Market Sector Update
- We’ve had a dramatic beginning to 2016. After the worst start to a new year in history, a double-digit percentage decline in the S&P 500 Index, Fund’s equities benchmark, and double-digit credit spreads in the high yield fixed-income market, asset markets rallied dramatically to finish 1Q modestly higher.
- The S&P 500 rose slightly, driven by consumer staples, technology, utilities and telecommunications. Financials and health care weighed on the index return during 1Q.
- The 10 year Treasury yield fell over the course of 1Q as the Federal Reserve (Fed) retreated from its previous (more aggressive) interest rate forecast.
- During 1Q, backward-looking economic statistics saw downward revisions and the current quarter economic growth outlook consistently deteriorated. The U.S. dollar depreciated in value relative to broad foreign currencies as future interest rate increases were taken out of investor forecasts.
- The Barclays Government & Credit Index, Fund’s fixed-income benchmark, rose during 1Q largely a result of falling Treasury yields. Spreads widen modestly in Investment Grade bonds over the course of 1Q but were volatile with a peak in February prior to a dramatic rally in March.
- During 1Q, the Fund’s equity portfolio declined, underperforming its benchmark.
- Industrials and financial were the primary drivers of Fund underperformance along with a significant underweight of utilities, which meaningfully outperformed the benchmark average. Positions in Citigroup, Alliance Data Systems and PNC Financial exhibited poor returns. Positions in Teva Pharmaceuticals, Energy Transfer Partners, Amazon and Shire Pharmaceuticals weighed on performance during 1Q.
- Offsetting this weakness was strong stock selection in materials, consumer staples and technology. Positions in Broadcom, PPG Industries, Mead Johnson, Applied Materials and Comcast were notable outperformers. Las Vegas Sands, Newfield Exploration, Frontier Communications and Hess Corp. were notable contributors.
- Over the course of 1Q, sector weights were adjusted to reflect a more cautious outlook. Both consumer discretionary and industrials weights declined while health care and consumer staples weights increased.
- The fixed-income portfolio rose but trailed its benchmark. Our short duration position hurt performance in 1Q as longterm interest rates dropped. The yield curve flattened, largely in the belly of the curve, as the Fed signaled fewer interest rate increases in 2016.
- 1Q began with a dramatic increase in credit spreads in both the Investment Grade and High Yield debt markets, which was completely reversed in the second half of 1Q resulting in a modest positive performance for the index. The portfolio continues to be short duration with an emphasis in high-grade bonds, preferring to focus on the credit side as solid corporate balance sheets and ample liquidity make the risk/reward more favorable, in our opinion.
- With multiple economic and political crosswinds buffeting global asset markets, it seems volatility is likely to remain at an elevated level.
- The Fund has been adjusting over the past year in reaction to the growing risks to economic growth and potential economic disruption resulting from the dramatic decline in oil and base metal prices. The targeted equity allocation was reduced from 70% to 55% over that time period with the balance allocated to fixed income and cash.
- In the end, asset markets will follow corporate earnings and cash flows and unfortunately, the trends and outlook there have been disappointing. In fact, S&P 500 revenues have been declining on a year-over-year basis for the past four quarters and earnings have been declining for the last two. 1Q, to be reported over the next several weeks, is expected to continue this downward trend with consensus expectations persistently declining.
- It’s this backdrop that explains the inability of risk markets to advance past their cycle-to-date peaks reached in the summer 2015. It’s also this anemic growth environment, coupled with recessionary economic conditions in several emerging market countries that have motivated central bankers around the globe to pursue unprecedented levels of monetary stimulus. To date, these measures have failed to ignite economic growth and yet, their determination has to be respected.
- While we continue to monitor macroeconomic forces and trends, we maintain an emphasis on finding highquality, growing companies whose securities are trading at a reasonable valuation with visible catalysts to drive relative outperformance over the next 12 months.
*Top 10 holdings (%) as of 03/31/2016: Broadcom Corp. 2.1, Carnival Corp. 2.1, JPMorgan Chase & Co. 2.0, PNC Financial Services Group, Inc. 1.7, Comcast Corp. 1.5, Teva Pharmaceutical Industries 1.5, Shire Pharmaceuticals Group 1.5, Union Pacific Corp. 1.4, PPG Industries 1.4 and Johnson & Johnson 1.4.
The opinions expressed in this commentary are those of the Fund’s manager and are current through March 31, 2016. The manager’s views are subject to change at any time based on market and other conditions, and no forecasts can be guaranteed. Past performance is not a guarantee of future results.
The S&P 500 Index is composed of 500 selected common stocks chosen for market size, liquidity, and industry grouping, among other factors. The Barclays U.S. Gov’t/Credit Index measures the performance of U.S. dollar-denominated United States Treasuries, government-related, and investment-grade U.S. corporate securities that have a remaining maturity of greater than or equal to one year. In addition, the securities have $250 million or more of outstanding face value and are fixed-rate and non-convertible securities. It is not possible to invest directly in an index.
Risk factors. The value of the Fund’s shares will change, and you could lose money on your investment. Fixed-income securities are subject to interest rate risk and, as such, the net asset value of the Fund may fall as interest rates rise. The lower-rated securities in which the Fund may invest may carry greater risk of nonpayment of interest or principal than higher-rated bonds. In addition to the risks typically associated with fixed-income securities, loan participations in which the Fund may invest carry other risks, including the risk of insolvency of the lending bank or other intermediary. Loan participations may be unsecured or not fully collateralized may be subject to restrictions on resale and sometimes trade infrequently on the secondary market. The Fund’s emphasis on dividend-paying stocks involves the risk that such stocks may fall out of favor with investors and underperform non-dividend paying stocks and the market as a whole over any period of time. In addition, there is no guarantee that the companies in which the Fund invests will declare dividends in the future or that dividends, if declared, will remain at current levels or increase over time. The amount of any dividend the company may pay may fluctuate significantly. In addition, the value of dividendpaying common stocks can decline when interest rates rise as fixed-income investments become more attractive to investors. This risk may be greater due to the current period of historically low interest rates. An investment in the Fund is not a bank deposit and is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. These and other risks are more fully described in the Fund’s prospectus. Not all funds or fund classes may be offered at all broker/dealers.
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