Looking Ahead- Q3 2017
- Credit & Lending
- Financial Planning
The first half of 2017 has been marked by a sharp divide between the actions and outcomes in the U.S. markets, and the tone and tenor of the political machinations of both the Republican-led Congress and the Trump administration. While many in the electorate point to a heightened level of anxiety – from both sides of the aisle – the reality is that investors continue to brush off much of the rhetoric, and instead remain focused on two things: One, the economy is strong and has not yet shown any meaningful signs of softening, and two, the Trump administration still has a lot that it would like to deliver, which should help sustain the current bull market.
The path, however, remains marred with potential landmines. While the repeal and/or replacement of the Affordable Care Act, or Obamacare, as it is more colloquially known, appears political in nature, it is also a lynchpin of sorts to allow the Republicans to make tax reform more fiscally palatable. Without changes, tax reform is likely to still occur, but it will be more difficult to find appropriate budget offsets, and could limit the extent of the cuts, which could disappoint the markets and lead to a pullback. As for the other agenda items, including a stimulus package focused on infrastructure, or changes to trade policy, those seem to have been moved to the back burner, but could heat up again following a decision on health care.
With that said, for U.S. equities, we have been positive on the financials, energy, and technology sectors for much of 2017 thus far. While energy stocks remain under pressure on unrelenting supply growth, our portfolio managers see signs of an inventory peak, and therefore believe that a positive shift in sentiment for the better positioned names in the space could occur. Technology stocks, as mentioned previously, have been more volatile as of late, and the moves could represent a modest rotation out of some of this year’s big winners. However, the fundamentals in these stocks are still strong, and the team is optimistic for the second half. Financial stocks, too, should get a lift in the back half of the year, provided the Fed remains on its current path, indicating a potential bottoming in yields. The team is less positive on utilities, consumer staples, and telecommunications in the latter half of the year, believing that the opportunities exist elsewhere.
Our team has become increasingly constructive on the opportunity for equities in developed international markets. Post-Brexit, we adopted a more cautious stance, believing that a push for a less cohesive economic union in Europe from the electorate could create instability. While there were certainly vocal and well-supported populist candidates in elections on the continent in the first half of the year, the victory of established and/or centrist candidates, particularly Macron in France, provided comfort that the economic momentum enjoyed over the last several quarters could continue. In addition, continued accommodation and a more flexible approach to policy in Japan has at the very least created an economy in which prices are no longer declining, and are showing signs of moving higher. With that said, we have increased our allocation to international developed stocks, and expect to maintain this overweight through the second half of 2017 and into 2018.
Within fixed income, we remain positioned for higher rates in the future, and as such, we remain slightly underweight to bonds versus equities. For our municipal bond portfolios, our overall outlook on credit quality remains strong – the well-publicized pockets of weakness notwithstanding. From a duration standpoint, portfolios are typically close to neutral when compared with the benchmark, and the team is focusing on better quality credits, instead earning additional yield by adding callable bonds to portfolios. For our taxable bond portfolios, the team continues to favor corporate bonds, as a strong economy and cash heavy balance sheets create confidence in these issues. Our corporate bond portfolios are positioned modestly shorter than the benchmark, and the team is selecting lower quality credits as appropriate to add additional yield. We remain neutral in our positioning as it relates to high yield bonds.
Finally, commodities have been challenging, as noted above, since there is still little evidence of inflation, and the fluctuations in oil prices have dominated the story. We are watching the space closely, and considering our position carefully as we move to the second half of the year.
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