INVESTMENT INSIGHTS€¦ · High Yield Bond Yields Over Investment Grade Bond Yields the risk assumed. The chart below shows the incremental yield on high yield bonds is about 2.71%

Q32019

I N V E S T M E N T

INSIGHTS

So far in 2019, investors have profited nicely. The stock market has

risen by 17%, while the bond market returned almost 6%. Even gold has

appreciated by 9%, although that may not be a good sign of things to come

since gold tends to rise when fear rises.

Looking forward, to summarize our overall portfolio strategies, we believe

a balanced portfolio strategy with both defensive and growth-oriented

holdings will provide an appropriate balance of return opportunities and

stability. Thus, we are fully invested in most client portfolios and targeting

each client’s asset allocation goals.

Commentary and Investment Strategy Outlook for 2nd Half of 2019 & BeyondWill the trade wars ruin the economy?____

J U LY 1 , 2 0 1 9

Highlights

1 Will the trade wars ruin the economy?

2 Tarif Turnoil

3 Federal Reserve: Just what would a rate cut do?

4 Fixed Income Markets: Low Yields Again!

5 Equity Market: Remember, stocks are for the long term

6 Has global trade peaked?

7 Integration of Environmental, Social & Governance (ESG)Into Investment Markets Growing in 2019

8 2019 Year-to-Date Performance

RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

1

Andrew HillP R E S I D E N T & C O - F O U N D E R , C F A

Andy Hill has more than 25 years of portfolio management

experience. Andy holds an MBA from Syracuse University and a

Bachelor of Science degree from Canisius College. Andy often

contributes to Investor’s Business Daily, Naples Daily News, and

Fort Myers News Press. He has also appeared on CNBC and FOX.

tempus libero arcu, id molestie elit aliquam vitae.

Jennifer R. Figurelli M A N A G I N G D I R E C T O R & C O F O U N D E R

Jennifer Figurelli has 18 years of experience in the trust

administration field. Jennifer has a Bachelor of Arts degree in

Business Administration from Florida Southern College and a

Legal Assistants Certificate from Florida Atlantic University. She

also is a graduate of the Florida Bankers Association Graduate

Trust School and holds a Series 65 license and life, Health and

Variable Annuity designations.

P A R T N E R S

RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

2

The big issue impacting the outlook for the economy and the financial markets

is global trade. Tariffs and other political actions that are limiting global trade are

beginning to impact businesses and consumers. China vs. U.S. is the main event,

but the European Union could be coming soon to trade battles. In addition, India

is becoming hostile to imports as they are not welcoming Visa’s payment processing

services and are placing tariffs on iPhones

The impact on the economic data is beginning to surface in various economic reports.

Orders for durable goods have been weak and new home sales have declined

despite lower mortgage rates. Retail sales are holding up, but consumer sentiment

surveys show signs of pessimism. As the chart below shows, manufacturing activity

worldwide has been declining since 2018. Europe, with its Brexit challenges, looks

the worst.

TARIFF TURMOIL____

Factory SlumpTrade war has taken a toll on manufacturing

As this chart presents, manufacturing worldwide is slowing. Source: IHS Markit

RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

E C O N O M I C O U T L O O K

3

Bloomberg’s survey of economists now projects the possibility of a recession in the

next 12 months at 30% up from 15% a year ago. While that still suggests 70%

probability of no recession, economic risk is rising. Our investment strategy is taking

this into account.

RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

4


Given the moderation of economic data since last year, the Federal Reserve has

changed its tune from guiding towards higher interest rates last year, to pausing on

further action at the beginning of this year, and at the most recent meeting suggesting

that a rate cut is possible at the next Committee meeting in late July. The recovery

in the stock market in June from May’s sell off and the drop in bond yields are largely

tied to the expectation that the Federal Reserve will save us from an economic

slowdown, or worse a recession.

A Bloomberg economic reporter recently asked Federal Reserve Chair Jay Powell,

“what would a rate cut actually do?” The Chair’s response was vague. Our analysis

would suggest the biggest impact, which is largely already priced in, will be in the

financial markets. Long-term bond yields have declined sharply this year as the chart

below shows. A potential interest rate cut would reduce interest rates on home

equity loans and business lines of credit. A bigger impact may be that the U.S. Dollar

will stop rising. This would help the economy by making exports less expensive to

foreign customers. Also, commodities and stocks tend to appreciate when the Dollar

is declining. Also, with so many retirees living off their investment portfolios, the

Federal Reserve is cognizant of the importance of stable stock and bond prices. A

material decline in the financial markets may have a significant impact on our overall

economy due to the aging demographics.

FEDERAL RESERVE____

J U S T W H A T W O U L D A R A T E C U T D O ?


RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

5

The bond market has benefited from the economic slowdown as bond prices have

risen (yields declining). Our fixed income strategy continues to favor laddered, high-

quality bonds with maturities ranging from 1 to 12 years. The bonds serve as a solid

foundation to the portfolio to withstand financial market storms. We have added

closed-end bond funds and preferred stocks, which generate high yields. Preferred

stocks are a unique security as they offer a yield from 5% to 5.5%. Banks often issue

preferred stocks as part of the regulatory capital base; thus, they are willing to pay

a higher yield than with bonds. We believe the preferred stock yields are attractive

relative to the risks.

FIXED INCOME MARKETS____

L O W Y I E L D S A G A I N !

10 Year Treasury Yield drops from 3.28% to 2.0% over 7 months

We are avoiding the high-yield sector for many reasons. Investors seeking yield have

bid up the prices of risky, low-quality bonds, and the returns do not compensate for

High Yield Bond Yields Over Investment Grade Bond Yields

the risk assumed. The chart below shows the incremental yield on high yield bonds

is about 2.71% more than investment grade, which is not worth the aggravation if

the bond market weakens. Currently, many small energy companies are have gone

bankrupt, but this trend has not creeped into the overall high yield bond market.

However, it may if the trade war gets out of control.

RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

6

The SP500 is up 17% in 2019 which looks like a strong year. Normally, a strong first

half of the year would suggest strong momentum to ride out the rest of the year.

The two factors which correlate to the stock market gains over time are corporate

earnings and sentiment towards stocks which is measured by the Price to Earnings or

“P/E” ratio. This year, corporate earnings estimates for the SP500 call for earnings of

$175 per share, with nominal growth expected over 2018 results, which were inflated

with the tax cuts.

EQUITY MARKET____

R E M E M B E R , S T O C K S A R E F O R T H E L O N G T E R M

LUACOAS Index (Bloomberg Barclays US Agg Corporate Avg OAS)


RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

7

Potential Tops in Stocks?

Investors tend to focus on earnings growth and economics. One underlying issue

that may be helping the financial markets is the large pool of investment funds that

need to find a place to invest. Pension funds, retirement accounts, endowments, and

speculators are looking for opportunities to invest based on their objectives. With

the number of stocks traded on the major exchanges about half of what they were at

the year 2000, there are fewer stocks to pick from.

Looking forward, the political action on international trade will directly impact

earnings, especially if companies are forced to reconstruct their supply chains.

This will increase expenses. For example, Columbia Sportswear, a relatively small

company, will need to spend $3 million to relocate specialized manufacturing

equipment. Revenues will also be impacted as foreign customers cancel orders

for U.S. goods. Lower growth expectations will be seen in a lower P/E ratio

as confidence in future earnings erodes. On a more positive note, should the

international trade political situation not get any worse, stocks may benefit from faster

growth and a higher P/E as confidence returns. Applying optimistic and pessimistic


RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

8

S&P 500 Performance (1/1/17 - 4/15/19)

scenarios to the SP500, we calculate a range of 2600 to 3600 over the next year, or

a 13% downside risk to a 22% upside potential from the current value of the SP500

at 2930. Adding a little experience to the quantitative analysis, we are assuming

lower potential returns of 10% with risk of similar amount, thus stocks still have the

potential to return in line with historical trends, but they will have higher than normal

risk. Thus, we are staying invested in stocks with a few hedges.

Past Performance is no guarantee of future results.It is not possible to invest directly in an index. All market indices are undamage. Index performance is not meant to

represent that of any Fidelity mutual fund. Source: Factset, as 04/16/2019

TRADE WOULD CONTINUE TO BE THE SWING FACTOR

____

Digging deeper into the equity strategy, we have structured client portfolios in

positions to minimize the correlation between holdings to lessen overall portfolio risk.


RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

9

For example, utility and real estate holdings in NextEra Energy, American WaterWorks,

and Sun Communities tend to perform better as interest rates fall due to lower

economic growth. This balances the risk of our growth-oriented holdings in

technology and consumer spending sectors. Microsoft is our largest overall holding.

It has done well as its business has become stable due to high reoccurring revenue, so

it does not have the risk of product-oriented positions such as Xilinx or Garmin that

do not have material reoccurring revenues.

Microsoft (MSFT $134) is the most valuable company in the world based on market

value at $1 trillion. Led by CEO Satya Nadella and CFO Amy Hood, MSFT’s stock

has increased due to solid growth, growing reoccurring revenues from Office 365,

and cloud services (which our firm pays for every month). As hurricane season

approaches, we no longer must worry about backing up our files since the cloud

provides more efficiency than our old server. The migration from desktop software

to online services is about at the midpoint. MSFT is at risk to moderating growth

of sales. MSFT is also making strides in allowing disadvantaged individuals to have

access to its products. For example, working alongside a solar provider, MSFT was

able to provide cloud-based services to people living in Africa who earn only $2 per

day. In the U.S., MSFT provides access to handicapped persons, including veterans.

First Solar (FSLR $65) is finally coming around after many stops and starts. With

the cost of renewables falling and product efficiency increasing, solar is the most

cost-effective form of producing power. Solar may soon disrupt the utility industry.

There may be a day when electricity is free, thanks to battery storage and homes

powered by solar roofing. First Solar is the leader in utility scale power plants

that provide panels, construction, and servicing after project completion. A new

manufacturing process is being implemented in their plants across the world that

may significantly increase profit margins. In some locations, the cost of solar is the

cheapest form of power, and it has the lowest environmental impact compared to coal

and oil.


RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

10

Lowest Enviromental Impact of All Solar Technologies

Source: First Solar Website

V I S A ( V $ 1 7 1 )Visa is an incredible business. They have built a highly secure payment processing business which is very difficult to duplicate or circumvent. Due to the high fixed costs, as the volume of business increases, profits increase at a faster rate. While Visa’s stock sells at a very high valuation, it is warranted as its return on invested capital is 23% (very strong). While its

business is a perfect situation today, Visa must continuously invest in the future as innovation in the financial payment business is rapidly evolving with crypto currencies, digital payments and cloud-based applications. Visa’s most important benefit to society is secure payments between customers and businesses, big and small, worldwide.

T H E R M O F I S H E R S C I E N T I C I C ( $ 2 8 9 ) If you have ever watched Forensic Files, a detective documentary where scientific analysis is used to solve crimes, you will understand TMO’s products. TMO provides scientific analysis equipment that is used to analyze DNA, biology, environmental analysis or other application that requires very detailed analysis.

TMO’s products are used in catching bad guys (and girls), developing new drugs, and precision medicine, all making the world cleaner, healthier and safer. TMO is heavily exposed to the healthcare sector thus any significant reduction in research and development of new drugs may negatively impact TMO’s growth.

G A R M I N ( G R M N $ 7 9 ) helps its customers navigate and communicate on land, water or in the air safely. As technology evolves, precise measurement of a location is of a growing importance. Garmin’s products are growing in demand, and products in development may be employed in advanced applications such as autonomous vehicles. Garmin had a good first quarter earnings report but

failed to increase their guidance for the rest of the year so investors assumed that future quarters growth would slow. Garmin should have limited exposure to China trade issues as their Asian operations are in Taiwan. With U.S. operations based in Kansas City, the company is very active in teaching students about technology and was a top 5 employer in Forbes 2019 rankings.

A M A Z O N ( A M Z N $ 1 , 8 9 0 ) Amazon continues to drive sales of their online retail business and Amazon Web Services (AWS), the industry leading cloud provider. Investing 13% of revenues on research and development, Amazon is focused on providing customers with great service, today and in the future. Profitability is beginning to emerge at a faster pace than sales growth. Investors

are focusing on sales growth, which is slowing, but they should be eyeing the profitability growth. Basically, Amazon is shifting its business from selling its own products to selling products on behalf of other businesses. This is another incredibly smart and profitable strategy as it leverages their infrastructure but does not require inventory. Amazon attempts to stay ahead of its competitors by increasing

minimum wages to $15 an hour in 2018, and this year offering one day delivery which is soon to be implemented



RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

11

Global trade has been in place for centuries and led to the discovery of America, while

Christopher Columbus was seeking a shorter path to the Asian trade markets. More

recently, global trade accelerated in the 1960’s through to the 1980’s. Japanese auto

imports were the most notable as they provided greater fuel efficiency and reliability,

two issues domestic automotive manufacturers failed to address partially due to the

lack of competition.

As the below chart shows, global trade as a percentage of Gross Domestic Product

soared through the 1990’s before peaking at the time of the Great Recession about

10 years ago.

HAS GLOBAL TRADE PEAKED?____

P E A K G L O B A L I Z A T I O N

Secular Trend: Peak Globalization

Source: International Monetary Fund (IMF), World Bank, Haver Analytics, Fidelity Investments (AART), as 12/31/17

Global trade has provided many benefits to consumers and businesses as well as

foreign providers. Consumers have seen greater product selection and cheaper

prices. Businesses have been able to outsource products from foreign countries that

they could not profitably manufacture domestically. Foreign countries grew their

economies servicing the demand from the U.S. Global trade also helped keep

peace as well as the likelihood of entering a military conflict is less likely with a trading

partner.

More recently the growth of online commerce has reduced the time from order to

delivery. Further, “Just in Time” supply chains require speed in producing a product

and delivery to the customer. Meanwhile, robotic technology has increased

manufacturing efficiency which has allowed domestic production. Tesla is such an

example.

RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

12

Investors have shown strong interest in ETFs and mutual funds focused on ESG, as

the chart above presents. The ESG industry has growth from the exclusion of guns,

tobacco and alcohol to the analysis of a company’s (or bond issuers in the case of

fixed income security) impact on its environment, society, and corporate governance.

ENVIRONMENTAL, SOCIAL & GOVERNANCE (ESG)

____

I N T E G R A T I O N O F E S G I N T O I N V E S T M E N T M A R K E T S G R O W I N G



RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

13

We take the ESG analysis to a higher degree and seek companies that gain an

economic advantage by employing strong ESG principals. NextEra Energy (NEE) is

the best example as their renewable energy plants now produce power at a cost lower

than fossil fuel power plants, a win for FPL customers and shareholders.

ESG AUM GROWTH ($MIL)

Source: The Forum for Sustainable & Responsible Investment

The Barclay’s Aggregate bond index rose 2.9% in the quarter and 6% year-to-date.

The SP500 rose 4.4% in the second quarter and 18% year-to-date (as of 6/24/2019).

The second quarter has been characterized by slowing economic momentum and a

significant drop in interest rates. Tariffs and increased political turmoil are impacting

2019 YEAR-TO-DATE PERFORMANCE

____

the sentiment of business leaders who are opting to slow capital investments.

Several of our core holdings performed poorly relative to the SP500 including Palo

Alto Networks and Garmin. After significantly outperforming the SP500 in the first

quarter, we gained up a portion of our above average performance in the second

quarter. In fixed income, thanks to the closed end bond funds and preferred stocks,

client accounts have inched ahead of the Barclays benchmark this year so far.

____

Portfolio leading gainers year-to-date: Visa +29%, First Solar +45%, Hexcel +37%, Thermo Fisher +31%, Microsoft +31%

Portfolio detractors from performance year-to-date: Iron Mountain-4%, Palo Alto Networks 5%, National Fuel Gas +5%, Intuitive Surgical +%5, Ericsson +8%

RE

SP

ON

SIB

LE

AD

VIS

OR

S.C

OM

14


Mailing Address____

A N D R E W H I L L I N V E S T M E N T A D V I S O R S , I N C .

4081 Tamiami Trail North, Suite C-105

Naples, Florida 34103

Phone____

M A I N O F F I C E L I N E

239-450-3999

Website____

R E S P O N S I B L E A D V I S O R S . C O M

Documents

INVESTMENT INSIGHTS€¦ · High Yield Bond Yields Over Investment Grade Bond Yields the risk assumed. The chart below shows the incremental yield on high yield bonds is about 2.71%