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Investment Strategy Commentary

Q2-2016 Market Comments

Market and Economic Overview

  • The most prominent event of the last three months was the vote by U.K. citizens in favor of leaving the European Union.
  • Fixed-income markets had a strong second quarter.
  • Global stability spurs modest growth in equities during the second quarter.
  • China's economy mostly appears to be treading water.
  • Oil prices advanced for much of the quarter then leveled off in June.

A surprise vote by U.K. citizens in favor of leaving the European Union (EU) took place with roughly a week left in the second quarter. Markets, polls, and bookmakers, while spit, generally projected a victory to the "Remain" camp. A sharp spike in global stocks ensued right up into the eve of the election. Then the shock and awe of the final tally to "Leave" sent traders heading for the exit doors and the markets lost significant ground the week following the election. Fortunately, when cooler heads prevailed, much of the stock-market losses were recovered within a week's time, suggesting that the impending multi-year uncertainty may not be as detrimental as the initial reactions implied.

Commentary

Now two weeks into the third quarter of 2016, the U.S. equity markets have reached new highs with the Dow punching through the 18k mark, the S&P over 2k and the NASDAQ exceeding 5k. Fears shared by investors globally have suddenly vaporized post Brexit. Britain's growth prospects were decent prior to Brexit; by contrast, continental Europe was already struggling to improve.  The U.S. remains the prominent bright spot in terms of global economics, remaining resilient despite numerous shocks over the past seven years. Job openings remain in a solid uptrend, rising well beyond the previous cycle's peak reached in mid-2007. As corporate margins get squeezed by the pick-up in labor costs, the pressure to raise prices will likely intensify. Currently, investors' attention appears to have shifted towards the U.S. presidential election. However, investors need to be prepared for a bit of volatility in the months ahead, since the uncertainty level has been ratcheted upward, and will likely remain elevated between now and the elections. For now, we lean toward the optimistic side, mainly because U.S. economic and financial fundamentals appear relatively healthy.

 

Behind the Scenes

We have just experienced another quarter of significant volatility, which of course affects the values and trailing returns of your portfolios. The uncertainties that were experienced regarding Brexit, Federal Reserve interest rate increases, and whether there will be a coming recession all influenced overall market values. Volatility may also impact your emotions and confidence in your current investment strategy and whether or not you are on the right path with future financial needs.

For the most part, all of our allocations are positive for the quarter and on a year-to- date basis. However, many portfolios are still negative for the trailing one year period. Furthermore, overall historical long-term returns on equities have shrunk from around 8% to less than 5% on a trailing 10-year basis since the start of the great recession in 2008. This current low return-low interest rate environment puts significant pressures on both retirees and those still saving for their retirement. Retirees must live on less, and savers will have to save more to reach their retirement goals.

Whether markets rise or fall there is a lot that is going on behind the scenes to help maintain the risk/reward balance within your portfolio. Regardless of the market volatility, dividends are still being paid and reinvested often at higher rates than can be achieved through conventional bank instruments. Over long periods of time, reinvested dividends reduce an investors average cost per share, which in turn enhances long-term total returns.

In addition, market volatility doesn't last forever, but does present significant opportunities to buy low and sell high. Case in point, the volatility created by the Brexit vote presented terrific opportunity to put idle cash back into the market and enhance both short-term and long-term returns. If you have a taxable account, this volatility may be the basis for tax loss “harvesting”. Under the current tax codes, realized losses offset any gains triggered dollar-for-dollar during the course of the year, which also enhances long-term returns.

New technology is also playing a larger role in managing your accounts by allowing us to react much faster to opportunities that present themselves during times of significant volatility. So when you look at your portfolio’s current market value and you see an increase in value, do not think that we are coasting or sitting back not earning our keep, and please don’t panic when the markets sell off either as markets will continue to find equilibrium in the not too distant future.

Richey Advisors, Inc.

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