Please enjoy market commentary each quarter from Chief Portfolio Strategist James W. Underwood, CFA.

U.$. Dominance

October 2018

The Trade-weighted U.S. dollar index was established to measure the value of the U.S. dollar relative to other currencies. For U.S. investors investing outside the United States, the index represents a critical macro driver of short-term results as currency moves can either contribute to (weakening U.S. dollar) or detract from (strengthening U.S. dollar) the investment results of foreign investments.

The U.S. dollar has climbed six consecutive months, gaining 4.6% year-to-date through September 30th. This currency headwind has weighed heavily on non-U.S. assets, continuing a longer-term trend which began in 2013. Over this period, the cumulative appreciation by the trade-weighted U.S. dollar index has been nearly 27%, resulting in a dollar dominated investment environment.

After experiencing a bout of weakness in 2017 fueled by a global growth recovery, many experts predicted the dollar would decline further in 2018. However, as foreign economies have softened in 2018, the U.S. economy has strengthened, enabling the Federal Reserve to continue their rate normalization process, further widening the monetary policy gap between the U.S. and other developed markets. The diverging growth and policy paths, combined with global trade tensions, have been, and will likely continue to be, supportive for the dollar, but concerns are growing louder. An overly strong dollar could eventually hurt U.S. companies as exports become prohibitively expensive and/or earnings come under pressure as foreign revenues are worth less when translated back into dollars.

Notwithstanding these headwinds and ongoing concerns, the only pressure on U.S. earnings in 2018 has been upward pressure, providing a strong catalyst for U.S. stock market gains, especially during the third quarter. A closer look at the third quarter capital market environment follows:

Developed Equity Market Review

The S&P 500 posted its best quarterly result since the final quarter of 2013, climbing 7.7%. According to FactSet, the year-over-year earnings growth rate for second quarter earnings was 25% (99% of the companies reporting). Of those reporting, 80% of companies exceeded estimates, marking the highest percentage of positive surprises since FactSet began tracking this metric in Q3 2008. Looking forward, third quarter earnings growth estimates are modestly lower, but expectations are high that the S&P will post its third straight quarter of 20%+ year-over-year earnings growth.

Contributing to the positive earnings results has been rising profit margins, propelled by many factors, including corporate tax reform. Net profit margins have exceeded 11% each quarter during 2018 marking the highest levels in over a decade.

Reviewing sector results, all eleven sectors advanced during the quarter. Leading the way was the Health Care sector, which gained 14.5% as shares of pharmaceutical companies soared. Another strong performer was the newly created Communication Services sector. The new sector represents approximately 10% of the S&P 500 and includes names such as Facebook, Alphabet, Twitter, Netflix and Walt Disney. For the quarter, the sector climbed 9.9% with every company in the sector reporting a positive earnings-per-share surprise. On the opposite end of the spectrum, the Real Estate, Energy and Materials sectors lagged, advancing less than 1% during the period.

From a style and capitalization standpoint, the growth style continued its momentum during the quarter, outpacing its value counterparts by more than 3.5% across the capitalization spectrum. Year-to-date, the growth advantage has been dramatic, exceeding 13% within the large cap space.

Outside of the U.S., developed equity markets climbed 2.4%; however, the currency headwind negated a portion of this return, netting U.S. dollar investors 1.4%, as measured by the MSCI EAFE Index ($). Results were strongest in Japan as economic activity has strengthened. Banks across Japan continued to expand credit and employment metrics approached historic levels. According to a recent release from JP Morgan, the current level of jobs available per applicant has not been this high since 1974.

Across Europe, results were mixed as economic data continued to trend downward. European Central Bank president Mario Draghi points to trade uncertainty as the primary contributor to slowing Eurozone economic activity, but feels it is only a temporary setback.

Fixed Income Review

The Federal Reserve continued to follow-through with its rate normalization program, raising the benchmark overnight lending rate by 0.25% to a range of 2.00% – 2.25%. This marked the third increase in 2018 and expectations continue to rise of an additional hike in December. The yield curve shifted higher as rates climbed across all maturities, putting downward pressure on Treasury prices. Economic strength, the catalyst behind higher interest rates, lifted other areas of the investment grade bond market, resulting in narrowing credit spreads. The cumulative impact of rising Treasury yields and narrowing credit spreads was an investment-grade bond market that ended the quarter basically flat, as measured by the Barclays Bloomberg Aggregate Bond Index. Outside the taxable bond market, tax-exempt bonds were also pressured by rising interest rates, resulting in increasing losses as you moved out on the maturity spectrum.

Satellite Strategies

As the dollar has climbed, Gold prices have fallen. For the quarter, the S&P GSCI Gold index declined 5%, bringing its year-to-date return down to -9.4%. Emerging markets have also been under pressure as currency and trade concerns have raised questions about potential structural vulnerabilities. China continues to be the headline concern as many EM countries depend on Chinese demand for growth. For the quarter, Emerging equity markets were down 1.1%. On the positive side, MLPs had another strong quarter, buoyed by solid operating results.

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Viewpoints are a series of white papers on the way we see life in this financial world we live in today. We hope you will enjoy.

Off to the Races

Written by Jim Underwood, CFA, Chief Portfolio Strategist

As we approach November 8th, I am repeatedly asked, “How will the outcome of the upcoming elections impact investment markets, and which is better for the stock market – Republican leaders or Democratic?” My honest, easy answer (or non-answer) is always – “it depends”. However, let’s see if any broad generalizations can be made based on historical observations.

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Securitas, derived from the latin word for security, is an Article Series by Welch Hornsby, meant to help raise your awareness of the importance of information security.

Smartphone/Tablet Theft 2nd Quarter 2016 Security

Written by Jon Atchison, Information Security Coordinator

While you may not see the stories on major news networks, smartphone theft is big business and you would be surprised to learn that in 2013, 
3.1 million smartphones were reported stolen in the United States. It may also come as a surprise that nationally, just under a third of all robberies involve a smartphone of some kind.

A stolen smartphone (or tablet) represents a win-win for the thief because they have your device and in many cases, they get the information inside that device. Identity theft (and fraud) often begins from within a stolen device. Remember that ID theft is merely the stealing of your information. ID fraud occurs when the would-be thief uses your information for financial gain (loans, lines of credit, using your credit card to purchase groceries or gas).

So, ask yourself, “What if my iPhone or iPad (or computer) was stolen? Would I know what to do? Could I track and erase the data on my device?” In answering these questions, the first suggestion would be to learn about your technology and any such capabilities. Knowledge of how you can protect, track and erase your device is an essential first step. Having this knowledge will give you confidence when creating a plan in case your device is lost or stolen. In this article, you will find two scenarios where having a plan is crucial.

  • What to do when a personal device (computer/tablet/smartphone) has been stolen.
  • What to do when someone has used my identity to make a purchase or secure a loan.
    • Stolen card numbers are a more likely event and represent an easier mark for the thief. Stealing enough information about you to secure a loan is a different problem altogether.

Another suggestion would be to prepare yourself for a potentially daunting exercise in perseverance and patience. Living through either scenario is not going to be fun – but executing a well-prepared plan will make the experience much more manageable.

Scenario #1 – Your tablet/phone was lost or stolen while on vacation (or from any location). We will use an Apple product as an example.

Don’t panic – I say that because I assume you have already placed a passcode on the device. This is the FIRST line in the defense of your identity/privacy. If your iPad/iPhone or other tablet has no barrier between it and the general public – everything is fair game to the lucky thief.

Make a Call – If you suspect theft, notify the local authorities and try to retrace your steps in an effort to identify where the device went missing. Also, call your investment advisor, banker, CPA, etc to notify them of the potential theft. Many phishing emails originate from a client’s stolen device.

Track your device – Apple gives you the ability to locate your devices (iPads, Macs, iPhones) via the I encourage you to learn more about how Apple and Android help protect you and the information on your devices.

Change your passwords – Strongly consider changing any password associated with email located on your device. Other password changes could involve banking/credit card apps and shopping apps as well. Definitely change the account password for your AppleID (or Google Play if applicable).

Notify your banks and credit card companies – If you had your bank account(s) and credit card data integrated into your phone through their apps, notify them immediately and request that an alert be placed on your account. They may offer other helpful suggestions as well.

Scenario #2 – What to do when someone has used my identity to make a purchase or secure a loan.

There are fantastic resources that I would like for you to consider when thinking about your response to personal identity theft. The first link below is a more concise approach titled, “What To Do Right Away.” You might want to print this out and have it ready just in case…

The second link is “Taking Charge: What To Do When Your Identity is Stolen” and will help you build a personal recovery plan.

I encourage you to spend some time in these documents and work through them to build a greater awareness of where you have the most exposure.

Identity thieves and fraudsters gain the most from victims who are not prepared. A victim who has a plan, knows their technology and who to call can mitigate much of the risk that comes from a stolen device. Being able to quickly respond to these events will save you time, money and hopefully some sanity.
A premium is often placed on investing in financial markets, our careers and healthy lifestyles. While these are worthy endeavors, we live in a world that requires more diligence in protecting and caring for our privacy and identity. The former usually takes time to realize a return, if any. I believe the latter will most certainly benefit you not only in the short run, but in the long run as well.

Written by Jon Atchison
Information Security Coordinator for Welch Hornsby, Inc.

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