Markets, outlook & positioning — mid-year review

July 10, 2014

Equity and fixed income markets closed the first half of 2014 with increasingly positive returns. Concerns about global economic weakness and geopolitical flare-ups eased, allowing equity markets to rally.


David Klassen — Chief Investment Strategist

The surprise so far in 2014 is that less-risky assets, like bonds, have extended gains after a strong start. For perspective though, equities continued their outperformance compared to fixed income. This outperformance has been a hallmark of 2013 and 2014 returns.

Domestic equities, as represented by the Standard and Poor’s 500 (S&P 500) stock index returned 5.23% for the quarter and 7.14% for the first six months of 2014. The international developed equity markets index (EAFE) had a positive second quarter, up 4.09%, and has returned 4.78% for the year-to-date. Emerging market equities (MSCI EM) had the best performance for the quarter, up 6.60%. Notably, after a slightly negative first quarter, EM equities have largely caught up to domestic equities and have a return of 6.14% for the first six months of 2014.

Fixed income indices extended their price gains as yields fell. The Federal Reserve, led now by Chair Janet Yellen, continued the “taper”, a reduced level of asset purchases, from $85 billion a month down to the current $35 billion. Fixed income gains are attributed to a scarcity of bonds creating a supply-demand imbalance, weak global economic growth (including a negative reading of -2.9% US GDP growth in Q1) and the decline in bond yields in Europe. Add to that mix military concerns in the Ukraine, Iraq, and between Asian countries, and the resultant flight to safety that bonds traditionally offer, and we have more than ample explanation!

[quote_right]Slow but seemingly steady economic improvement continues in the US.[/quote_right]

For the remainder of 2014, investor focus remains on the global economy, and increasingly on earnings. Slow but seemingly steady economic improvement continues in the US, although early winter weakness means investors currently are expecting better results for the spring and summer. Employment is increasingly a positive, but it is possible that wages cause record high profit margins to decline, which would negatively impact all-time high corporate profits. In this light, improved revenue growth is paramount for sustained high corporate profits. Europe appears to have bottomed and is benefitting from accommodative policy. Some emerging economies have adjusted quickly to fast-changing global growth patterns and rapid changes in investor sentiment and appear poised to reflect their more compelling long-term opportunities.

A majority of United Church Funds’ equity managers are allocated to the US and are invested with well-positioned managers and strong companies. However, we remain diversified globally, as the attractiveness of relatively strong growth in the US is offset by somewhat less attractive valuations (due to strong price increases), and higher potential opportunities elsewhere in the world. In Balanced Funds, we remain overweight equities.

As for fixed income, you are likely aware that we have been positioning fixed income portfolios (Fixed Income Fund and Balanced Funds that hold fixed income) to protect against an eventual rise in interest rates. Our continued focus is on earning a competitive return and yield despite this caution — this has also meant a prudent diversification strategy into areas such as bank loans and emerging markets debt.

There is no shortage of challenges, economically and politically. By hiring managers on your behalf and allocating assets to attractive asset classes, our objective here at UCF is to take advantage of opportunities as they present themselves — for your long-term benefit — while also fulfilling our mission.

We are extremely grateful for your confidence in us as always.

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