Author: cvernon

Has Supply Peaked for this Real Estate Cycle?

Deliveries of new supply (property stock) in the commercial real estate market appear to have peaked in 2018 across all major property sectors (apartment, industrial, office, and retail). Higher construction and labor costs, as well as positive net absorption (demand), particularly in the apartment sector, are keeping supply in check. These supply dynamics give us comfort that the next real estate slowdown will be less severe compared to the last two cycles when oversupply prior to a recession exacerbated the downturn.

Despite further moderation in returns, overall fundamentals (absorption, occupancy, fund flows) remain relatively healthy across the real estate sector. Real estate lenders are more risk aware and showing heightened levels of discipline in this cycle compared to the last cycle. Strong fundamentals coupled with tightened lender behavior and little to no expected interest rate increases in 2019 should lead to stable real estate pricing and cap rate spreads to U.S. Treasury yields. As a result, we expect total returns in the mid-single digits for core real estate with an emphasis on income growth (NOI) over appreciation.

Print PDF > Has Supply Peaked for this Real Estate Cycle?

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

BREXIT: Three Strikes and May Is Out

On Friday, May 24th, Prime Minister Theresa May somberly announced her plans to resign as the Conservative Party leader and head minister of the U.K. Parliament on June 7th. When David Cameron turned over the reins in 2016, post the referendum vote results, May pledged to uphold the decision of the populous and lead the United Kingdom out of the bloc. Yet, May’s best efforts to deliver a withdrawal agreement have come up short, and with growing pressure from her party and another no-confidence vote on the horizon, May bowed out in hopes that a new leader will break the Brexit deadlock.

Angst about the state of Brexit and May’s performance had been coming to a boil throughout the month. On May 3rd, local elections across England yielded an upsetting blow to the country’s two main political parties, the Conservatives and the Labours, which jointly lost 1,380 local seats in backlash from the political dysfunction surrounding the second Brexit extension. May’s push to resolve the impasse prior to EU elections led to numerous resignation calls by both Conservative and Labour party MPs, with members of PM May’s inner circle throwing in the towel.

In light of her resignation, how has the market responded? Who is competing to be Britain’s next PM? Where does this leave the state of Brexit? The purpose of this newsletter is to address these questions and to provide our outlook on how Brexit will shape international investing conversations for the remainder of the year.

Read > BREXIT: Three Strikes and May Is Out

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

 

Upping the Trade Ante: The U.S. Increases Tariffs on China

On May 10th, the United States increased tariffs from 10% to 25% on $200 billion of Chinese imports after trade talks broke down. The increase was initially planned for January 1, 2019, but the U.S. delayed the tariffs in order to see if a resolution could be reached by May 1st. China retaliated on May 13th with an increase in tariffs on $60 billion on American goods, effective June 1st.

Since the announcement, U.S. and Chinese equity markets have been down 0.9% and 6.1% through May 17th. In particular, there are a number of companies and industries caught in trade crosshairs:

  • Apple: China accounts for almost 20% of Apple’s revenue and hundreds of its suppliers are located in China. Concurrently, Chinese consumers have been moving away from more expensive iPhones towards cheaper Chinese brands like Huawei.
  • Semiconductors: Intellectual property disputes were key to the breakdown in trade negotiations. Many semiconductors are made in China and are used in mobile devices. An increase in tariffs could raise prices for consumers, which may lead to higher inventories and lower investment in innovation.
  • Materials: China owns 90% of rare earth supplies, which are used in advanced technologies. These materials may be subject to future tariffs.

Fortunately, the United States has taken some steps to lessen the blow of tariffs. First, the Trump administration delayed making a final decision on whether to impose tariffs on auto imports from the European Union and Japan. Second, the administration reached a deal with Canada and Mexico to end U.S. and retaliatory tariffs on steel and aluminum. This removes a major roadblock in the possible passage of the USMCA trade agreement, which would replace NAFTA, by Congress. However, our trade with China is greater than our trade with Canada or Mexico.

Recently, consumer confidence hit a 15-year high, but the survey was taken before the May 8th trade announcement. While the Street is crossing its fingers that a deal can be reached by the G20 summit in late June, we are more concerned with how a prolonged dispute can affect business investment and eventually, consumer confidence.

Print PDF > Upping the Trade Ante: The U.S. Increases Tariffs on China

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Are Low Default Rates a Reason to Reach for Higher Yields?

As indicated in Moody’s 2018 Annual Defaults Report, recent default rates on corporate debt have been significantly below long-term historical averages. Is this as positive for forward returns as one would think?

This week’s chart of the week shows recent corporate default rates against the longer-term averages and the return/risk ratio. As expected, the default rates are lower across the board and especially so in the sub-investment grade space. B rated debt has the largest change in default rate at 9.3%, leaving the trailing 5-year default rate at nearly half of its longer-term average. Lower default rates have been great for returns, so what’s the risk?

Just as equity analysts extrapolate recent high company earnings growth into the future, the risk is that credit analysts extrapolate the unordinarily low default rate into the future. The recent economic environment has been hospitable for low default rates with steadily increasing corporate margins and an increased ability to pay down debt. As some investors move into more volatile and lower quality debt to chase the higher yield that these bonds offer, the return per unit of risk decreases because the default rate increases by more than the additional yield benefit. If default rates were to increase and revert to the mean, lower credit rating bonds would be hit especially hard.

However, active investment managers strive to mitigate some of these risks. They can tilt their portfolios to higher quality bonds or choose bonds that they believe are rated incorrectly by rating agencies, thus lowering their portfolio’s default rate. In total, the recent low default rates have been great for trailing returns, however the future environment is uncertain and the strategy of reaching for higher yield may not perform as it has in recent history.

Print PDF > Are Low Default Rates a Reason to Reach for Higher Yields?

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Municipal or Taxable Bonds for High Net Worth Investors?

Municipal bonds remain attractive and still make sense for high net worth investors on a go-forward basis even in the wake of the Tax Cuts and Jobs Act that went into effect in 2018 and the spread-widening that we experienced in the credit markets during the fourth quarter of 2018. This research brief compares the current state of municipal bonds versus taxable bonds, including:

  • The Municipal/Treasury Ratio
  • A Comparison of Long-Term Historical Returns
  • Tax-Equivalent Yields

Read > Municipal or Taxable Bonds for High Net Worth Investors?

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Hedge Fund Favorites Rebound to Start 2019

This week’s chart shows the performance of Goldman’s portfolio of hedge fund favorites, which draws from over 800 fundamental-driven hedge funds’ top 10 long equity holdings. This hedge fund index is constructed with approximately 50 holdings commonly held in the top 10 by fundamental hedge funds.

In the fourth quarter of 2018, top hedge fund holdings gave back all their first half gains and underperformed the S&P 500 for the year. These popular holdings were positively correlated with growth and momentum factors. They were also heavily weighted toward the technology sector which helped them outperform during the first half of 2018.

As the calendar flipped to 2019, hedge fund performance has rebounded strongly, finishing the quarter with the strongest performance since 2006. Sector weights to information technology, communication services, and consumer discretionary drove outperformance from the most widely held hedge fund names. This strong start to 2019 was much needed for hedge funds, as 2018 returns failed to meet investor expectations. Of course, this represents only one quarter of the year and investors will be following hedge fund performance closely for the remainder of 2019 to see if this pattern continues.

Print PDF > Hedge Fund Favorites Rebound to Start 2019

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

U.S. Equities Rally as Outflows Persist

This week’s chart looks at Morningstar fund flow data among the broad category groups of U.S. equity, international equity, taxable bond, and municipal bond. Since January 2018, U.S. equity funds saw cumulative net outflows totaling $123 billion, while international equities had positive cumulative inflows of $30 billion, taxable bonds had positive cumulative inflows of $97 billion, and municipal bonds had positive cumulative inflows of $32 billion. Negative fund flows within U.S. equities continue to persist in 2019 despite strong year-to-date gains.

The trend of U.S. equity outflows over the span of this bull market is nothing new but it is surprising to see fund outflows persist in the face of such a strong recovery off the December 2018 lows. As an example, the S&P 500 recently hit a record closing high of 2,945.83 on April 30th, surpassing the previous record closing high of 2,930.75 logged on September 20th, 2018. With the bull market turning ten years old on March 9th, a non-euphoric sentiment among investors may be a factor keeping this historically long bull market going.

What is driving this recent rally? In the past few months, investors have reacted to a significant reversal in monetary policy, better than expected first quarter earnings, a strong first quarter GDP, as well as continued increases in corporate stock buybacks. However, caution observed in fund flows may prove warranted with such items as a technical yield curve inversion, weakening profit margins, U.S.-China trade deal, Brexit, and upcoming 2020 elections weighing on investors’ minds.

Print PDF > U.S. Equities Rally as Outflows Persist

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

IPOs Are Coming

This year has seen a burst of unicorn IPOs paving the way for Uber’s IPO later this year. While Lyft, Zoom, and Pinterest shared Uber’s unicorn status, they have had very different rides post-IPO in the stock market.

The market’s appetite for IPOs appears strong after a bumpy end to 2018, but one of the most recent unicorns to go public, Lyft, has struggled. After going public on March 28, the stock is down 22%, and 28% from its peak. Some analysts have pointed out that Lyft may have misled investors by claiming it held 39% of market share, as another survey reported 29%. Though the IPO ‘pop’ is well known, this is usually followed by a slow decline, so Lyft’s stock price behavior is not shocking. Zoom and Pinterest took note regardless, pricing their IPOs a bit more conservatively. Lyft priced its IPO at over a 30% premium compared to its last pre-IPO valuation, while Pinterest and Zoom went with about 2% and 17%, respectively.

Performance aside, 2019 is off to a strong start for IPOs with many more either expected or suspected including Uber, Beyond Meat, Airbnb, Slack, and Poshmark. The rest of the year should bring its share of further IPO excitement as more large, private companies seek to bring their investors liquidity and raise additional capital.

Print PDF > IPOs Are Coming

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

First Quarter Review of Asset Allocation

Heading into 2019, the primary risks facing financial markets were the trade war with China, the U.S. government shutdown, Brexit uncertainty, and further Fed rate hikes. However, in the first quarter the majority of these worries subsided.

In this newsletter, we analyze the current market environment with a review of recent performance and future expectations for each major asset class. As always, we caution investors to stay diversified and rebalance as appropriate. There are always potential disruptors to the financial markets and the most powerful tend to be largely unexpected. We will continue to monitor markets and developments as they occur to guide our clients to the most optimal portfolio decisions given the backdrop of program goals and risk tolerance.

Read > First Quarter Review of Asset Allocation

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

The Latest Key Developments in the Healthcare Industry

Health systems today face significant challenges, further complicating an ever-changing landscape. Some of the most notable trends we see in the space include:

  • Higher interest rates, which impact borrowing costs as well as investment opportunities;
  • Efforts to gradually repeal the Affordable Care Act (“ACA”);
  • The emergence of value-based payment programs;
  • The advent of major vertical integrations such as CVS-Aetna;
  • A growing demand for digital healthcare

The following article summarizes these key issues for health systems and where appropriate, provides some potential solutions.

Read > The Latest Key Developments in the Healthcare Industry

With over 20 years of healthcare investment consulting experience, Marquette serves healthcare clients across a broad range of operating cultures — including health systems, stand-alone hospitals, and specialty organizations — and with a variety of focus areas — including operating funds, retirement planning, insurance, endowments, and foundations. For more Marquette coverage of the healthcare industry, please see our previous newsletter Healthcare Organizations’ Top 3 Investment Concerns for Balance Sheet Assets.

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.