern portfolio theory (MPT) of investments developed over the past 50 years, starting with Harry Markowitz, has become so ingrained into the investment management culture that the concept of portfolio diversification has become second nature to most people. This is of course due to the mathematical analysis showing that diversification improves investment portfolios’ risk and return characteristics. To say differently, it makes good math sense.

6.27.13_Williams_1Recently though, investment management research has begun to venture into the new field know as Behavioral Finance. At a high level, this theory points out that the owners of these investment portfolios are not emotionless robots that are attempting to optimize the expected value of portfolios for a given level of risk, but rather humans who have reactions to watching their portfolios change in value and who also have goals for the wealth created. Often times this theory’s task seems to be to point out our human flaws and biases so that we can move closer to MPT. This includes our confirmation bias (seeking out only information we agree with rather than information that challenges our thinking), overconfidence bias (believing we are above average in our skills), and loss aversion (finding that we will irrationally gamble to avoid a loss already sustained but unwilling to take a gamble that might result in a loss, even when the odds are in our favor). Still, this idea also points out what gets lost in the math of MPT. Specifically, that an investment portfolio has greater purpose than just the accumulation of money.

The meaning here can be shown in the following dream scenario. You take a trip to Vegas, you see a slot machine, you put a dollar into the machine for fun, pull the lever, and you hit the big jackpot. You are then told that you can either have the $10 million prize immediately, or a flip of a coin for the chance to win $25 million or lose it all. The vast majority of people would take the $10 million dollars. Consider instead the experience of the MPT optimizing robot. First, the robot would likely not put the $1 into the slot machine. Why put $1 in when the expected value is $0.95? Second, given the jackpot options the robot would likely gamble it all at the chance for $25 million as the expected value of $12.5 million is greater than the $10 million. The math is clear—the robot is optimizing and we are not. But that is not the whole story.

6.27.13_Williams_2First, most humans get utility from putting a dollar into a slot machine outside of the outcome of the gamble. As such, we may be rational to gamble if the utility of the $0.95 expected value and the experience of gambling together are greater than the utility of the $1 in our pocket. Second, given the jackpot options, outside of the fear of losing the $10 million, there is also a diminishing marginal utility to money. That is to say simply that an extra $1 million to you or me changes our lives a lot more than an extra $1 million to Warren Buffett. It is quite possible that the utility we tie to that first $10 million is greater than the utility to that next $15 million. As such, we could be rational in both the action to gamble and the decision to take $10 million.

While lottery dreams are nice, the practical meaning is that our investments allow us to do things. Said differently, our investment balance is not just a number, it represents our ability to meet goals. To some, that $10 million meant the ability to have the freedom to travel, to retire for others, a fleet of cars to those so inclined, and a chance to make the world a better place for still others.

NorthstarIn this line of thinking, the relatively newly developed bucket approach to investment management ties specific assets to specific goals. This simple concept turns a portfolio that is invested based on some risk profile that in an opaque manner will meet your goals into a portfolio of portfolios that represent directly your goals. Accordingly, rather than having portfolio performance measured against a generic market benchmark, the measure that matters is whether each of these portfolios is on track to meet their assigned goals. Accordingly, Brinker Capital’s recent offering in this area is appropriately named “Personal Benchmark.” A final point is that people draw utility not just from spending their investments to meet goals, but also from where and how they invest. Socially Responsible Investing, also known as ESG (Environmental, Social and Governance), allows people to allocate capital where they believe the welfare of those outside themselves is best considered. Outside of the fact that there is evidence that investing in industries and companies that have these positive attributes may also improve investment performance, the fact that we are able to encourage positive change in the world while we save for our goals is a powerful concept.

In aggregate, the recent changes to investment management are brilliant in their simplicity to give purpose back to investments. The more empowered we feel with meeting our goals with our investments, the more likely we are to meet, and even exceed, those goals.