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View archived articles from the Trust and Wealth Management newsletter "The Economy and Market from Here...at Hills."
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January 2014 Economy and Market from Here...at Hills.
Improving economic conditions and strong corporate earnings around the globe propelled stock markets upward in 2013. The S&P 500 ended the year with the best return since 1997. It closed the year up 32.4%. The MSCI EAFE gained 23.6% over the same period, reflecting very good returns on international stocks.
Interest rates edged slightly higher during the quarter as the Federal Reserve Open Market Committee (FOMC) announced it will begin to unwind its asset purchase program, often referred to as quantitative easing. The yield on the 10-year US Treasury now stands at 3.03%, up 1.27% from the end of last year. Yields on bonds and bond funds are now higher than they have been in more than two years. We anticipate this trend to continue in the coming quarters as the FOMC continues to slow down bond buying.
Inflation has remained modest as economic growth, though positive, remains below historical average. Global stimulus efforts in Japan, Europe and the United States designed to promote economic growth have not yet resulted in significant inflation at the consumer level.
Despite several consecutive quarters of positive returns, our outlook for the stock market remains constructive even though much of the near term opportunity has likely been captured. We continue to feel that stock valuations are reasonable and opportunities for earnings and dividend growth remain intact. At current interest rates, bonds and cash are best viewed as a store of liquidity. We have shortened duration slightly as we believe interest rates have troughed.
As we mentioned in our comments many times before, corrections in the stock market occur with some frequency and can unfold quickly. That said, the S&P 500 has not seen 10% correction in quite some time. On average, a 10% correction occurs a little more frequently than once per year. The last meaningful correction came 28 months ago. This does not mean that a correction is imminent, but a decline of 5% to 10% or more in reaction to a disappointing earnings season, political uncertainty, geopolitical instability, or a major natural disaster is always a possibility. This is why investment grade bonds and cash are important elements in diversified portfolios.
Strong market returns over the last few years have brought stock allocations at or near the top of the strategic asset allocation range for many seasoned accounts. As a result, many of our clients are seeing rebalancing occur in their accounts as we adhere to the strategic guidelines set out in the investment advisory agreements we have with each of you.
Please feel free to contact your Hills Bank account administrator to review your account and determine if the current allocation is still appropriate for your circumstance.
October 2013 Economy and Market from Here...at Hills.
The third quarter ended with several large events. The Federal Open Market Committee (FOMC) decided to continue making bond purchases at the current level and deferred making a decision on tapering until their next meeting. The United States and Russia agreed on a plan in which Syria will relinquish its stockpile of chemical weapons, thus avoiding U.S. or U.N. military action. And finally, the House of Representatives and Senate were not able to agree on terms of a continuing resolution to continue funding the government, which led to a partial government shutdown at midnight on September 30.
On the whole, economic reports were mixed for the quarter. Housing continued to improve in terms of both units sold and higher prices. Employment was mixed. The trend over the last few years has been positive, but the pace of job growth garners little confidence that there will soon be sustainable improvement in consumer sentiment and spending. With the exceptions of vehicle sales and home improvement purchases, retail sales generally missed the mark.
Stock market returns for the third quarter were positive. The S&P 500 gained 5.25% and international stocks, as measured by the MSCI-EAFE, finished the quarter with a return of 11.71%. Bond yields continued to climb. The 10-year Treasury reached 2.98% on September 5 – the highest level since July 2011, before retreating back to 2.62%. As a result, bond prices continue to be pressured. The total return for the Barclays Capital Aggregate Bond Index finished the quarter up modestly at 0.57%, as interest income just offset price declines for the period.
We have been shortening the duration of our bond portfolios in an effort to preserve capital as we expect interest rates to continue to rise to a more normal level. Inflation pressures have been modest so far during this recovery. However, due to the coordinated monetary stimulus efforts by the world’s largest economies, we have added some inflation protection to bond portfolios.
Our expectation is that stocks will produce greater returns than bonds over the next three to five years, and we continue to maintain an overweight position in that asset class. Even though we are more constructive on stocks than we are on bonds, it is important to place some value on the diversification benefit of bonds; especially for those who are relying on their portfolio for cash flow. Stock markets frequently experience 5% and 10% declines and these corrections can occur quickly and unexpectedly. Uncertainty surrounding the current government shutdown and upcoming debt ceiling debate could trigger such a correction. Investment grade bonds and cash provide the best diversification to stocks particularly in declining markets.
Please feel free to contact your account administrator to review your account and determine if the current allocation is still appropriate to reach your financial goals.
July 2013 Economy and Market from Here...at Hills.
Economic reports and quarterly corporate earnings generally exceeded expectations, propelling the market higher through the first two months of the second quarter. The S&P 500 gained 1.9% in April and 2.1% in May. Both the S&P 500 and Dow Jones Industrial Average eclipsed record levels several times in May before giving a bit back the last few trading days of the month.
As a result of improving economic conditions and speculation that the Federal Open Market Committee (FOMC) will begin tapering the unprecedented stimulus, interest rates rose dramatically into the end of May. On May 31, the 10-Year US Treasury yielded 2.16%, the highest level in over a year and up from 1.63% recorded on May 2.
A combination of strong corporate earnings and improving economic conditions, domestically and around the globe, has kept stock market valuations at what we believe to be reasonable levels. Forecasts call for continued economic growth helped in large part by central bank stimulus in place around the globe. While we are generally bullish on stocks, we recognize that a dramatic event could trigger a correction. Stock market corrections of 10% or more occur frequently. We continue to maintain a bias towards stocks over bonds as we believe stocks offer the best return potential over time horizons of five years or more. This stance rewarded our clients in 2012 and continues to do so into the first part of 2013.
As interest rates rise, we are taking measures to shorten our fixed income maturities in an effort to preserve principal. This will likely lead to lower interest income over the near term, but should also result in less overall volatility and improved total return for the bond portfolio.
In our continued effort to improve the level of service you receive, we have upgraded our trust accounting systems. There are many benefits from this change including enhanced reporting capabilities and much improved internet access. Please feel free to contact us should you have questions regarding the new statement formats or if you wish to sign up for web statements.
April 2013 Economy and Market from Here...at Hills.
Global equity markets continued to rally during the first quarter of 2013. The Dow Jones Industrial Average and the S&P 500 ended the quarter at record closing highs. The S&P 500 finished the quarter with a positive return of 10.6%. The U.S. economy has shown surprising strength despite the expiration of the payroll tax holiday and Congress’ inability to negotiate a resolution to the across-the-board spending cuts put in place as a result of the 2011 debt ceiling negotiations. Improvements in the unemployment rate, housing markets and asset prices have helped to strengthen consumer confidence—and spending.
Corporate financial performance remains strong. Earnings generally came in better than expected. Cash continues to accumulate on the balance sheets of many large companies giving them flexibility to raise dividends, increase share buybacks, or pursue strategic acquisitions.
Interest rates, especially on government bonds, remain low but are slowly rising as the economy strengthens. The yield on the 10-year Treasury note moved above 2% during the first quarter, a level not reached since April of last year. It ended the quarter at 1.85%. Inflation, as measured by the Consumer Price Index (CPI), remains below the long-term average despite unprecedented monetary policy actions by the Federal Reserve (see chart below).
The Federal Open Market Committee (FOMC) has frequently stated that the unemployment rate must fall to 6.5% before they begin removing the aggressive monetary policies that are currently in place. This stance was reiterated at the most recent two-day meeting that ended on March 20. Estimates are beginning to indicate that this target rate may be achieved in the foreseeable future as the U.S. economy continues to recover. We believe the FOMC is comfortable letting core inflation rise above the stated 2.5% target, if it leads to improved employment. Inflation could become an important consideration in the coming years as our economy reaches full employment and factory capacities are fully utilized.
As unemployment falls, rates on Treasuries will likely rise, leading to short-term price declines. The impact of rising rates will likely affect the government sector of the bond market more dramatically than other bond sectors. Long-term government bonds appear to carry the most risk of price erosion. Our model bond portfolio is positioned with relatively short maturities and favors investment grade corporate bonds at the expense of government bonds. We believe more opportunity exists in stocks but the stability and liquidity provided by bonds is an important component to most client portfolios, especially those with current distribution requirements. The overall volatility for fixed income securities is still expected to be far less than that of equities.
Our current tactical allocation favors stocks over bonds and we have maintained this overweight to equities for quite some time. Recent stock market strength has provided an opportunity to trim equity positions where allocations have risen beyond the stated target range. Stock market corrections of five and ten percent have become frequent occurrences and one will almost certainly happen in the future. Adherence to a strategic asset allocation is crucial to achieving long-term financial goals, and that means trimming stocks in the good times even if we think valuations are reasonable.
Periodic review of your financial situation is important, and your Account Administrator is always available to meet and discuss your current goals and review whether your current allocation is still appropriate.
From 1904 until the 1980s, this safe was used to secure money and important documents. The design of the safe door was unique in that it was actually screwed into the safe with a hand crank. Advertising by the Mosler Safe Company claimed it was dynamite proof. Top photo features the gears of the safe's door.