Category: Chart of the Week

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.

Global Central Banks React to Slowed Economic Momentum

In 2017 the global economy underwent a synchronized move upward and investors saw equities throughout the world generate double-digit returns. That momentum was lost in 2018 and most economic data points missed analysts’ expectations leading to downward revisions in GDP growth. As a result, several major central banks have taken steps to become more accommodative to help navigate the slowdown.

In the U.S., the Fed has put future rate hikes on pause and has communicated it will be patient on future adjustments. Based on Fed Funds futures, the market expects an eventual rate cut. In Europe, the ECB extended its no rate hike stance through the end of 2019. Additionally, the central bank announced its third targeted long-term refinancing operation aimed at avoiding a credit squeeze that could exacerbate the economic slowdown. In China, authorities organized a stimulus package including $298B in tax cuts to help boost domestic demand. Additionally, the country has reduced the bank reserve ratio from 17% at the start of 2018 to 13.5% as of 1Q19. Though still early, there has not been a marked improvement in global economic activity. However, markets have welcomed the more accommodative stances from these three key central banks and equity markets have rebounded from the tough 4Q 2018.

Print PDF > Global Central Banks React to Slowed Economic Momentum

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.

Higher Yields, Higher Returns

As bond yields are much higher today than they were only three years ago due to nine Federal Reserve rate hikes since the Great Recession, fixed income investors are encouraged by the higher yields that are expected to produce higher returns in the future. The Fed’s nine rate hikes, having raised the fed funds rate from the range of 0.00%–0.25% only three years ago to 2.25%–2.50% today, are expected to provide a general boost to annualized bond returns over the next five years.

Our chart of the week looks at the relationship between current yields in the bond markets and the expected future annualized returns for the next five years. We focus on the Bloomberg Barclays Aggregate Index (“Agg”) as that is the most common bond benchmark used by investors. The chart plots the starting yield of the Agg over the last five decades, from the 1970s to today, on the x-axis. The y-axis then shows the corresponding annualized returns of the Agg over the next five years.

We can see that there is a very linear relationship: the higher the yields at each starting point, the higher the returns for the next five years. As rates declined from the 1980s through the 1990s and 2000s to today in the 2010s, this relationship held true. There are a few outliers in the 1970s, however, as the Federal Reserve under Volcker at the time hiked rates to counter stagflation. But excluding some of these outliers in the 1970s, the chart shows a very strong linear association that higher returns over the next five years are a direct result of higher rates today.

There are secular forces at play, particularly the rising retirement trend across the world’s most powerful economies (Japan, China, U.S., and Europe) that may keep our current low-rate “new neutral” phenomenon a persistent reality for some time. However, the countering forces are new technologies that provide for more productivity. On the balance, fixed income investors are expected to benefit from generally stronger annualized returns over the next five years versus the last 10 years since the Great Recession.

Print PDF > Higher Yields, Higher Returns

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.

Will Opportunity Zones Encourage Investment and Economic Growth?

In an effort to attract capital and encourage long-term investments in low-income urban and rural communities, Congress reformed the Tax Cuts and Jobs Act of 2017 to establish Opportunity Zones nationwide, which could offer a tax break for investors. The chart above shows the number of Opportunity Zones in each state. Congress had tried similar approaches in the past with Empowerment Zones and Renewal Communities, but this most recent effort is receiving unparalleled levels of attention for its generosity to investors and lack of governmental supervision.

Under this program, investors can re-invest their unrealized capital gains into a Qualified Opportunity Fund within 180 days of realization to receive numerous tax benefits. These benefits include potentially excluding up to 15% of invested gains from taxation (10% if held for 5 years, 15% if held for 7+ years). An investment held for longer (at least 10 years) is permanently excluded from taxation. In addition, capital gain taxes can potentially be deferred until 2026.

Given the infancy of the program, many have pointed out flaws within the initiative, stating there is a disconnect between the social benefits from the investments — which will be difficult to measure — and the size of the potential tax costs, which are uncapped. However, it will be for some time until it can be determined whether the program is effective and advantageous for investors, given Congress has asked the IRS to begin reporting on the program’s operations in 2022. Ultimately, this program bears watching as it could be an attractive opportunity for investors and asset managers while also encouraging growth in depressed areas of the country.

Print PDF> Will Opportunity Zones Encourage Investment and Economic Growth

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.

Should Investors Reduce Equity Allocations After Yield Curve Inversion?

The yield curve plots the relationship between U.S. bond yields and their maturities, and typically slopes upward: the longer you hold the security, the higher the return given various risks through time such as inflation, opportunity cost, and economic uncertainty. The yield curve, however, can be inverted when high demand for long-term Treasuries drives the price up and the yield down resulting in a downward sloping curve. Yield curve inversion often signals a pessimistic view of the economy in which investors look for protection against slow economic growth and higher-than-expected inflation. Furthermore, the previous four instances of curve inversion have been followed by a market correction, though it can sometimes be years before a market correction follows inversion.

Last Friday, the 10-year Treasury yield fell below short-term yields with maturities ranging from 1-month to 1-year in response to disappointing Eurozone data, geopolitical risks around Brexit, and Fed Chairman Jerome Powell’s remark on a global economic slowdown. Shortly after the yield curve inverted — especially after the negative yield spread emerged between 3-month and 10-year Treasuries (regarded as the Fed’s most sensitive measure of market sentiment) — the equity market sold off and the S&P 500 total return fell by 1.89%. This immediate reaction led some investors to believe the correction was already unfolding.

While it is impossible to determine at this point if the correction is already here, investors should take comfort knowing that the equity market eventually rebounds from these corrections and shows resilience after the yield curve inverts. Our chart above shows the subsequent 3-month, 6-month, 1-year, 2-year, and 5-year returns of the S&P 500 index after the primary inversion data point — the spread between the 2-year and 10-year Treasury yields — first went negative (thus inverting). For example, after the 10s/2s yield inversion on December 27, 2005, S&P 500 annualized total returns after 1 year, 2 years and 5 years were 15.6%, 10.7% and 2.2% respectively. Over longer time periods after yield curve inversion, such as 7 or 10 years, equity returns more closely resemble their long-term averages. The other primary takeaway from the chart is that shorter-term equity returns — 3, 6, or 12 months — feature significant disparity from the last four yield curve inversions, indicating each instance is different in terms of magnitude and timing after initial 10s/2s inversion. Thus, we do not recommend that investors reduce their equity allocations in an attempt to time the potential correction after inversion, and over the longer-term, equities are still expected to be positive contributors to portfolio returns, even if the yield curve is temporarily inverted.

Print PDF> Should Investors Reduce Equity Allocations After Yield Curve Inversion?

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.

Will Correlations Between Private Equity Strategies Continue to Converge?

Private equity and venture capital allocations have together benefited private capital investors as they have individually provided outperformance at different points throughout an economic cycle. While both are loosely correlated to public equity performance, venture capital investments have many similarities to growth allocations whereas private equity buyout investments have characteristics similar to value allocations. Buyout returns often depend on lower purchase prices and leverage to generate excess returns, while venture returns tend to be less price sensitive and a reflection of accelerating growth.

The lower correlation between the two assets classes was present for more than a decade, spanning from the 1990’s to the early 2000’s. During this period, an investor would naturally hedge against the heightened volatility in venture by investing in both asset classes to offset this risk. However, since the mid-2000’s these two asset classes have become much more correlated as they both have benefited from a strong, 10-year plus growth-oriented environment coupled with low fixed interest rates.

While correlations have tightened over the past decade, the “growthy” economic backdrop that has fueled this relationship will undoubtedly come to an end. When this occurs, we believe these two asset classes will provide a nice complement over time to investment portfolios in generating a higher overall return with less volatility.

Print PDF> Will Correlations Between Private Equity Strategies Continue to Converge?

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.

ESG Assets Continue Their Dramatic Rise

The demand for — and supply of — ESG investment opportunities has surged over the past several years. This week’s chart depicts the rise in U.S. based ESG assets. After doubling in size between 2012 and 2016, the value of sustainable, responsible and impact investing assets grew by another 38% from 2016 to 2018. These investments now account for more than ¼th of total U.S. assets under professional management.

From the demand side, signatories to the Principles for Responsible Investment, a set of investment principles that enables the incorporation of ESG considerations into investment practices, grew in combined assets from less than $6 trillion in 2006 to over $81 trillion by the end of April 2018. In response, the supply of ESG strategies in the market continues to increase as well, with investment firms offering ESG products in both the traditional and alternative asset classes.

Regulatory changes, new research, and shifting investor demographics continue to foster increased interest in ESG investing, and plan sponsors should be prepared to adapt their investment options to accommodate the changing landscape.

Print PDF> ESG Assets Continue Their Dramatic Rise

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 – Deal or Delay?

With merely 21 days left before Britain is due to leave the European Union, global investors are keenly watching their daily news feeds in hopes of clarity on the likely outcome – deal or delay. Note that hard exit was excluded from the list of options. Many economists and leading global financial institutions, like JPMorgan, Credit Suisse, and RBC, have lowered that probability to less than 10%1,2 in response to Prime Minister Theresa May’s compromise on February 28th that allows MPs to vote on a short delay and to rule out a no deal exit in the short term.

So what has exactly transpired since the initial divorce deal’s failed vote and May miraculously passing the no-confidence vote on January 25th? There have been several debates within the Parliament chambers on revisions necessary to secure a positive vote, including an option to remove the 21-day wait period required before voting on an international treaty and amendments to the Irish backstop. As of March 6th, a revised deal between Britain and the European Union has yet to be accepted, with recent talks being characterized as difficult and inconclusive. Albeit too early to know, there’s a strong likelihood that one of the following scenarios will occur: 1) May’s top lawyers will come to compromise with EU and present a palatable deal to Parliament by March 12th, or 2) MPs will vote no on the revised deal and agree to an extension on March 14th.

In this week’s chart, we show FRED’s Economic Policy Uncertainty Index for the United Kingdom3 along with U.K.’s Economic Sentiment Indicator over the last three years. As depicted, indecision over the Brexit outcome remains and drives the uncertainty index into the 450 range, up 56 points from January month-end. At the same time, sentiment within the world’s fifth largest-economy continues to wane as both consumers and many businesses hedge their stakes and prepare for the worst-case scenario, a disorderly Brexit.

Print PDF> Brexit – Deal or Delay?

 

1. Bloomberg, “Things Are Looking Up for the Pound, Strategists Say”, March 4, 2019.
2. Business Insider, “The City of London is finally starting to believe that the UK will avoid a no-deal Brexit”, March 3, 2019.
3. Baker, Scott R., Bloom, Nick and Davis, Stephen J., Economic Policy Uncertainty Index for United Kingdom [UKEPUINDXM], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/UKEPUINDXM, March 7, 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.

Will Assets Flow to Water Infrastructure Opportunities?

U.S. water infrastructure provides and treats around 355 million gallons of water per day to support cooking, bathing, and productivity in virtually all sectors of the economy. The infrastructure in place, however, is in poor condition; the American Society of Civil Engineers (“ASCE”) assigned a “D” and “D+” grade to both drinking water and wastewater infrastructure, respectively. Based on this assessment, the ASCE estimated that a minimum of $123 billion per year over the next 10 years needs to be invested in U.S. water infrastructure. As illustrated in this week’s chart, current annual spending on water infrastructure totals around $41 billion per year, but only one-third of capital needs are expected to be funded over the next ten years, representing an annual funding gap of $82 billion.¹ Consequently, we would anticipate water infrastructure improvement projects and water reuse² as a source of investment over the next several decades.

Print PDF> Will Assets Flow to Water Infrastructure Opportunities?

 

1 Value of Water Campaign, ”The Economic Benefits of Investing in Water Infrastructure,” 2017.
2 Water reuse refers to reclaimed or recycled water, which is the process of converting wastewater into water that can be reused for other purposes

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.