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First Quarter 2016 Newsletter

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And Lady Liberty Wept...

Politics has always been a rough and tumble business. This year’s Presidential Primary season has proved no exception, and has been both hostile and humorous at the same time.    Certain candidates’ policy platforms include various proposals which would exclude certain groups of foreigners.    Without taking sides in this issue, it seems as though a meaningful percentage of voters agree with at least some of these proposals. 

You don’t have to be a xenophobe to think that the US might be safer, or stronger, if it isolated itself from certain groups of people.  At the same time, how can you argue with the inscription at the bottom of our most famous statue? “Give me your tired, your poor, your huddled masses yearning to breathe free.”

It is at least a two pronged issue, dealing with both financial (taking our jobs) and physical (taking our lives) security.  Only time will tell who will be elected and which policies will be enacted.  In a greater sense it will define our country’s self-identity and our role as a global citizen.

But enough of this serious talk. In comparison to the issues raised above, global finance has always been much simpler and easier to decipher.  The bottom line has always been … the bottom line.  In its quest for profit, the international marketplace doesn’t really care which country those profits come from.  It doesn’t matter what language a country speaks or their religious beliefs or racial background.  If they offer a somewhat free and liquid exchange with at least some veracity in their financial documentation, that’s enough for most global investors.

Over the last several quarters, good old USA -- and especially its well-known, larger companies, has been the global leader in investment performance.  That stemmed from our economy emerging from the  vestiges of the ’08-’09 generational bear market at a quicker pace than most other developed and emerging market nations.   In addition, the US dollar was the strongest currency during many of those years, thereby making investing in stocks and bonds dominated in other currencies an up-hill battle.  After a couple of years of viewing these major differences in returns between stocks of the US and other foreign countries, there may be a tendency for investors to think they are wasting time and money by holding anything except US equities.  Before we miss the forest for the trees, let’s make sure that this recent phenomenon doesn’t misrepresent what has been the long term reality of diversified global investing. 

Foreign stock ownership adds a layer of diversification. Exhibit 1 shows that portfolios that skip investing in foreign shares miss half of the available opportunities.

You may remember that the investment world called the first decade of the 2000’s “The Lost Decade.” This was because the venerable S&P 500 Index had a net cumulative loss for the entire decade.  However, that wasn’t the case for investors with a globally diversified portfolio.  See Exhibit 2 below.


This clearly shows that the first decade of the 21st century had meaningfully better returns if you included both foreign developed and emerging market asset classes. Those investors who relied upon only US stocks had dramatically inferior performance.

Exhibit 3 below shows how 19 different developed countries have fared over the last twenty years.  It would be great if we could devise a way to choose only the top performers.  But there is a meaningful randomness that is in play, and attempts to pick winners have had similar results as trying to succeed in any stock picking contest.


Those investors who like to chant “USA, USA, USA” may be interested to know that US equity markets earned a first, second or third place spot exactly 4 times during the above 20 year period.  It was also in the bottom three spots 4 times as well.   Interestingly, New Zealand, Italy, Singapore, Austria and even Japan each reached the top three spots exactly 4 times as well.  Investing only in USA would have not only put investors in a more volatile position, but their total returns would have been no better. 

The moral of this story is simple.  Over the long term, globally diverse investment portfolios have benefited in both returns and risk dampening.  There will obviously be shorter term periods where any one country and geographic region will have superior results.  But as long term investors, our clients want to generate the most efficient total returns.  A globally diversified portfolio allows them to do just that.  So regardless of what your political persuasions may be, please don’t say no to foreign investments.  You don’t have to learn a new language or convert your cash to their currency or even drink their water, but over the longer term, you will need all those foreign investments to reach your financial goals.

Two New Asset Classes For Your Portfolio

During the first quarter and for the next month or two, we are adding two new asset classes to your portfolio.  Adding an asset class occurs only when we believe we can add to both long term performance and reduce potential volatility in the portfolio.  In your income portfolio, we are adding Alternative – Market Neutral fund(s).  These institutional funds are based on owning a portfolio of exact weighted long and short equity funds.  This takes all market direction out of the investment, and the result is a long term risk and return that is similar to intermediate bond returns, but without interest rate risk, which is now more highly probable over the long term.

We are also adding a small weighting of Alternative – Managed Futures fund(s) to the equity side of the portfolio.  This investment will allow our clients to participate in both up or down movements in energy, commodities, currencies, interest rates, market indexes and other futures-based holdings.  This asset class typically has similar long term returns as equities, but often experience their positive performance at times when equities are having poor returns.  Each of the new asset classes chosen typically has price movements that differ from stocks or bonds, and as such provide neutral correlation, which should add to their risk dampening effect on your overall portfolio.

First Quarter 2016 Asset Class Returns

Had Rip Van Winkle taken a nap on January 1st and awakened on April 1st, he may have thought it was a rather ho-hum quarter.  Performance for many equity asset classes appeared tepid, but on the positive side.  Real Estate was strong both domestically and internationally, while Emerging Markets, after a truly horrible 2015, bounced back strongly with mid to upper single digit gains.  Other than that, US equity asset classes had mostly low single digit gains, while International returns were mostly small single digit losses.   What Winkle missed during his 90 day nap was dramatic volatility that tested investors discipline and ability to focus on the long term. 

The new 2016 stock market had one of its worst beginnings ever.  It had losses at the end of its first day, first week and first month – all tell-tale guarantees that the 2016 market performance was going to be awful.  At least this was the opinion of scores of numerous talking heads and internet experts.   But as often happens when too many people are thinking the same thing, the market reversed itself, twice, during February and March, and ended the quarter almost exactly where it started. 

There were some common themes during the mayhem.  Lower energy prices, and its effect on a myriad of energy related companies, kept earnings on entire indexes weak.  Weakness in other natural resource based commodities and companies compounded the problem.  Continued economic weakness in many other developed and emerging countries also led many investors to fear that whatever growth the US still had would be harmed by this global slowdown.  Over 30% of developed countries are experiencing negative interest rates on their safest of bonds, all because of their governments’ attempts at stimulating their economies. 

Federal Reserve Chairperson Janet Yellen, after starting to increase the prime rate last December, slammed the brakes on any further increases until these global slowdown issues play themselves out.  This dovish stance assures that the US will not prematurely increase rates and stagnate their otherwise delicate domestic economy. 

There are some factors that point to economic optimism.  First, barrels of oil bounced from a low in the mid $20s to nearly $40.  If that signals a bottom to the energy slump, that could help future quarterly earnings comparisons.  There is a very modest increase in real inflation rates, and both corporate earnings and employment numbers appear to be steady and have the ability to increase and decrease, respectively.  The next couple of quarters will shed more light on the outcome of these issues. 

As long term investors, we take the market volatility and wall of worry in stride.  As has been shown over the first quarter, trying to react to volatile markets by selling is often the worst reaction an investor can make.  Rather, we patiently monitor market activity, and if necessary during major market declines, rebalance back to our original equity/income portfolio weightings, which accomplishes the buy low, sell high mantra that everyone attempts to perfect -- but seldom can.  

The second quarter promises to be very exciting, both economically and politically.  As these seasons change, make sure you get outside and enjoy the only season worth really focusing upon.



Frederick F. Kramer IV, JD
Chief Investment Officer