World Cup of Liquidity

Joe PreisserJoe Preisser, Portfolio Specialist, Brinker Capital

With the eyes of the world currently trained on Brazil, and the incredible spectacle of the globe’s most popular sporting event, there is another coordinated effort taking place on the world stage, albeit one with less fanfare and pageantry, but possessing a far greater effect on the global economy, and that is the historically accommodative policies of two of the world’s major central banks. The unprecedented amount of liquidity being thrust into the system by these institutions has helped fuel the current bull market in equities, which continues to push stocks listed around the world further and further into record territory.

World CupThe more powerful of these central banks, the Federal Reserve Bank of The United States, is attempting to gradually extricate itself from a portion of the record measures it has taken to revive growth following the Great Recession, which have caused its balance sheet swell to more than $4 trillion (New York Times) while not causing the economy to suddenly decelerate. “To this end, last week the Fed announced a continuation of the reduction of its monthly bond purchases by $10 billion, bringing the new total to $35 billion.” They also voiced their collective intention to keep short-term interest rates at their current historically low levels until 2015. Financial markets rallied following this news as investors focused largely on the Fed’s comments regarding rates, as well as the little-discussed fact that although their monthly purchases are being slowly phased out, the Central Bank continues to reinvest the proceeds from maturing bonds, thus maintaining a measure of the palliative effect. According to the New York Times, “Fed officials generally argue that the effect of bond buying on the economy is determined by the Fed’s total holdings, not its monthly purchases. In this view, reinvestment would preserve the effect of the stimulus campaign.” Although the American Central Bank is attempting to pare back its efforts to boost growth in the world’s largest economy, the accommodative measures currently in place look to remain so long after its bond purchases are concluded.

Preisser_Liquidity_6.23.17_2Mario Draghi, on June 5, made history when he announced that the European Central Bank (ECB) had become the first major Central Bank to introduce a negative deposit rate. As part of a collection of measures designed to spur growth and combat what has become dangerously low inflation within the Monetary Union, the ECB effectively began penalizing banks for any attempt to keep high levels of cash stored with them. In addition to this unprecedented step, Mr. Draghi unveiled a plan to issue four-year loans at current interest rates to banks, with the stipulation that the funds in turn be lent to businesses within the Eurozone, (New York Times). The actions of the ECB were cheered by investors who sent stocks listed across the Continent to levels unseen in more than six-and-a-half years, with the expectation that the Central Bank will remain committed to combating the significant economic challenges that remain for this collection of sovereign nations. To this end, Mr. Draghi suggested, during his press conference, that he is considering additional growth inducing measures, which may include the highly controversial step of direct asset purchases. Mr. Draghi gave voice to his resolve, and a glimpse of what the future might hold when he said, “we think this is a significant package. Are we finished? The answer is no” (New York Times).

The actions of both the Federal Reserve and the European Central Bank have directly contributed to the current rally in risk assets, but have also created a conundrum of sorts for investors; as though their historic measures have sent prices to record levels, the conclusion of these programs carry with them serious risks of disruption, as they too are unprecedented.

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 – June 6, 2014

Bill MillerBill Miller, Chief Investment Officer

On this week’s podcast (recorded June 5, 2014): Bill reacts to the long-awaited policy change announcement from Mario Draghi, president of the European Central Bank.

What we like: Announcement met or exceeded expectations; lower interest rates; bank lending stimulated; a wide variety of positives overall

What we don’t like: Didn’t deliver the “helicopter”; fell short of establishing a program to buy securities, similar to quantitative easing

What we are doing about it: Leaning towards a more bullish posture in Europe; looking at emerging market companies that would benefit from the lower interest rates

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.

Investment Insights Podcast – May 13, 2014

Bill MillerBill Miller, Chief Investment Officer

On this week’s podcast (recorded May 12, 2014):

What we like: Bob Doll’s comments on favoring the economy more than the stock market; positive economic data post-winter

What we don’t like: Stock market no longer a bargain, now more fully valued

What we are doing about it: Focus more on larger themes and individual active managers; looking out for potential rise in interest rates during summer

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.

Monthly Market and Economic Outlook: May 2014

Amy MagnottaAmy Magnotta, CFASenior Investment Manager, Brinker Capital

The severe rotation that began in the U.S. equity markets in early March continued throughout April. Investors favored dividend-paying stocks and those with lower valuations at the expense of those trading at higher valuations. Large caps significantly outpaced small caps (+0.5% vs. -3.9%) and value led growth. From a sector perspective, energy (+5.2%), utilities (+4.3%) and consumer staples (+2.9%) led while financials (-1.5%), consumer discretionary (-1.4%) and healthcare (-0.5%) all lagged. Real assets, such as commodities and REITs, also continued to post gains.

International equity markets finished ahead of U.S. equity markets in April, eliminating the performance differential for the year-to-date period. In developed international markets, Japan continues to struggle, while European equities are performing well, helped by an improving economy. After a strong March, emerging markets were relatively flat in April. There has been significant dispersion in the performance of emerging economies so far this year; this variation in performance and fundamentals argues for active management in the asset class. Valuations in emerging markets have become attractive relative to developed markets.

Fixed income notched another month of decent gains in April as Treasury yields fell shutterstock_105096245_stockmarketchartslightly. At 2.6%, 10-year Treasury note yields remain 40 basis points below where they started the year and only 60 basis points higher than when the Fed began discussing tapering a year ago. All fixed income sectors were in positive territory for the month, led again by credit. Both investment grade and high yield credit spreads continue to grind tighter. Within the U.S. credit sector fundamentals are solid and the supply/demand dynamic is favorable, but valuations are elevated, especially in the investment grade space. We favor an actively managed best ideas strategy in high yield today, rather than broad market exposure. Municipal bonds have outpaced the broad fixed income market, helped by improving fundamentals and a positive technical backdrop.

While we believe that the long term bias is for interest rates to move higher, the move will be protracted. Sluggish economic growth, low inflation and geopolitical risks are keeping a lid on rates for the short-term. Despite our view on rates, fixed income still plays an important role in portfolios, as protection against equity market volatility. Our fixed income positioning in portfolios – which includes an emphasis on yield advantaged, shorter duration and low volatility absolute return strategies – is  designed to successfully navigate a rising or stable interest rate environment.

We approach our macro view as a balance between headwinds and tailwinds. We believe the scale remains tipped in favor of tailwinds as we move through the second quarter, with a number of factors supporting the economy and markets over the intermediate term.

  • Global monetary policy remains accommodative: Even with the Fed tapering asset purchases, short-term interest rates should remain near-zero until 2015 if inflation remains low. In addition, the ECB stands ready to provide support if necessary, and the Bank of Japan continues its aggressive monetary easing program.
  • Global growth stable: U.S. economic growth has been slow but steady. While the weather had a negative impact on growth in the first quarter, we expect growth to pick up in the second quarter. Outside of the U.S., growth has not been very robust, but it is still positive.
  • Labor market progress: The recovery in the labor market has been slow, but we have continued to add jobs. The unemployment rate has fallen to 6.3%.
  • Inflation tame: With the CPI increasing just +1.5% over the last 12 months and core CPI running at +1.7%, inflation is below the Fed’s 2% target. Inflation expectations have also been contained, providing the Fed flexibility to remain accommodative.
  • U.S. companies remain in solid shape: U.S. companies have solid balance sheets that are flush with cash that could be reinvested, used for acquisitions, or returned to shareholders. Deal activity has picked up this year. Corporate profits remain at high levels and margins have been resilient.
  • Less Drag from Washington: After serving as a major uncertainty over the last few years, there has been some movement in Washington. Fiscal drag will not have a major impact on growth this year. Congress agreed to both a budget and the extension of the debt ceiling. The deficit has also shown improvement in the short-term.
  • Equity fund flows turned positive: Continued inflows would provide further support to the equity markets.

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

  • Fed Tapering/Tightening: If the Fed continues at the current pace, quantitative easing should end in the fourth quarter. Risk assets have historically reacted negatively when monetary stimulus has been withdrawn; however, this withdrawal is more gradual and the economy appears to be on more solid footing this time. The new Fed chairperson also adds to the uncertainty. Should economic growth and inflation pick up, market participants will shift quickly to concern over the timing of the Fed’s first interest rate hike.
  • Emerging Markets: Slower growth and capital outflows could continue to weigh on emerging markets. While growth in China is slowing, there is not yet evidence of a hard landing.
  • Election Year: While we noted there has been some progress in Washington, market volatility could pick up in the summer should the rhetoric heat up in Washington in preparation for the mid-term elections.
  • Geopolitical Risks: The events surrounding Russia and Ukraine are further evidence that geopolitical risks cannot be ignored.

Risk assets should continue to perform if real growth continues to recover; however, we could see volatility as markets digest the continued withdrawal of stimulus by the Federal Reserve. Economic data will be watched closely for signs that could lead to tighter monetary policy earlier than expected. Equity market valuations are fair, but are not overly rich relative to history, and may even be reasonable when considering the level of interest rates and inflation. Credit conditions still provide a positive backdrop for the markets.

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.

Source:  Brinker Capital

Source: Brinker Capital

Data points above compiled from FactSet, Standard & Poor’s, MSCI, and Barclays. The views expressed are those of Brinker Capital and are for informational purposes only. Holdings subject to change.

Investment Insights Podcast – April 30, 2014

Bill MillerBill Miller, Chief Investment Officer

On this week’s podcast (recorded April 25, 2014):

The sentiments below were inspired by Dalbar’s 20th annual investor behavior analysis. You can read a summary of the study here, via ThinkAdvisor.

What we don’t like: Investors have underperformed the markets, often due to fear and poor timing

What we like: Potential market correction during the summer; important for investors to heed the advice of their advisors and stick to investment objectives

What we are doing about it: Focus on the positives like energy renaissance, manufacturing renaissance, and goals-based solutions

Click the play icon below to launch the audio recording.

Source: Dalbar, ThinkAdvisor

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.

Volatility: Why it Matters

Ryan Dressel Ryan Dressel, Investment Analyst, Brinker Capital

Have you ever noticed how many commercials on TV use blind comparison tests to prove that their products are better than their competitors? Soft drinks, washing detergents, tablets, air fresheners, fast food chains, and even web sites all use this marketing tool on a fairly regular basis. One reason companies do this is to try to change your perception about their product. It’s human nature to associate a good or bad feeling about a product, brand, or company based on personal experiences. If you got sick from food at a restaurant for example, chances are you won’t return to that restaurant again, even if it changes the staff, menu, and décor. A blind comparison test is an attempt to convince you that a product isn’t as bad as you might think.

How can this be applied to your investments? You’ll hear dozens of mutual fund companies advertise that they are beating an index, benchmark, or peer group (such as Lipper) over a specific time frame. You could also open the Wall Street Journal and read about a mutual fund manager boasting smart decisions with regard to short-term news, such as the S&P 500 rising or falling in any given week. If you try to interpret headline news or those T.V. commercials without any context, there’s a good chance you could misjudge your portfolio and even worse, make an irrational decision! What you will rarely hear on T.V. or read in the papers is an advertisement for a portfolio that provides steady and consistent returns by managing volatility.

Why does volatility matter? To demonstrate the value of volatility, we’ll do a blind comparison using two hypothetical portfolios (you saw that coming right?). Both Portfolio A and Portfolio B started with an initial investment of $100,000 and have a sum of returns of 65% over a 10-year time period. The portfolios have the following annual returns over that time frame:

Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10
Portfolio A +2% +13% +5% +20% 7% 4% -7% -1% +16% +6%
Portfolio B +6% +25% -10% +36% -15% +11% -25% -7% +33% +11%

Which portfolio would you predict to have a higher balance at the end of the 10-year time frame? Looking at the returns we can observe a few things that jump out. Portfolio B managed to achieve extremely high gains in years 2, 4 and 9. Conversely, it also had a couple of really bad years in year 5, and year 7. It also finished the last two years with a combined +44%. Looking at Portfolio A, we can see that it never topped 20% in a given year, and never lost more than 7% in a year. It also finished seven out of the 10 years with a return of +7% or less.

If you chose Portfolio A, you would be correct!

Dressel_Volatility_4.18.14_3

As demonstrated in the charts above and below, Portfolio A has a much lower level of volatility. Through the power of compounding, this allowed Portfolio A to finish with a higher balance despite the fact that both portfolios have identical sum of returns. In reality, this is typically achieved by constructing a well-diversified portfolio using a wide array of asset classes. This is also a good reminder of how fixed income and absolute return strategies are beneficial to your portfolio in any market environment.

Dressel_Volatility_4.18.14_2

If these were actual investment products, there is no doubt that you would hear Portfolio B being advertised as an outperformer during a time frame that captures those years of strong performance. In the end however, the only thing that matters is the balance of your portfolio and that you are on track towards achieving your investment goals. Be sure to review your portfolio in the right context, especially during times of market “noise.”

Source: The data used and shown above is hypothetical in nature and shown for illustrative purposes. Not intended as investment advice.

The views expressed are those of Brinker Capital and are for informational purposes only. Holdings are subject to change.

Investment Insights Podcast – April 17, 2014

Bill MillerBill Miller, Chief Investment Officer

On this week’s podcast (recorded April 16, 2014):

Click the play icon below to launch the audio recording.

What we like: Strong stock market last year with $5.6 trillion added to shareholder wealth

4.17.14_chart

What we don’t like: Blowout tax-collection season as a result of this wealth creation; tax burden reaching into the middle class demographic

4.17.14_chart_3

What we are doing about it: Expect more demand for municipals

Click the play icon below to launch the audio recording.

Source: Strategas Research Partners, Policy Outlook, April 16, 2014

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

Monthly Market and Economic Outlook: April 2014

Amy MagnottaAmy Magnotta, CFA, Senior Investment Manager, Brinker Capital

The full quarter returns masked the volatility risk assets experienced during the first three months of the year. Markets were able to shrug off geopolitical risks stemming from Russia and the Ukraine, fears of slowing economic growth in the U.S. and China, and a transition in Federal Reserve leadership. In a reversal of what we experienced in 2013, fixed income, commodities and REITs led global equities.

The U.S. equity market recovered from the mild drawdown in January to end the quarter with a modest gain. S&P sector performance was all over the map, with utilities (+10.1%) and healthcare (+5.8%) outperforming and consumer discretionary (-2.9%) and industrials (+0.1%) lagging. U.S. equity market leadership shifted in March. The higher growth-Magnotta_Market_Update_4.10.14momentum stocks that were top performers in 2013, particularly biotech and internet companies, sold off meaningfully while value-oriented and dividend-paying companies posted gains. Leadership by market capitalization also shifted as small caps fell behind large caps.

International developed equities lagged the U.S. markets for the quarter; however, emerging market equities were also the beneficiary of a shift in investor sentiment in March. The asset class gained more than 5% in the final week to end the quarter relatively flat (-0.4%). Performance has been very mixed, with a strong rebound in Latin America, but with Russia and China still weak. This variation in performance and fundamentals argues for active management in the asset class. Valuations in emerging markets have become more attractive relative to developed markets, but risks remain which call into question the sustainability of the rally.

After posting a negative return in 2013, fixed income rallied in the first quarter. The yield on the 10-year U.S. Treasury note fell 35 basis points to end the quarter at 2.69% as fears of higher growth and inflation did not materialize. After the initial decline from the 3% level in January, the 10-year note spent the remainder of the quarter within a tight range. All fixed income sectors were positive for the quarter, with credit leading. Both investment-grade and high-yield credit spreads continued to grind tighter throughout the quarter. Within the U.S. credit sector, fundamentals are solid and the supply/demand dynamic is favorable, but valuations are elevated, especially in the investment grade space. We favor an actively managed best ideas strategy in high yield today, rather than broad market exposure.

While we believe that the long-term bias is for interest rates to move higher, the move will be protracted. Fixed income still plays an important role in portfolios as protection against equity market volatility. Our fixed income positioning in portfolios—which includes an emphasis on yield-advantaged, shorter-duration and low-volatility absolute return strategies—is designed to successfully navigate a rising or stable interest rate environment.

Magnotta_Market_Update_4.10.14_2We approach our macro view as a balance between headwinds and tailwinds. We believe the scale remains tipped in favor of tailwinds as we begin the second quarter, with a number of factors supporting the economy and markets over the intermediate term.

  • Global monetary policy remains accommodative: Even with the Fed tapering asset purchases, short-term interest rates should remain near zero until 2015. In addition, the ECB stands ready to provide support if necessary, and the Bank of Japan continues its aggressive monetary easing program.
  • Global growth stable: U.S. economic growth has been slow and steady. While the weather appears to have had a negative impact on growth during the first quarter, we still see pent-up demand in cyclical sectors like housing and capital goods. Outside of the U.S. growth has not been very robust, but it is still positive.
  • Labor market progress: The recovery in the labor market has been slow, but we have continued to add jobs. The unemployment rate has fallen to 6.7%.
  • Inflation tame: With the CPI increasing just +1.1% over the last 12 months and core CPI running at +1.6%, inflation is below the Fed’s 2% target. Inflation expectations are also tame, providing the Fed flexibility to remain accommodative.
  • U.S. companies remain in solid shape: U.S. companies have solid balance sheets with cash that could be reinvested, used for acquisitions, or returned to shareholders. Corporate profits remain at high levels, and margins have been resilient.
  • Less drag from Washington: After serving as a major uncertainty over the last few years, there has been some movement in Washington. Fiscal drag will not have a major impact on growth this year. Congress agreed to both a budget and the extension of the debt ceiling. The deficit has also shown improvement in the short term.
  • Equity fund flows turned positive: Continued inflows would provide further support to the equity markets.

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

  • Fed tapering/tightening: If the Fed continues at its current pace, quantitative easing should end in the fourth quarter. Historically, risk assets have reacted negatively when monetary stimulus has been withdrawn; however, this withdrawal is more gradual, and the economy appears to be on more solid footing this time. Should economic growth and inflation pick up, market participants may become more concerned about the timing of the Fed’s first interest rate hike.
  • Significantly higher interest rates: Rates moving significantly higher from current levels could stifle the economic recovery. Should mortgage rates move higher, it could jeopardize the recovery in the housing market.
  • Emerging markets: Slower growth and capital outflows could continue to weigh on emerging markets. While growth in China is slowing, there is not yet evidence of a hard landing.
  • Geopolitical Risks: The events surrounding Russia and Ukraine are further evidence that geopolitical risks cannot be ignored.

Risk assets should continue to perform if real growth continues to recover; however, we could see volatility as markets digest the continued withdrawal of stimulus by the Federal Reserve. Economic data will be watched closely for signs that could lead to tighter monetary policy earlier than expected. Valuations have certainly moved higher, but are not overly rich relative to history, and may even be reasonable when considering the level of interest rates and inflation. Credit conditions still provide a positive backdrop for the markets.

Magnotta_Market_Update_4.10.14_3

Source: Brinker Capital

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.

Data points above compiled from FactSet, Standard & Poor’s, MSCI, and Barclays. The views expressed are those of Brinker Capital and are for informational purposes only. Holdings subject to change.

Investment Insights Podcast – April 9, 2014

Bill MillerBill Miller, Chief Investment Officer

On this week’s podcast (recorded April 8, 2014):

Click the play icon below to launch the audio recording.

  • What we like: When companies buy shares, decreasing supply of stock in the market; Underlying fundamentals in economy are strong

Pages from JDT_APR2014-4

  • What we don’t like: When companies do too many initial public offerings, the supply in the marketplace dilutes the buying power of demand in the short-term setting the stage for a correction; IPO calendar is heavy

Pages from JDT_APR2014-3

  • What we are doing about it: Watching the IPO calendar carefully; intersection of the seasonal factors–slower summer months; Looking for a strong third and fourth quarter market

Pages from JDT_APR2014-2

Click the play icon below to launch the audio recording.

Charts Source: Strategas Research Partners, Investment Strategy Outlook, April 2014

The views expressed are those of Brinker Capital and are for informational purposes only. Holdings are subject to change.

Housing Recovery: Slow but Sustainable

Sheila BonitzSheila Bonitz, Vice President of Investment Management,
Brinker Capital

As we enter into the busiest selling season of the housing market (March – June), we are seeing signs of improvement within the housing industry as a whole. While many believe that the housing market is sustainable, it has not been a “V-shaped” recovery. Instead, it may be a long, slow road as the effects of the 2008 housing crisis are still fresh in everyone’s mind.

Positive signs for the housing industry:

U.S. Consumer Confidence

Source: FactSet

  • Mortgage delinquency rates are trending down, which is a positive for the economy.
  • Home prices are firming and increasing in some areas. The S&P/Case-Shiller Home Price Index increased +13% over the last 12 months.
  • Overall consumer confidence is increasing, and potential homebuyers are feeling better about buying a home.
  • Pent-up demand–we are well below the average of household formation since the 2008 crisis. Kids are living on the couch versus moving out.

What is different with this recovery?
Developers are much more strategic than what they were in 2006/2007. They are making purposeful, strategic decisions and are concentrating. Developers are focused on the A-market where the focus is on move-up buyers that are less sensitive to price and who have acceptable credit scores. Within the A-market, developers have flexibility with the price of the home. Slightly higher prices help to drive steady volume, which helps control inventory levels and provides steady work for the construction crews. The slightly higher home prices also give a lift to the developers’ operating margins.

Credit is still tight. The average FICO score for approved mortgage loans is 737, well above the 690 average we saw in the 2004-2007 period.

Potential homebuyers enter the housing market cautiously. With home prices on the rise again, they have concerns that their newly-purchased home value may fall sharply. 2008 clearly showed the world that there is no guarantee of generating a profit on the investment of a home. That being said, with interest rates at historic lows and with the cost of buying more advantageous than renting, we will see more people tiptoe their way back into the housing market.

Things to watch:

Mortgage Delinquency Rates

Source: FactSet

  • Does credit remain tight? Currently credit is tight. Wells Fargo* announced on 2/26/14 that they dropped their FICO minimum on FHA Loans to 600; Will other lenders follow Wells Fargo’s lead in lowering FICO minimums? If they do, we may see an increase in potential homebuyers.
  • Mortgage delinquency rates. Do they continue to trend down? If so, banks may be willing to lend.
  • Interest rate increase – gradual or sharp? The Housing market can absorb gradual interest rate increases, however; if we see another sharp increase like we did last summer, it will definitely have a negative impact on the housing market as a sharp increase in interest rates creates concern among potential homebuyers.
  • Monthly jobs report is trending up. As employment increases, the perceived pent-up demand will gradually bring more homebuyers to the market.
  • Supply. Housing supply has been low. Will there be an increase in supply for the spring selling season? Will it be met with increased demand to keep prices up?

Source: “Wells Fargo Lowers Credit Scores for FHA Loans,” National Mortgage News (Feb. 6, 2014)

The views expressed are those of Brinker Capital and are for informational purposes only. Holdings are subject to change.