Market & Economic Insights 3Q 2017 Economic Outlook 5 Factors - - PowerPoint PPT Presentation

Market & Economic Insights 3Q 2017

5 Factors Comments Positive/ Neutral/ Negative

Monetary Policy

• U.S. Fed has raised rates four times (Dec 15; Dec 16; Mar & June 17); one more

expected in 2017

• Other central banks (ECB, BOJ) continuing accommodative policy
• U.S. Fed set the stage for the reduction of $4T balance sheet beginning late 2017

NEGATIVE Fiscal Policy

• Trump agenda focused on fiscal stimulus: tax cuts, infrastructure spending
• CBO expects budget deficits & federal net debt as % of GDP to grow
• Fiscal policy lag may continue to prove challenging

NEUTRAL Global Macro Environment (U.S. Emphasis)

• U.S. experiencing slow GDP growth, but consumer health still strong
• U.S. unemployment low at 4.4% – tightening labor market
• Global macro environment improving. Macron winning French presidential election

helps stabilize geopolitical concerns in Europe, aside from Brexit NEUTRAL Valuations

• Valuations stretched
• Corporate earnings will be challenged by increasing financing costs
• High Yield spreads have contracted significantly

NEGATIVE Investor Sentiment

• Expected pro-business environment increasing equity market confidence
• Positive market momentum
• S&P 500 positive 15 of the last 16 months

POSITIVE

Economic Outlook – 5 Factors

Impact of Fed Tightening

Source: Federal Reserve; Morningstar Direct; JP Morgan Asset Management

Last 5 Rate Hike Cycle Averages:

• Fed Funds Rate:

3.0% Increase

• 10 Year Treasury:

1.0% Increase Current Cycle Expectations:

• Fed Funds Rate:
• Fed = 3.0%
• Market = 2.0%

3.13% 3.25% 3.00% 1.75% 4.25% 1.00% 2.74% 0.91% 1.85% 0.50% 0.50% 0.14%

0% 1% 2% 3% 4% 5%

MAY 1983-JUL 1984 MAR 1988-FEB 1989 FEB 1994-FEB 1995 JUN 1999-MAY 2000 JUN 2004-JUN 2006 DEC 2015-?

Historic Rate Hikes

Fed Funds Rate Increase 10 Year Treasury Increase

May 1983-Jul 1984 Mar 1988-Feb 1989 Feb 1994-Feb 1995 Jun 1999-May 2000 Jun 2004-Jun 2006 Dec 2015-? # of Rate Increases 7 10 7 6 17 4 Time Period (Months) 14 11 12 11 24 19 Fed Funds Rate Increase 3.13% 3.25% 3.00% 1.75% 4.25% 1.00% 10 Year Treasury Increase 2.74% 0.91% 1.85% 0.50% 0.50% 0.14% S&P 500 Return

• 9.60%

6.80%

• 2.10%

8.50% 12.00% 14.44% U.S. Dollar 10.40% 1.70%

• 4.70%

3.40%

• 5.80%
• 3.00%

U.S. Treasury Curve – Historical Perspective

Source: U.S. Department of the Treasury

Once one accounts for increasing inflation assumptions in moving along the curve, the real yield curve is flat at best, and may be in the process of inverting. Applying long-term historic inflation to the nominal yield curve results in negative real rates on the longer end of the curve.

2.31% 3.04% 5.03% 0% 1% 2% 3% 4% 5% 6% 1 Mon 3 Mon 6 Mon 1 YR 2 YR 3YR 5 YR 7 YR 10 YR 20 YR 30 YR 6/30/2017 12/31/2013 6/30/2007

Flattening

Expansion – Growth Improving

Indicator THEN 12-31-16 NOW 7-31-17 Recent Move POS/NEG Industrial Production 0.5 2.0 Pos ISM Non Manufacturing* June 57.4 Recent High 57.2 53.9 Neg ISM* June 57.8 Recent High 54.7 56.3 Neg Real Trade Deficit Q2Imp

• 41.4
• 43.8

Pos Real GDP annual rate Q2Imp 1.9 2.1 Pos Consumer Confidence 113.3 121.1 Pos Real Consumer Spending Annual Rate 2.8 2.4 Pos Non-Farm Payrolls Q2Imp 156,000 209,000 Pos Unemployment Rate Q2Imp 4.7 4.3 Pos

Economic Cycle and Recession Probability

Source: Goldman Sachs Global Investment Research, National Bureau of Economic Research, GSAM, Fidelity Investments (AART)

Business Cycle Position Recession Probability and Years to Recession

• The U.S. is well into a

growth phase, but economic growth may continue for some time

• However, declines in

equity valuations typically precede recessions

Prices Have Outpaced Earnings

Source: Advisor Intelligence; Standard & Poor’s; Morningstar Direct

6%

• 11%

5% 11% 0% 2% 2% 2% 2% 2% 4% 10% 6% 20% 13% 2016 2015 2014 2013 2012

S&P 500 Return Components - Last 5 Yrs.

Operating Earnings Growth Dividend Yield Price (Multiple) Expansion

• Over the last five years, earnings for U.S.

companies have grown just 13%, yet the stock market has rallied 87%

• The rally in U.S. stocks has been driven by

expanding valuation multiples – investors paying more to own stocks, rather than underlying corporate earnings growth

U.S. vs. International Stocks: Performance Cycles

Source: Morningstar Direct

Per-Cycle Cumulative Relative Performance, S&P 500 vs. MSCI EAFE

• 1400%
• 1300%
• 1200%
• 1100%
• 1000%
• 900%
• 800%
• 700%
• 600%
• 500%
• 400%
• 300%
• 200%
• 100%

0% 100% 200% 1971 1975 1979 1983 1987 1991 1995 1999 2003 2007 2011 2015

Cycle of U.S. Stocks Outperforming Cycle of Intl. Stocks Outperforming

U.S. stocks and developed market international stocks may outperform each other over cycles of multiple years, and the cumulative performance difference each cycle may be significant.

Possible new cycle: International

• utperforming U.S. for five of seven

months beginning November 2016

26

• 10

15 17 1 26 15 2 12 27

• 7

26 4 7

• 2

34 20 31 27 20

• 10
• 13
• 23

26 9 3 14 4

• 38

23 13 13 30 11

• 1

10 8

• 49
• 10 -6
• 7
• 12
• 11
• 3
• 60
• 50
• 40
• 30
• 20
• 10

10 20 30 40

S&P 500 Calender Year Price Returns and Annual Max Declines

Calender Year Returns (%) Intra Year Max Declines (%)

Median Annual Max Decline = 10.5%; 2016 = 11% Annual Calendar Year Returns positive in 28 of 37 Years (75%)

Will the Market Decline 10%?

Source: JPMorgan Asset Management

10

Strategic Market Outlook – Portfolio Impact

• Increase INTL Exposure
• Add INTL Small Cap
• Add EM Exposure
• Add ALT EM Bond Exposure
• Retain Conservative Stance in Domestic Fixed Income
• Reduce Risk in Equity Space through Strategy Selection

Disclosures

Financial Advisory Consultants DBA/Cornerstone Management Inc. is a Registered Investment Advisory Firm. Although the information in this report has been obtained from sources that the Firm believes to be reliable, we do not guarantee its accuracy, and any such information may be incomplete or condensed. All opinions included in this report constitute the Firm’s judgment as of the date of this report and are subject to change without notice. This report is for informational purposes only and is not intended as an offer

• r solicitation with respect to the purchase or sale of any security. This presentation may
• nly be dispensed with the disclosure page attached.

Market & Economic Insights Contacts: Bryan Taylor, Winters Richwine, or Chad Crawford Phone: 770-449-7799 Email: bryan@cornerstonemgt.net winters@cornerstonemgt.net chad@cornerstonemgt.net Web Address: www.cornerstonemgt.net