Download UIF Performance 2015 Q4 Alesco Market Review

Market Commentary & Outlook
Alesco Advisors LLC
4th Quarter 2015
The U.S. stock market enjoyed a rebound in the fourth quarter of 2015, helping to offset losses incurred
during the correction over the summer and resulting in roughly flat returns for the year in total. The S&P
500 Index rallied 7.0% during the quarter, surpassing the 4.7% gain for the MSCI EAFE Index of
developed market stocks and the 0.7% return for the MSCI Emerging Markets Index. A long-awaited
increase in interest rates by the Federal Reserve contributed to a 0.6% loss for the Barclays Aggregate
Bond Index. The S&P 500 gained 1.4% for the year including dividends, which is a reasonable pause after
a series of above average returns over the past few years.
2015 Returns
Market returns for the year in total were unusual in the sense that no major asset classes provided
investors with positive returns of substantial magnitude. Tepid or negative returns for stocks are not
abnormal, but those years are typically countered by gains for other
investments such as bonds or commodities. For example, during the
bear market from April 2000 through September 2002 when the S&P
500 Index declined 44%, diversified portfolio returns were buffered
by gains of 29% for the Barclays Aggregate Bond Index and 23% for
the Credit Suisse Commodity Index. When the S&P 500 declined
51% from November 2007 through February 2009, commodities
sold off nearly as much but bonds managed to cushion losses by
providing a gain of 6%.
A broad dispersion of returns was still present in 2015, but somehow
it feels different when the S&P 500 is at the top of the chart, since it
might initially appear that any actions taken to diversify a portfolio
beyond the popular benchmark resulted in failure. In fact, diversification worked again in 2015, with
different asset classes experiencing a broad range of returns. Portfolio values generally held up well
since the best performing investments happened to be the largest portions of the portfolio, and the worst
performing investments were among the smallest.
A Year of Resiliency
2015 was a display of resiliency for the U.S. economy. GDP is estimated to have grown by 2.5% for the
year, ranking among the top years recently despite facing some meaningful challenges that combined to
cause a correction in U.S. stock prices over the summer, when the S&P 500 lost 11.9% between May and
August. These challenges included: (1) collapsing oil prices that dealt a serious blow to the energy sector,
which had previously been a major driver of economic growth in the U.S., (2) a slowing Chinese economy
that sent shockwaves through global markets over the summer and continues to weigh on markets,
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A Year of Resiliency (continued)
(3) troubles in the Eurozone that resurfaced over the summer, as a standoff between Greece and its
European creditors resulted in a shutdown of the Greek banking system and rekindled an underlying
threat to the existence of the Eurozone, and (4) an increase in interest rates by the Federal Reserve in
December after months of speculation and delays. These rising rates are in contrast to the European
Central Bank and the Bank of Japan, which are moving monetary policy in the opposite direction by
expanding quantitative easing programs. Growth in the U.S. was also higher than most other developed
countries, and the combination of higher growth and increasing interest rates resulted in a 9% gain for
the U.S. dollar in 2015, negatively impacting foreign sales for American companies.
Despite these challenges, the U.S. economy firmly
held its ground, growing at a pace that was above
average since the 2008 recession. Some of these
difficulties are unlikely to be as significant of a
hindrance during 2016. For example, we do not
expect the U.S. dollar to replicate the sharp gains
experienced in 2015. The majority of the dollar’s
gains occurred during the first three months of
the year, and levels have largely stabilized since
then. Currency gains are driven by higher
interest rates and economic growth rates;
market expectations are already in place for
continued interest rate increases in the U.S. and a more rapid rate of economic growth relative to most
of the rest of the developed world in 2016. If either of these factors fail to reach forecasted levels,
currency appreciation would be muted, or potentially even negative. Additionally, oil prices appear
unlikely to repeat the $16 per barrel decline experienced in 2015 since they started out 2016 at just $37
per barrel. However, there is potential for continued pressure on oil in the near term as negative
sentiment regarding China and a lack of production restrictions from OPEC weigh on prices. Offsetting
these factors is a dramatic decrease in active rig counts and aggressive cuts to investments in new
drilling. These changes will eventually weaken supply as production from existing wells becomes
depleted.
U.S. Consumers in Good Condition
U.S. consumers are well-positioned to continue
contributing to the economic expansion. This is
evidenced by surveys of consumer confidence,
which have been climbing due to a combination of
encouraging factors. Chief among these is the
improvement in employment measures. 2015 was
another solid year for job growth as 2.2 million jobs
were created, pushing the unemployment rate
down to 5.0%.
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U.S. Consumers in Good Condition (continued)
It will be difficult to maintain this pace of employment gains
going forward, since job openings have increased and further
improvement is more likely to be reflected in wage gains than
job creation. In fact, recent data show what may turn out to be
the beginning of an upturn in wage increases.
Consumer balance sheets have experienced a corresponding
improvement, with eight years of deleveraging resulting in
household debt levels reaching their lowest point since 2002
(before the housing bubble). This burden is even lighter when
viewed in terms of monthly payments since the current debt is
at lower interest rates.
Don’t Expect Average:
The Rarity of Normal
One important investing principle on
display in 2015 was that the voyage in
search of high long-term returns for
growth investments requires
navigating turbulence in the shortterm. For example, the annualized
return for the S&P 500 during the ten
year period ending in 2015 was 7.3%,
yet achieving a return near 7% in any
given year was unlikely.
There are other notable positive economic factors to consider.
Housing prices continue to climb, credit remains reasonably
available, and interest rates are expected to persist at low levels
regardless of the exact number of rate increases by the Federal
Reserve during 2016. Lower expenses incurred from cheaper
energy costs should also serve as a tailwind. History indicates
there is typically a lagged effect between drops in energy prices
and the beneficial effects on economic activity until consumers
become assured that the decline is a long-term improvement in
their budget and not simply a short-term respite.
Corporate Earnings
Corporate earnings came under pressure in 2015, with earnings
per share for the S&P 500 Index expected to experience a
decline for the year for the first time since 2009. This is
primarily due to gains in the U.S. dollar hurting exports and
significant losses in the energy sector. The impact of these two
factors can be seen in the divergence between manufacturing
and the rest of the U.S. economy.
This phenomenon is not merely
limited to recent history either. The
annualized return for the S&P 500
and its predecessors has been 10%
since 1926. The number of calendar
years in which the index achieved a
total return of between 8%-10% over
those past 90 years? Zero!
Markets do not advance in a straight
line, but they do advance over time.
Accepting year-to-year volatility of
returns is part of the price that
investors pay in return for long-term
growth of a portfolio.
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Corporate Earnings (continued)
Manufacturers have been affected by the decline in capital investment
for energy exploration and production and are more sensitive to the
negative effect of a stronger dollar on exports. Fortunately the impact
on the broad economy has been limited since manufacturing only
represents 12% of the U.S. economy. Businesses have taken advantage
of high profit margins in recent years to deleverage and build up cash
reserves. The improved financial flexibility this provides is one reason
for the economy’s solid performance in 2015.
Looking Forward: Challenges & Opportunities
Heading into 2016, there are a number of challenges that may confront
capital markets and the U.S. economy. Primary among these is the
management of the slowing Chinese economy and the potential for
continued devaluation of the yuan. Stock market returns so far in 2016
have been poor in large part due to China.
Contact Us
If you have questions or
comments, or would like
additional information
regarding our services,
please contact us:
Alesco Advisors LLC
Tobey Village Office Park
120 Office Park Way
Pittsford, NY 14534
Phone: (585) 586-0970
Toll Free: (800) 277-3440
[email protected]
Visit us on the web at
www.alescoadvisors.com
However, there remain some notable factors that provide support for
the economic expansion to continue. The economy does not typically
enter recessions as a result of falling commodity prices, which instead
should help to support economic growth as the energy sector stabilizes
and lower input prices translate into higher disposable income for
consumers and improved earnings for businesses. High levels of
employment and long-awaited improvements in wage growth are
expected to foster strong consumer demand. The fundamentals
underlying the U.S. economy appear secure, and make us optimistic about the prospects for investment
opportunities going forward. As Federal Reserve Chair Janet Yellen recently stated, “it’s a myth that
expansions die of old age.”
Our advice to investors remains unchanged: construct an asset allocation that balances long-term
growth potential with shorter-term liquidity needs, incorporate broad diversification to manage risks,
and control costs. This is our approach to investing and we believe that following these fundamental
tenets will provide you with the highest probability of long-term investing success.
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