Aaron Schaefer

Jul 07 2014

July’s Economy and Marketing from Here…at Hills

The Economy and Market from Here...at Hills.

Where is the elusive correction? Historically, a correction of 10% or more occurs every twelve months. The S&P 500 has not suffered a 10% correction since October 2011. Corrections of 10% or more are common. The important thing to remember is that they are temporary.

The S&P 500 continues to reach new highs, closing at 1962.87 on June 20. The S&P 500 ended the quarter up 5.2% and has returned 7.1% year-to-date. Interest rates have moved lower as well in recent months, resulting in positive total returns for the bond market. The yield on the 10-year Treasury was 2.52% on June 30, down from 3.03% at the beginning of the year. The BarCap Aggregate Bond Index, a broad measure of bond market returns, returned 3.9% during the first half of the year.

U.S. business activity continued to improve during the quarter. May vehicle sales surprised to the upside, reaching an annual rate of 16.8 million units sold – the highest since 2006. The Institute of Supply Management (ISM) reported that production reached its highest level of 2014, and also reported that the non-manufacturing sectors of the economy accelerated more than anticipated in May. The labor department reported job growth at a pace greater than 200,000 per month. The unemployment rate is now at 6.3%, a level many economists did not expect to be achieved until year-end.

Other economies have not fared as well. Europe continues to recover at a slow rate, and many recent European economic reports have come in below expectations. These outcomes prompted the European Central Bank (ECB) to announce that it will lower the deposit facility interest rate to -0.10% effective June 11. This, in effect, means that European banks will have to pay to lend their money to the ECB. The hope is that this will promote increased economic activity through capital investment and expansion. In Asia, China, and Japan also reported a slower pace of business activity in May. Despite the disappointing economic results abroad, returns on international equities, as measured by the MSCI EAFE Index, are up 5.2% year-to-date.

As equity markets continue to reach new highs, stock valuations are beginning to return to what we feel represent fair value. Even so, we believe stocks offer greater return potential relative to bonds in the intermediate to long-term as domestic and international economic conditions and corporate balance sheets continue to improve from low levels of output and employment.

As the economic cycle continues to progress we have reduced our moderate overweight to growth stocks and tilted slightly toward value stocks. Growth stocks have outperformed value stocks over the last three years and, as the current bull market matures, we anticipate a leadership change from growth to value.

Strong market returns have pushed seasoned accounts to the top of the strategic equity allocation range set forth in our investment policy statements, and we have been trimming stocks where appropriate. Though we believe the stock market is the avenue to better long-term results, an adherence to the investment policy range provides an objective framework for taking profits when stocks are at their highs.

Interest rates have declined since the beginning of the year, but we anticipate that the trend in rates will be to move higher going forward as a result of accelerating economic growth and higher expected levels of inflation. Direction is often easier to forecast than timing. So while we believe rates will trend higher, we recognize that rates may continue to stay at low levels for much longer than anyone anticipates.

We believe that it is important to occasionally review your account and determine if the current allocation is still appropriate for your circumstance. If you have not recently done that with your relationship officer, we encourage you to do so. Please give us a call at 1-800-899-8858. We would enjoy getting together.

Investment products are not a deposit, not FDIC insured, not insured by any federal government agency, carry no bank guarantee, and may go down in value.
Aaron Schaefer

About Aaron Schaefer

Aaron Schaefer is Vice President, Trust Investment Officer at Hills Bank’s North Liberty location on Forevergreen Road. He has been at Hills Bank since 2004 and manages the investment area of the Trust and Wealth Management division. Aaron can be reached at aaron_schaefer@hillsbank.com.

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