Investment Review for Second Quarter 2014

Continued volatility.

2014 was off to a much more volatile start than the prior year with seven days of large price swings on global stocks in the first three months. The trend continued in April where stocks experienced two additional days of 2% or greater price movements. However, stock market volatility fell and risky assets rallied when geopolitical tensions began to ease. Global infrastructure and real estate performed best in the second quarter, while emerging market stocks outperformed both domestic and foreign developed company stocks.

Core bonds (safer investment-grade bonds) as a whole appreciated 2.0% as interest rates continued to fall during the second quarter. Within the non-core bond (riskier bonds) category, emerging market bonds performed best, gaining 4.8%, as attractive yields and renewed confidence drove investors back to emerging market issues.

Major asset class returns.

Corporate earnings and stock buybacks.

With corporate revenues increasing just shy of 3.5% over the past twelve months, businesses have relied on less conventional measures to increase earnings per share. One way to increase earnings per share is to reduce the total number of shares outstanding. In 2013, large corporations (as represented by the S&P 500) repurchased over $475 billion of their own corporate stock. Thus far in 2014, the pace of repurchases increased to nearly $160 billion in the first quarter alone. While this process can boost earnings per share in the short run, corporations will need to focus on growing revenue in order for businesses to grow and prosper in the long run.

Domestic economic growth.

U.S. economic growth had a bumpy start in 2014. Economic activity, as measured by gross domestic product, shrank by 2.1% during the first quarter. This was the first negative quarterly growth rate in three years. Much of the weakness has been attributed to harsher than normal winter conditions as well as the presence of excess inventory that built up during the prior year. While the lack of growth in the first quarter was disappointing, second quarter growth is expected to be promising based on recent economic data.

Labor market update.

With the addition of 9.1 million jobs since January of 2010, the U.S. economy has now recovered all of the jobs lost during the 2008/2009 recession. Even better, the labor market is now expanding faster than the working age population. On average, job gains over the past twelve months exceeded population gains by approximately 10,000 per month.

It’s important to note, while we continue to make progress in the labor markets, the percentage of working age people employed in the U.S. remains below pre-recession levels. Specifically, 59.1 out of every 100 people of the working age population is employed today vs. 64.6 out of every 100 in the year 2000. What is interesting, however, is that a larger percentage of those 65 and older are working now than in the year 2000. In contrast, younger people are finding it much more difficult to find work than in years past.

Central Bank activity.

The U.S. Federal Reserve continued to reduce its monthly asset purchases, but changed little else with regard to policy during the first quarter. In contrast, the European Central Bank announced several new easing measures in June designed to spur economic growth, the most noteworthy of which was a negative interest rate charged on excess reserves held with the Eurosystem. This policy will penalize banks for holding excess cash rather than lending it to businesses or others in need of financing. Other measures included a policy rate cut and an estimated €400 billion in targeted long term refinancing operations.