2013 Performance Report and Investment Outlook1

Year to date through September 30 2013, aggregate MCS client assets gained 2.41%.

Stocks represented by the S&P 500 index turned in a very strong performance of 19.79%. Auxier advised stock portfolios gained 14.5% for the period. Auxier portfolios include domestic stocks, international stocks and cash which must be considered when comparing Auxier with the S&P 500; a 100% domestic stock index. The bond market represented by the Barclays index lost 1.90%.

I’ll start with the big picture and work toward what it means for my investment strategy. The recent headlines have been all about the dysfunction in Washington; government shutdown and debt ceiling brinkmanship. The concerns are great enough that the Fed cited the government shutdown / debt ceiling wrangling as reasons for not tapering its bond purchases. Another reason; the economy is simply not growing that strongly. Bond prices increased (yields declined) on the ‘no-taper’ comments.

From mid-June to mid-September, bond prices dropped and interest rates rose after the Fed’s announcement that it would likely begin tapering its bond purchases in September. Once the Fed was no longer a big buyer, there would be reduced demand for Treasury and mortgage bonds. Market participants wondered whether the economy was in fact strong enough to warrant the shift in Fed policy; inflation was subdued and unemployment, while declining, was improving partly because a lot of folks had just given up looking for work (declining labor force participation rate).

August through mid-September was ugly for bond holders as interest rates on the 10 year Treasury bond rose from 2.6% to nearly 3%. As bond prices declined, bond mutual fund investors sold billions of dollars worth of fund shares and bond fund mangers were forced to sell bonds to provide cash for these shareholder redemptions. A silver lining started to emerge; bonds offering attractive interest rates became available after a long, long drought; tax free bonds yielding 5% or more and some taxable bonds offering over 6%. Interestingly, holders of individual bonds were not among the sellers; they were buyers. Generally buyers were demanding bond maturities of 10 years or shorter which firmed up demand / prices for those securities and left bonds with maturities of 15 years and longer begging for buyers until their yields pushed past 5%. I was doing some buying in the 10-15 year range until rates declined in mid-September.

Finding an entry point to buy stocks has been confounding. The result is that I’ve been under-invested in the asset class this year, concerned that the many uncertainties – the sequester’s impact on the economy, rising rates triggered by the Fed’s announced bond buying taper, declining earnings growth of stock market listed companies, and budget brinkmanship – would at some point conspire to set off a correction. Well, so far the corrections have been mild – not enough to say “bargain” – and the stock market is turning in a great year.

Bottom Line

The world is slowly improving despite the media negativity. Considering how events unfolded over the past year, the US is on a contentious, muddle-through path of gradual improvement:

  • The combination of recent tax increases and automatic spending cuts (sequester) have improved /stabilized the debt picture over the next few years. (See Figure 1).
  • Banks are well capitalized and US corporations are in excellent financial shape.
  • Consumers have benefited from a rebound in housing prices and are gobbling up new cars. (See Figure 2 & 3)
  • While parts of the Middle East are in flames, the recent resolution to eliminate Syria’s chemical weapons without military intervention and détente efforts over Iran’s nuclear program are constructive.
  • ObamaCare is off to a very clunky start, however, I’m neutral on its impact until we get a few years of real data. Significantly, the stock market has yet to react negatively to ObamaCare; suggesting that concerns are overblown.

Figure 1
Federal Debt Held by the Public, Spending and Revenues Under CBO’s Extended Baseline

MCS | Performance Report and Outlook | Figure 1

Figure 2
Case-Shiller 20 City Home Price Index 2001-2013

MCS| Performance Report and Investment Outlook | Figure 2

Figure 3
North American Auto Sales 2001-2013

MCS| Performance Report and Investment Outlook | Figure 3

Investment Strategy

Thus far in 2013, stocks significantly outperformed my expectations from a return (higher) and volatility / price declines (smaller) standpoint. In hindsight, I was too cautious about increasing stock exposure. This year’s experience has gotten me thinking about implementing a dollar cost averaging approach to buying stocks when my analysis indicates that the risk / return falls in the middle ground between danger and great buy. Ahhh, the financial markets are such a wonderfully, humbling place to practice a profession…

Regarding bonds, my conviction to be a selective seller and not a buyer of longer term bonds until more attractive rates surface remains quite strong. In August and early September, I bought a few bonds at attractive interest rates but those opportunities dried up when rates declined. When the Fed tapers (reduces) their bond buying program, I expect bonds to provide more attractive returns.

1On MCS Family Wealth Advisors (MCS) client returns included in the performance results:
The MCS Portfolio returns are dollar-weighted, net of investment management fees, include reinvestment of dividends and capital gains and represent all fully discretionary Income/Growth accounts (representing 92% of MCS assets under management as of 09/30/2013 and invested primarily in US stocks and bonds). Only clients with fully managed portfolios, sharing the Income/Growth investment objective, and having management fees deducted from their accounts, are included in the return calculations. Individual securities, mutual funds or other investments not recommended by MCS (i.e. individual securities and mutual funds held in a client’s account by client’s choice and neither selected, managed nor billed a management fee by MCS) are excluded from the calculation. All client accounts that met the composite criteria and were managed during the period reported are included in the calculation. The report is for information purposes only and does not consider the specific investment objective, financial situation, or particular needs of any recipient, nor is it to be construed as an offer to sell or solicit investment management or any other services. Past performance is not indicative of future results. Future returns may differ significantly due to materially different economic and market conditions. Investments in portfolios involve risk and the possibility of loss, including permanent loss of principal.
On Indexes used to compare MCS composite results:
Indexes entail completely different investment strategies from MCS Family Wealth Advisors’ performance group composite and indexes show gross returns without management fees, costs, expenses or taxes subtracted. It is not possible to invest directly in an unmanaged index. The bond index values are represented by the Barclay’s Capital US Aggregate Bond Index, an unmanaged, market capitalization-weighted index, covering the U.S. investment grade fixed rate bond market, with index components for government and corporate securities, mortgage pass-through securities and asset-backed securities. Stock index values are represented by the S&P 500 Total Return Index, and unmanaged, market capitalization-weighted index, generally considered representative of the stock market as a whole. The index focuses on the large-cap segment of the U.S. equities market.