Q2 2020 A Breath to Refresh

Despite the global pandemic and economic shutdowns, financial markets have revived from their March lows as optimism is gradually restored as the nation reopens. The major U.S. indices remain resilient and are well on their way to recovery after the fastest plunge in history. The S&P 500 returned +20.54% for the quarter and is lower by -3.08% YTD. The technology heavy NASDAQ enjoyed a robust quarterly gain of +30.60% and is higher by +12.11% YTD. The recovery has been largely led by the FAANG names (Facebook, Amazon, Netflix, Apple, Google) which now total north of 20% of the S&P 500 market cap. With economic activity halted to combat COVID-19's spread, the economy quickly entered a recession, ending the eleven-year expansion. The employment data released for the quarter was better than expected with an unemployment rate of 13.3%, compared to the consensus of 19.5%. Nevertheless, in only four months, nearly 20 million jobs have been lost and the labor market is facing an unemployment rate at its highest since the Great Depression. Fortunately, the U.S. economy is already displaying signs of a bottom, but the shape of the recovery will be determined by ongoing fiscal stimulus and the measures needed to control the resurgence of the virus. While the market is showing signs of a V-shaped recovery, we believe that it will take the economy longer to recover and volatility will remain in the picture as political heat increases as the November election draws near. As we write, second quarter earnings for the S&P 500 are right around the corner with analysts forecasting a year-over-year decline of -43.9%. Forward-looking guidance, if given, will be paramount as investors seek clarity on the health of corporate America and what can be expected for third and fourth quarter activity. 

Across the pond, European economies have been able to emerge from the lockdowns without a significant rise in COVID-19 cases, but the economic cost has been devastating. Europe headed into the COVID-19 crisis with a lack of policy ammunition as its interest rates were already negative and there were strict rules around increasing fiscal deficits. Even with the European Central Bank expanding its asset purchase program to more than 10% of their GDP and relaxing its eligibility requirement for both sovereign and corporate issuers, the European Union continues to drag their feet compared to the U.S. The most far-reaching policy response is the proposal by Germany and France for a 750-billion-euro recovery fund that would be guaranteed by all twenty-seven members of the European Union. If enacted, it would represent an historic step in unity and stability. Despite ongoing difficulties, the major foreign indices turned in a positive quarter with the MSCI EAFE index returning +15% and the MSCI ACWI ex-US index returning +16.3%. On a year-to-date basis, the U.S. remains the superior performer leading those indices by an average of 13 percent.

After the robust U.S. Treasury rally in early March, the Federal Reserve's massive quantitative easing program eliminated much of the volatility from the market. With short-term yields anchored by the Federal Reserve's actions, we look to long-term rates to drive the changes in the yield curve. The 10-year treasury ended the quarter at 0.66%, declining 126 basis points, or 1.26% lower, from 12/31/2019. With investment grade corporate credit receiving the most direct support from the Federal Reserve, high quality corporate credit looks poised to offer the most attractive opportunities to fixed income investors. Riskier investments like high-yield bonds and preferred securities are gradually clawing their way back from the sell-off earlier this year. Foreign bonds were higher by +1.05% for the year, while the Barclays Aggregate Bond Index was higher by +6.14% for the year which is an index dominated by treasury securities.

THOUGHTS ON ASSET ALLOCATION

While markets are forward-looking vehicles and often bottom several months ahead of the economy, finding the actual bottom is usually a process. Looking ahead over the next 12 months, there will certainly be speed bumps along the way. However, we understand the risks facing both the markets and the economy and are committed to helping our clients navigate this challenging environment. Our Investment Committee has been extensively discussing rebalancing and positioning for the rest of the year. The Committee believes that the growth areas of the market will outperform value over the next couple of years as interest rates are projected to remain low for the foreseeable future coupled with weak global growth. In addition, we believe the U.S. is in better position to recover faster economically from the pandemic vs. our foreign counterparts and have elected to overweight our U.S. exposure even more than recent years.
 

Our best-in-breed managers continue to weather the challenging environment. Our Committee will always emphasize downside protection in our manager selection and our current roster of managers did not disappoint when comparing to their benchmarks. Listed below is a subset of our equity and fixed income managers that performed exceptionally well in the quarter.