Market Update: Friday, July 1, 2016

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  • Markets trading near flat after third consecutive days of gains. After getting off to a shaky start on Thursday, global equities ended the session with solid gains as traders’ expectations for expanded stimulus measures from central banks in Europe boosted sentiment, pushing the S&P 500 up 1.4% to 2098.86. Despite the risk-on mentality, more defensive sectors led the way with consumer staples and utilities both closing up more than 2%. Energy was a laggard on the day, but still advanced 0.9% in the face of WTI crude oil prices, which fell more than 3%. Overnight, Asian equities closed modestly higher with the Nikkei posting its largest weekly gain since April; and in afternoon trading, major markets in Europe are up around 1%. U.S. stocks are little changed from yesterday’s close; however, COMEX gold is moving higher and Treasuries are rallying strongly as the yield on the 10-year note has fallen 0.06% to 1.43%, and the 30-year yield is making a new all-time low.

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  • Difficult path to a solid first half result. The S&P 500 returned 3.8% in the first half of 2016, including dividends, and is on track for the high end of our 2016 stock market forecast for mid-single-digit gains.* But the path to get there was clearly not smooth, with the China and oil-driven volatility of January and February, and Brexit uncertainty in June. Although political uncertainty in the U.S. and U.K. will be with us for a while, and the age of the bull market may lead to additional bouts of volatility, our assessment of market fundamentals, including the ongoing U.S. economic expansion and an expected solid earnings rebound in the second half, point to further modest gains for stocks between now and year-end.
  • Falling Treasury yields continue to drive sector leadership. The first half 2016 sector leaders, telecom and utilities, continue to be supported by low and falling interest rates; while financials, the biggest first half decliner, continues to be hurt by low interest rates. This morning the yield on the 10-year Treasury, at 1.42%, is making a run at its 2012 record lows. The market’s thirst for yield will likely continue until yields stop falling. However, we continue to expect cyclical sector leadership, and healthcare gains, in the second half (S&P 500 GICS sectors). In the near term, master limited partnerships (MLP) and REITs should garner support as well and are both preferred options for equity income, in our opinion, over the more richly valued and less fundamentally attractive telecom and utilities sectors.
  • Positive for June. The S&P 500 gained more than 1.3% for the third consecutive day to finish the month of June slightly higher. In fact, with three days to go the S&P 500 was down more than 4% for the month and finished green. September 1938 is the only other time a month was able to come back that much at the finish line. Lastly, the two days after Brexit the S&P 500 dropped 5.3% for the worst two-day drop in 10 months, then things turned around for a 4.9% rally the past three days for the best three-day rally since coming off the February lows.
  • Up for the quarter. The S&P 500 was up 1.9% for the second quarter, the third consecutive quarterly gain. Looking forward, be aware that the past 20 years the third quarter is the weakest quarter, as it is the only quarter to sport a negative return at -1.2%. In fact, last year the third quarter lost 6.9% for the worst third quarter since 2011 dropped 14.3%.
  • Weak data for China in June. A wide range of data on the Chinese economy, from official and private sources, was released early this morning and the results are generally disappointing. Official Purchasing Managers’ Index (PMI) was 50.0, right on the line between growth and contraction and a slight decline from May’s 50.1 number. The private sector Caixin index was 48.6, also down from the 49.2 number in May. Services in China did better, with a 53.7 for June, compared to 53.1 in May. Chinese stocks were modestly higher on Friday, while the Hong Kong market (how most U.S. investors access Chinese equities) were closed for a holiday.
  • Week ahead: Brexit aftermath, jobs, and the Fed. Early next week, the Conservative Party of the U.K. will begin the process of electing a replacement for U.K. Prime Minister David Cameron, and in mid-week, the Bank of England will release its influential Financial Stability report. Late in the week, we’ll get the first read on post-Brexit vote consumer sentiment in the U.K. In the U.S., it’s all about jobs next week, with the release of the June Employment Report set for Friday. The Federal Reserve Bank (Fed) will release the minutes of its June meeting at mid-week—as will the ECB—and New York Fed President Dudley is on the docket. China will begin releasing its June data set this week.

*Historically since WWII, the average annual gain on stocks has been 7–9%. Thus, our forecast is in-line with average stock market growth. We forecast a mid-single digit gain, including dividends, for U.S. stocks in 2016 as measured by the S&P 500. This gain is derived from earnings per share (EPS) for S&P 500 companies assuming mid-to-high-single-digit earnings gains, and a largely stable price-to-earnings ratio. Earnings gains are supported by our expectation of improved global economic growth and stable profit margins in 2016.

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Friday

  • ISM: Mfg. (June)
  • Vehicle Sales (June)

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Important Disclosures

Past performance is no guarantee of future results.

The economic forecasts set forth in the presentation may not develop as predicted.

The opinions voiced in this material are for general information only and are not intended to provide or be construed as providing specific investment advice or recommendations for any individual security. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly.

Stock investing involves risk including loss of principal.

Investing in foreign and emerging markets securities involves special additional risks. These risks include, but are not limited to, currency risk, political risk, and risk associated with varying accounting standards. Investing in emerging markets may accentuate these risks.

Treasury inflation-protected securities (TIPS) help eliminate inflation risk to your portfolio, as the principal is adjusted semiannually for inflation based on the Consumer Price Index (CPI)—while providing a real rate of return guaranteed by the U.S. government. However, a few things you need to be aware of is that the CPI might not accurately match the general inflation rate; so the principal balance on TIPS may not keep pace with the actual rate of inflation. The real interest yields on TIPS may rise, especially if there is a sharp spike in interest rates. If so, the rate of return on TIPS could lag behind other types of inflation-protected securities, like floating rate notes and T-bills. TIPs do not pay the inflation-adjusted balance until maturity, and the accrued principal on TIPS could decline, if there is deflation.

Bank loans are loans issued by below investment-grade companies for short-term funding purposes with higher yield than short-term debt and involve risk.

Because of its narrow focus, sector investing will be subject to greater volatility than investing more broadly across many sectors and companies.

Commodity-linked investments may be more volatile and less liquid than the underlying instruments or measures, and their value may be affected by the performance of the overall commodities baskets as well as weather, disease, and regulatory developments.

Government bonds and Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest and, if held to maturity, offer a fixed rate of return and fixed principal value. However, the value of fund shares is not guaranteed and will fluctuate.

Investing in foreign and emerging markets debt securities involves special additional risks. These risks include, but are not limited to, currency risk, geopolitical and regulatory risk, and risk associated with varying settlement standards.

High-yield/junk bonds are not investment-grade securities, involve substantial risks, and generally should be part of the diversified portfolio of sophisticated investors.

Municipal bonds are subject to availability, price, and to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rate rise. Interest income may be subject to the alternative minimum tax. Federally tax-free but other state and local taxes may apply.

Investing in real estate/REITs involves special risks such as potential illiquidity and may not be suitable for all investors. There is no assurance that the investment objectives of this program will be attained.

Currency risk is a form of risk that arises from the change in price of one currency against another. Whenever investors or companies have assets or business operations across national borders, they face currency risk if their positions are not hedged.

Technical Analysis is a methodology for evaluating securities based on statistics generated by market activity, such as past prices, volume and momentum, and is not intended to be used as the sole mechanism for trading decisions. Technical analysts do not attempt to measure a security’s intrinsic value, but instead use charts and other tools to identify patterns and trends. Technical analysis carries inherent risk, chief amongst which is that past performance is not indicative of future results. Technical Analysis should be used in conjunction with Fundamental Analysis within the decision making process and shall include but not be limited to the following considerations: investment thesis, suitability, expected time horizon, and operational factors, such as trading costs are examples.

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