2016: THE YEAR OF TRANSITIONS · 2016. 2. 12. · Interestingly, performance of the large cap S&P 500 Index has been much better than the small cap Russell 2000 Index over the past

1

2016: THE YEAR OF TRANSITIONS

Ron Florance, CFA RMF Consulting, LLC Robertson Stephens, LLC

2

WHAT HAPPENED IN 2015

Good riddance, and Happy New Year?

3

2015 ECONOMICS

Growth never seemed so uninspiring

2014

2015

2016

-1

0

1

2

3

4

5

6

7

8

USA Euro Zone China India Japan

Annual GDP Growth rates

2014 2015 2016

Source: Economist, World Bank

4

4 The Fed Awakens

After exactly seven years, the US Federal Reserve raised the federal funds rate 0.25%, stating that the “economic recovery has clearly come a long way, although it is not yet complete…” With the emerging markets in turmoil and credit issues impacting the energy sector, this change in Fed policy hardly marks the end of “the Grand Experiment.”

US Fed Funds Rate

5

US DOLLAR

Source: Thomson Reuters Datastream / Fathom Consulting

US Dollar IndexTrade-Weighted Value

2010 2011 2012 2013 2014 201565

70

75

80

85

90

95

US DOLLAR INDEX

6

US DOLLAR

Strength is not always a good thing.


U.S. Dollar Index

11.8

27.6

5.0

1 YEAR 5 YEAR 5 YEAR (Ann.)

-20%

-10%

0%

10%

20%

30%

40%

50%

60%

As of December 31, 2015

Trade-Weighted Value

7

7 China

2015 was a year of huge volatility in the Chinese equity and currency markets. Major downdrafts and government intervention have continued into the beginning of this year. Consensus views still see the world’s second largest economy transitioning to a foundation of services and consumer activity, but a lack of transparency now seems to be hindering investors’ ability to discern between actual and perceived risk.

Chinese Equities and the Renminbi

8

8 US Economy

US macroeconomic data releases in 2015 produced little more than a constant refrain of “mixed signals.” Underlying strength in employment and services activity has been tempered by stubbornly weak wages and poor manufacturing data during the latter part of the year. Net of commodities, CPI has been closer – if not above - the US Federal Reserve’s target level of 2%. In general, consensus views are structurally positive, yet qualified.

Dollar and Inflation

Manufacturing and Services

9

US LABOR MARKET

Looking at the full picture isn’t so pretty

Unemployment Rate vs. Labor Participation Rate

Source: US Bureau of Labor Statistics

10

10 Oil

Other than a modest rise early in 2015 and some stability during autumn, oil and commodities have done nothing but collapse. As a result, the potential for defaults is now becoming very real across the sector, including the largest companies like Glencore. Fiscal issues are also real; Saudi Arabia and Russia in particular are dealing with difficult domestic finances. Higher prices would be a relief, but these are nowhere in sight.

Oil and Commodity Prices

11

OIL

What are we going to spend the extra $2 trillion on?


WTI Crude Oil

-30.5

-59.4

-16.5


-80%

-60%

-40%

-20%

0%

20%

40%

60%


Price Return

12

COMMODITIES

Does everything seem that much cheaper?


S&P GSCI Commodity Index

-32.9

-56.1

-15.2


-80%

-60%

-40%

-20%

0%

20%

40%

60%


Total Return

13

13 US Equities

2015 obviously marks an end to the long upward trend of the US equity markets since 2015. Valuations for the S&P 500 remain elevated. This remains true after the correction to begin 2016, and further downside volatility is a real possibility. Strong earnings will need to drive the markets. Interestingly, performance of the large cap S&P 500 Index has been much better than the small cap Russell 2000 Index over the past six months. One would think emerging markets and China exposure in the S&P 500 would drive the inverse.


2014 201590

95

100

105

110

115

120

S&P 500 Russel 2000S&P 500 - 1Q Moving Avg. Russel 2000 - 1Q Moving Avg.

Rebase to 100


1950 1960 1970 1980 1990 2000 20100

10

20

30

40

50

US Shiller S&P 500 PE Ratio Historical Average+/- 1 Standard Deviation

US Equity Indices US Valuations

14

14 Market Indices

Outside of commodities and emerging markets, full year 2015 returns across both fixed income and equity strategies were moderate with a mix of positive and negative results in the low single digits. Despite higher interest rates, fixed income benchmarks were slightly positive, and the S&P 500 posted a 1% gain for the year. International indices were flat in local currency terms, yet the appreciation of the US Dollar pushed foreign benchmarks into negative territory.


4Q 2015 2015 5 YEAR (Ann.)

-15%

-10%

-5%

0%

5%

10%

15%

S&P 500 MSCI AC WORLDRUSSELL 2000 MSCI EAFEMSCI AC ASIA PACIFIC MSCI EM


4Q 2015 2015 5 YEAR (Ann.)

-15%

-10%

-5%

0%

5%

10%

15%

US AGGREGATE US GOVERNMENTUS CREDIT US HIGH YIELDGLOBAL AGGREGATE EM LOCAL CURRENCY

Equity Indices Bond Indices

15

15 Global Equities

Developed markets had flat returns that ultimately ended moderately negative with currency taken into account. As in the US, valuations remain elevated. Emerging markets suffered a more serious correction, but are bifurcated: lower valuations and higher uncertainty in some locales, and higher valuations in others where risk is lower.


2014 201570

75

80

85

90

95

100

105

110

MSCI EAFE MSCI EMMSCI EAFE - 1Q Moving Avg. MSCI EM - 1Q Moving Avg.

Rebase to 100


1 Year Return 2 Year Return-15%

-10%

-5%

0%

5%

MSCI Europe MSCI AsiaMSCI Europe Local Currency MSCI Asia Local Currency

Global Equity Indices

Currency Effect

16

16 Developed Markets

Unlike the US and the UK, the central banks in Japan and Europe continued to be very proactive and supportive for their respective economies. Both have quantitative easing programs in place (although have not expanded the programs recently). European data has been routinely positive with not much acceleration, but the turmoil in China will certainly affect Japan negatively in the short term. Overall, an investment thesis in these regions apart from accommodating monetary policy would be welcome.

Japan Policy Rate ECB Balance Sheet

17

17 Emerging Markets

Emerging market economies are managing a multitude of issues. The collapse in commodities and political uncertainty has raised the level of risk in Brazil. China has cut interest rates routinely since the beginning of 2015, and Russia is managing a severe budget deficit with energy prices so low. India is a bright spot with projected 2016 GDP growth of 7%, but equity markets recently have been weak like others. Positive views on emerging markets remain intact in the long run, although with an accompanying high level of expected risk.

Brazil 5 Year CDS Credit Spread PBoC Cuts Rates 6 Times in 12 Months

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FIXED INCOME

At least it wasn’t negative


U.S. 10 Year Treasury Note

1.6

24.8

4.5


-10%

0%

10%

20%

30%

40%


Total Return

19

FIXED INCOME


U.S. 10 Year Treasury NoteYield

2010 2011 2012 2013 2014 2015

1.5

2.0

2.5

3.0

3.5

4.0

Bloomberg Commodity Index

20

20 US Rates

The US Federal Reserve raised interest rates in December, and there was little, if any, impact. The US Treasury curve is modestly higher versus one year ago. Published FOMC expectations are for steady, quarterly 0.25% interest rate increases through 2015. The market though is indicating a belief that volatility and corporate credit issues could hinder these plans.

US Treasury Yield Curve US Federal Funds Rate

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21 US Credit

The biggest factor in fixed income returns in 2015 was the price of oil. Spreads across US credit sectors generally remain below historical averages, although high yield is an exception. And even the broad market in high yield market was basically fine outside the energy sector. While there may be some pockets of value in energy, the collapse in oil prices (especially since January 1) and the potential for defaults and broader issues combine to create real uncertainty.

High Yield Spread Sectors

Source: Robert W. Baird & Co. Source: J.P. Morgan.

22

22 Private Equity

Risk aversion and slightly higher interest rates reduced activity levels in private equity. Overall, though, the market continues to be healthy. Venture capital investment is as large as it has ever been, and 2015 was the Year of the Unicorn, with 75 companies globally reaching a valuation above $1 billion.

PE Deal Count Falls Year of the Unicorn

Source: PitchBook Data Inc. Source: PitchBook Data Inc.

23

23 Real Estate

The recovery in real estate is full steam ahead. All primary sectors continue to perform well. The US Multifamily sector has been best since the global financial crisis as the US home ownership rate has declined. REIT performance is also strong yet definitely volatile. Despite predictions of disaster once interest rates began to increase, REIT performance in 2015 was one of the strongest sectors in the market with both underlying property appreciation and dividend growth driven by solid underlying cash flows.

US Real Estate Sector Performance US Equity REIT Performance

Source: CoStar Group

24

2016 THEMES

Change is hard, but the payoffs are worth it.

25

2016 FORECASTS

Low expectation can lead to positive surprises…

Federal Reserve makes 2 interest hikes in 2016 to 0.75% Long end of the curve won’t behave. US Dollar stabilizes Helps US multinationals and commodities US GDP growth doesn’t surprise anybody Global GDP growth does surprise to the upside, but not from China US Equity earnings growth: 5.5% You’ll be happy with that as a total return Volatility across all asset classes will continue Active rebalancing will be the key to successful asset allocation

26

THE SLOW MARCH UP FOR RATES

This may take a while….

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PRICE OF OIL STABILIZING?

Ya’ think the Saudis may be manipulating the market?

28

GLOBAL UNREST

They were just angry, now they are cash poor and angry

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MARKET VOLATILITY

Source: Zega Financial

The new normal is the old normal

30

VOLATILITY?


Equity IndicesRebased to 100

2010 2011 2012 2013 2014 201560

80

100

120

140

160

180

200

S&P 500 MSCI EAFE MSCI EM

31

Global Agg Bonds 4.8%

Emerging Market Equity

79%

US Real Estate 28.5%

US Real Estate 8.6%


18.6%

US Small Cap 38.8%


US Real Estate 2.5%

Emerging Market Bonds

-10.9%

US High Yield 57.5%

US Small Cap 26.9%


8.5%


18.5%

US Large Cap 32.4%

US Large Cap 13.7%

US Large Cap 1.4%

Hedge Funds -19%

EAFE 32.5%


19.2%


EAFE 18%

EAFE 23.3%


5.5%


1.2%

US High Yield -26.4%


US High Yield 15.2%

US High Yield 4.4%


Hedge Funds 9.1%

US Small Cap 4.9%

EAFE -0.4%

US Small Cap -33.8%


28.2%

US Large Cap 15%

US Large Cap 2.1%

US Small Cap 16.4%

US High Yield 7.4%

Hedge Funds 3%

Hedge Funds -0.9%

US Large Cap -37%

US Small Cap 27.2%


12%

US Small Cap -4.2%

US Large Cap 16%

US Real Estate 2.5%

US High Yield 2.5%

Global Agg Bonds -3.2%

US Real Estate -37%

US Large Cap 26.5%

Hedge Funds 10.3%

Hedge Funds -5.3%

US High Yield 15.6%


-2.3%


US Small Cap -4.4%

EAFE -43%

Hedge Funds 19%

EAFE 8.2%

EAFE -11.7%

Hedge Funds 6.4%

Global Agg Bonds -2.6%


-1.8%

US High Yield -4.6%


-53.2%




-18.2%



-6.6%

EAFE -4.5%


-14.6%

ASSET ALLOCATION

2008 2009 2010 2011 2012 2013 2014 2015

Source: Addepar

US Large Cap 12.6%

US Real Estate 7.4%


US Large Cap 7.3%

US Small Cap 9.2%

US High Yield 6.8%


5.1%

US Small Cap 6.8%

US High Yield 4.8%


6.7%

EAFE 4.1%

Hedge Funds 4.1%

Hedge Funds 2.3%


4%

Global Agg Bonds 1%



-4.47%

EAFE 3.5%

5 Year 10 Year Don’t abandon diversification

32

DIVERSIFICATION?

So much for diversification


Equity Returns

-0.7

62.5

10.2

-3.3

3.5 0.7

-17.0

-31.0

-7.2


-60%

-40%

-20%

0%

20%

40%

60%

80%

S&P 500 MSCI EAFE MSCI EM


33

LIQUIDITY – THE FAVORITE FACTOR

I just want it on demand

0 2 4 6 8 10 12 14

S&P 500

US Invest Grade Bonds

Relative Value

Macro

Arbitrage

Equity Hedge

Illiquidity Premium?

5 year annualized return

Source: S&P, Reuters, HFRI, Q3 2015

34

TECH SHAKE UP

For a while it was “show me the invitation”, now it is “show me the money”.

35

ENVIRONMENTAL CHATTER

El Nino can’t wash away all our problems

36

THE GLOBAL CONSUMER

What are they going to buy with the $2 trillion not spent on oil?

37

2016 POLITICS

Death of the Republican Party

38

Tactical Market Views | January 2016

GLOBAL FIXED INCOME

REAL ASSETS

• Hedged Credit

• Short Duration Core Strategies

• US Large Cap • US Mid/Small Cap • Int’l Dev Markets • Emerging Markets • Private Equity

• Activist Equity • Long/Short Equity • Event Driven • Distressed Debt

• Bank Loans • Convertible Bonds • Global High Yield

• US Real Estate • Int’l Real Estate • Infrastructure

• Long Credit • Relative Value

• Long Duration Core Strategies

• Dev & USD EM Debt • Local EM Debt

• Commodities

Valuations are fair to high across global equity markets. Mixed signals from the US economy leave some doubt around corporations’ ability to grow earnings. Proactive international central bank policies provide a supportive backdrop for Europe and Japan. Uncertainty is heightened in the Emerging Markets.

HEDGE FUNDS

• Energy / MLP

Performance has been disappointing, and expected returns broadly are low. Long credit strategies are bifurcated between high risk restructurings or lower risk, liquid opportunities that provide some incremental return before better investments can be sourced. Equity opportunities are scattered, but with less confidence broadly in the bull market, short portfolios may grow and contribute to returns.

US real estate continues to perform well, although prices are high. Higher rental rates in many sectors are increasing cash flow, and development activity is accelerating as banks return to riskier areas of the lending markets. The MLP sector represents value with less exposure to commodity prices, but other natural resource areas are uncertain.

All developed sovereign interest rates remain historically low, although the U.S. Federal Reserve raised interest rates and has indicated its commitment to further increases in 2016. Uncertainty in the Emerging Markets and difficult fiscal situations are increasing the risk profile of many issuers in the hard and local currency markets.

GLOBAL EQUITIES

Source: Robertson Stephens Advisors, Mercer Consulting

2016: The year of TransitionsWhat happened in 20152015 EconomicsThe Fed AwakensUS DollarUS DollarChinaUS EconomyUS Labor MarketOilOilCommoditiesUS EquitiesMarket IndicesGlobal EquitiesDeveloped MarketsEmerging MarketsFixed IncomeFixed IncomeUS RatesUS CreditPrivate EquityReal Estate2016 Themes2016 forecastsThe Slow March Up for RatesPrice of Oil Stabilizing?Global UnrestMarket VolatilityVolatility? ASSET ALLOCATIONDiversification?Liquidity – The Favorite FactorTech Shake UpEnvironmental chatterThe Global Consumer2016 PoliticsTactical Market Views | January 2016

Documents

2016: THE YEAR OF TRANSITIONS · 2016. 2. 12. · Interestingly, performance of the large cap S&P 500 Index has been much better than the small cap Russell 2000 Index over the past