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The final revision to first quarter US gross domestic product was released on June 25th at -2.9%, quite a drop from the initial estimate of 0.1%, the second estimate of -1.0%, and it was the first negative quarter since 2011. On the other hand, employment and wage growth have been fairly steady year to date, credit has been expanding at a faster pace, and liquidity conditions remain accommodative, albeit with gradual tapering of Treasury and mortgage purchases by the Fed. Unlike the selective, value driven rotation experienced in the first quarter, investors bought everything in the second quarter- stocks, bonds and commodities (see table below). [1] The relentless, some would say indiscriminate, search for yield led the charge, strengthening bids for long dated US Treasuries, European sovereign debt, Real Estate Investment Trusts (REITs), Master Limited Partnerships (MLPs), global utilities, and income stocks. Gold and oil also performed well, as geopolitical concerns about Ukraine, Iraq and, lately, missile attacks on Israel from both Lebanon and the Gaza Strip heightened. Only twice in the last twenty-four years have all major asset classes ended the first half of a calendar year higher.* In our opinion, this rare phenomenon reduces the chance for meaningful diversification when conditions change, raising the utility of cash in today’s portfolios.
| INDEX PERFORMANCE IN 2014 | ||
| Index | Second Quarter | Year to Date |
| MSCI US REIT | 7.00% | 17.69% |
| S&P Global 1200 Utilities | 7.11% | 16.51% |
| Alerian MLP | 14.18% | 16.31% |
| Barclays US Treasury: 20+ Year | 5.06% | 13.19% |
| S&P 500 | 5.23% | 7.14% |
| MSCI All Countries World | 5.04% | 6.18% |
| MSCI Emerging Markets | 6.60% | 6.14% |
| S&P GSCI (Commodities) | 2.69% | 5.71% |
| Barclays US Credit | 2.71% | 5.70% |
Total Returns. Sources: BlackRock®; Bloomberg
Most investors feel comforted that central banks are buying with them, acquiring the same long duration yield assets like government bonds and mortgages, holding down discount rates used to value equities, and trying to promote credit creation. The reality is that the end goals are different: the Federal Reserve Bank, the European Central Bank, and the Bank of Japan would like growth and inflation to increase, while a buyer of long dated sovereign debt, mortgages or utilities would like to see growth and inflation moderate, or even decrease. In this way, investors are betting against the house, assuming that the extreme stimulus efforts of the various monetary authorities will be either unsuccessful or, daring to dream, modestly successful and not disruptive. It has become fashionable for pundits to project a slow and steady, low volatility investment backdrop for years to come, rationalizing ever higher multiples.
While yields and supply were declining in the Treasury markets this year, investors submitted $3.4 trillion of bids for the $1.12 trillion of US government notes and bonds sold, the second highest “bid to cover” ratio on record. Yet price action in the first half of 2014 outside income markets has in fact given a nod to inflation. Energy stocks, commodities, TIPS (Treasury Inflation-Protected Securities), and gold have all rallied, while consumer stocks, industrials and financials have lagged. Given where “risk free” yields are today (see graph right), and the level of investor appetite, we are indeed concerned that some yield buyers may find themselves in a liquidity trap. We have been gradually reducing MLP weightings in most of our strategies this year, and keeping fixed income maturities at conservative durations. Even though inflation is more likely to appear on our shores before Europe’s, we have to admit that ten year US Treasuries seem like a screaming bargain compared to government securities issued by France or Germany. The country with the most monetary stimulus relative to the size of its economy? Japan, which yields the least.
Robert G. Scott
Chairman & CEO
Fraser J. McLean
Chief Investment Officer
Endnotes
* Source: Strategas
[1] BlackRock and Bloomberg
[2] Thomson Reuters; Eaton Vance. Yields on 6/30/2014
Source of data not specifically cited: Bloomberg
North American Management Corporation (NAM) is an SEC registered investment adviser located in Boston, MA and St. Louis, MO. The information presented above reflects the opinions of NAM as of July 21, 2014, and is subject to change at any time based upon market or other conditions. These views do not constitute individual investment advice and there is no representation that any of the statements or predictions will materialize. The data in this report is taken from sources that NAM believes to be reliable. Notwithstanding, NAM does not guarantee the accuracy of the data. Any specific investment or investment strategy can result in a loss. Asset allocation and diversification do not ensure a profit or guarantee against a loss. Past performance is no guarantee of future results.
The final revision to first quarter US gross domestic product was released on June 25th at -2.9%, quite a drop from the initial estimate of 0.1%, the second estimate of -1.0%, and it was the first negative quarter since 2011. On the other hand, employment and wage growth have been fairly steady year to date, credit has been expanding at a faster pace, and liquidity conditions remain accommodative, albeit with gradual tapering of Treasury and mortgage purchases by the Fed. Unlike the selective, value driven rotation experienced in the first quarter, investors bought everything in the second quarter- stocks, bonds and commodities (see table below). [1] The relentless, some would say indiscriminate, search for yield led the charge, strengthening bids for long dated US Treasuries, European sovereign debt, Real Estate Investment Trusts (REITs), Master Limited Partnerships (MLPs), global utilities, and income stocks. Gold and oil also performed well, as geopolitical concerns about Ukraine, Iraq and, lately, missile attacks on Israel from both Lebanon and the Gaza Strip heightened. Only twice in the last twenty-four years have all major asset classes ended the first half of a calendar year higher.* In our opinion, this rare phenomenon reduces the chance for meaningful diversification when conditions change, raising the utility of cash in today’s portfolios.
| INDEX PERFORMANCE IN 2014 | ||
| Index | Second Quarter | Year to Date |
| MSCI US REIT | 7.00% | 17.69% |
| S&P Global 1200 Utilities | 7.11% | 16.51% |
| Alerian MLP | 14.18% | 16.31% |
| Barclays US Treasury: 20+ Year | 5.06% | 13.19% |
| S&P 500 | 5.23% | 7.14% |
| MSCI All Countries World | 5.04% | 6.18% |
| MSCI Emerging Markets | 6.60% | 6.14% |
| S&P GSCI (Commodities) | 2.69% | 5.71% |
| Barclays US Credit | 2.71% | 5.70% |
Total Returns. Sources: BlackRock®; Bloomberg
Most investors feel comforted that central banks are buying with them, acquiring the same long duration yield assets like government bonds and mortgages, holding down discount rates used to value equities, and trying to promote credit creation. The reality is that the end goals are different: the Federal Reserve Bank, the European Central Bank, and the Bank of Japan would like growth and inflation to increase, while a buyer of long dated sovereign debt, mortgages or utilities would like to see growth and inflation moderate, or even decrease. In this way, investors are betting against the house, assuming that the extreme stimulus efforts of the various monetary authorities will be either unsuccessful or, daring to dream, modestly successful and not disruptive. It has become fashionable for pundits to project a slow and steady, low volatility investment backdrop for years to come, rationalizing ever higher multiples.
While yields and supply were declining in the Treasury markets this year, investors submitted $3.4 trillion of bids for the $1.12 trillion of US government notes and bonds sold, the second highest “bid to cover” ratio on record. Yet price action in the first half of 2014 outside income markets has in fact given a nod to inflation. Energy stocks, commodities, TIPS (Treasury Inflation-Protected Securities), and gold have all rallied, while consumer stocks, industrials and financials have lagged. Given where “risk free” yields are today (see graph right), and the level of investor appetite, we are indeed concerned that some yield buyers may find themselves in a liquidity trap. We have been gradually reducing MLP weightings in most of our strategies this year, and keeping fixed income maturities at conservative durations. Even though inflation is more likely to appear on our shores before Europe’s, we have to admit that ten year US Treasuries seem like a screaming bargain compared to government securities issued by France or Germany. The country with the most monetary stimulus relative to the size of its economy? Japan, which yields the least.
Robert G. Scott
Chairman & CEO
Fraser J. McLean
Chief Investment Officer
Endnotes
* Source: Strategas
[1] BlackRock and Bloomberg
[2] Thomson Reuters; Eaton Vance. Yields on 6/30/2014
Source of data not specifically cited: Bloomberg
North American Management Corporation (NAM) is an SEC registered investment adviser located in Boston, MA and St. Louis, MO. The information presented above reflects the opinions of NAM as of July 21, 2014, and is subject to change at any time based upon market or other conditions. These views do not constitute individual investment advice and there is no representation that any of the statements or predictions will materialize. The data in this report is taken from sources that NAM believes to be reliable. Notwithstanding, NAM does not guarantee the accuracy of the data. Any specific investment or investment strategy can result in a loss. Asset allocation and diversification do not ensure a profit or guarantee against a loss. Past performance is no guarantee of future results.
