Investment Review for Second Quarter 2016

A referendum was held to determine the fate of the United Kingdom (U.K.). Leading up to the vote, numerous polls were conducted to gauge the mood of the British people and determine the probability of the U.K. leaving the European Union (E.U.). Yet with so much at stake and polls too close to call, financial markets appeared surprisingly euphoric leading up to the vote. In fact, domestic stocks were just shy of an all-time high when the NY Stock Market closed on June 23.

The mood changed dramatically overnight as votes were tallied and it became clear that U.K. citizens had voted to leave the E.U. While most of us were still in bed on the morning of June 24, stock prices were falling across the globe. Over the course of the next two trading days, a 13.41% sell off of European stocks led global stocks as a whole to a 6.85% two-day loss.

Major asset class returns.

Brexit fallout.

The vote to leave the E.U (known as Brexit) will have both significant political and economic ramifications. First, the U.K. will need to renegotiate trade deals with Europe and the world. While the negotiations take place over the next few years, it is likely that businesses within the U.K., as well as continental Europe, will reduce corporate investment until the uncertainty is resolved. Any reduction in spending would be negative for economic growth and job creation.

Second, the Brexit vote has strengthened anti-E.U. sentiment in countries throughout Europe. Beyond Europe, globalization and economic cooperation are under siege across the globe. In fact, at home neither the Republican nor Democratic candidate for President is promoting a positive view of global trade and investment. Unfortunately, over time, a reduction in global trade would likely lead to a reduction in standards of living.

Oil prices rebound.

The price of a barrel of oil rose to $48.05 from as low as $26.01 earlier in the year. As the price began to exceed the $40 level, fear of a complete collapse of the domestic oil and gas fracking industry began to subside. Energy infrastructure businesses specializing in services such as transportation, gathering, processing, and storage of oil and natural gas have seen their share prices recover and post double digit gains for the year.

Monetary policy.

In December 2015, the majority of Federal Reserve participants indicated that four or more interest rate increases could occur in 2016. Since then, the pace of domestic economic growth has slowed, international concerns have increased, and the pace of job creation has fallen below 200,000 positions per month. As such, in their most recent press release, the majority of Federal Reserve participants now believe that only one or two interest rate increases are likely in 2016. This change in outlook is positive for borrowers who will continue to enjoy low interest rates for a bit longer, but negative for savers who continue to earn low rates of return on savings accounts, CDs, government bonds, and other low risk investments.

Negative yielding bonds.

A combination of unconventional central bank policy, worries over slow economic growth, and increased geopolitical uncertainty has led to the phenomenon of negative yielding bonds. That is, a bond that when purchased will produce a guaranteed loss if held to maturity. Following the Brexit vote, the level of global negative yielding bonds increased to $11.7 trillion dollars. This difficult environment requires investors to choose between lower returns on their investment portfolios, accepting a higher level of risk, or a combination of both.

Jobs.

Interpretation of the May jobs report was a mix of concern, confusion, and disbelief when the labor department reported that only 38,000 jobs were added during the month. This number was later revised down to 11,000, but was accompanied by a more palatable 287,000 job increase for the month of June. Even with the terrific June number, monthly job gains have been on the decline thus far in 2016. When combined with the fact that there are an estimated 5.7 million current job openings, it is likely that there is a skills mismatch between those looking for work and those looking to hire.