National Economic Outlook

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1 National Economic Outlook MSBO Financial Strategies Conference January 17, 2018 Presented by: Kyle Jones, Director of Portfolio Strategies PFM Asset Management LLC One Keystone Plaza, Suite 300 N. Front & Market Streets Harrisburg, PA PFM 1

2 REVIEW Agenda Where are we today and how have capital markets reacted? OUTLOOK What is the Federal Reserve telling us? KEY TRENDS What are we watching? All data from Bloomberg as of December 31, 2017, unless otherwise noted. PFM 2

3 Where are we today and how have capital markets reacted? PFM 3

4 Economic Growth Remains Strong U.S. Real GDP QoQ, SAAR 6% 4% 3.1% 3.2% Bloomberg Survey of Economists 2% 2.7% 2.7% 2.0% 1.9% 0% -2% Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q Source: Bloomberg, as of Q SAAR is seasonally adjusted annualized rate. Orange denotes rolling four-quarter averages. PFM 4

5 Synchronized Global Growth Across All World Regions GDP Growth (est.) Emerging and developing Asia ASEAN-5 Emerging market and developing economies Emerging and developing Europe World Sub-Saharan Africa European Union United States Middle East and North Africa Advanced economies Euro area Commonwealth of Independent States Major advanced economies (G7) Latin America and the Caribbean % 1% 2% 3% 4% 5% 6% 7% Source: IMF World Economic Outlook, as of October 2017 PFM 5

6 Global Macroeconomic Scorecard Gross Domestic Product (GDP) Growth Emerging Markets 5.4% Japan Eurozone United States 2.1% 2.6% 2.3% 10-Year Median Latest 10-Year Range -10% -5% 0% 5% 10% 14% 12% 10% 8% 6% 4% 2% 0% Unemployment Rate 2.5% 2.0% 1.5% 1.0% 0.5% 0.0% -0.5% -1.0% Inflation (Core CPI, YoY) Dec '12 Dec '13 Dec '14 Dec '15 Dec '16 Dec '17 Dec '12 Dec '13 Dec '14 Dec '15 Dec '16 PFM 6

7 2017 Asset Class Returns Equities U.S. Developed ex U.S. Emerging Markets 21.9% 25.7% 37.5% Domestic Fixed Income Cash Short Bonds Core Bonds High Yield Corporates 0.8% 0.7% 3.6% 7.5% Alternatives Commodities Real Estate Hedge Funds 1.7% 9.3% 8.5% 2017 Returns Prior 5-Year Returns -10% -5% 0% 5% 10% 15% 20% 25% 30% 35% 40% Prior 5-Year Returns are based on time period from December 31, 2011 to December 31, PFM 2016, and are annualized. 7

8 Treasury Yields Range-Bound Amid Low Volatility U.S. 2-Year Treasury Yield U.S. 10-Year Treasury Yield 4% 4% 3% 3% 2% 2% 1% 1% 0% 0% Dec '08 Dec '09 Dec '10 Dec '11 Dec '12 Dec '13 Dec '14 Dec '15 Dec '16 Dec '17 Dec '08 Dec '09 Dec '10 Dec '11 Dec '12 Dec '13 Dec '14 Dec '15 Dec '16 Dec '17 Calendar-Year Range Year End PFM 8

9 Cash Yields Signal End of Financial Repression Fed Funds (Mid-point) S&P Govt. LGIP 2-Year T-Note 2.50% 2.25% Index Dec Dec Dec Dec Dec (est.) Forecast 2.00% 1.75% Fed Funds 0.13% 0.38% 0.63% 1.38% 1.88% Govt. LGIP 0.11% 0.28% 0.53% 1.16% 2.06% 2-Year T-Note 0.66% 1.05% 1.19% 1.88% 2.21% 1.50% 1.25% 1.00%.75%.50%.25%.00% Dec '13 Dec '14 Dec '15 Dec '16 Dec '17 Dec '18 Fed Funds rate shown is the mid point of the target range. Fed Funds rate forecast is based on the Fed Funds futures. 3-month T-Bill and 2-Year T-Note forecast is based forward rates. Government PFM LGIP forecast is based on historical 1-Year moving average spread over 3-month T-Bill forward rate. 9

10 What is the Federal Reserve telling us? PFM 10

11 Dual Mandate Dueling Mandates PFM 11

12 Labor Market Activity Slows as Expected Monthly Change in Nonfarm Payrolls Nonfarm Payrolls 12-Month Moving Average Unemployment Rate 400k 9% 8% 7.9% 300k 7% 6.7% 200k 6% 5.6% 5% 5.0% 4.7% 100k 4% 4.1% 0k Dec '12 Dec '13 Dec '14 Dec '15 Dec '16 Dec '17 3% Dec '12 Dec '13 Dec '14 Dec '15 Dec '16 Dec '17 Source: Bloomberg, as of December PFM 12

13 Unemployment by Education Levels 16% Unemployment by Education Levels Less Than High School Diploma High School Graduate & No College Some College or Associate Degree Bachelors Degree & Higher 12% 8% 7.7% 4% 4.7% 3.8% 2.1% 0% Dec '07 Dec '08 Dec '09 Dec '10 Dec '11 Dec '12 Dec '13 Dec '14 Dec '15 Dec '16 Dec '17 Source: Bloomberg, most recent data as of December, PFM 13

14 Services Sector Employment Trends 2,000 Cumulative Change in Employment (Thousands) 1,500 Other services 1, ,000-1,500 Financial activities Information Utilities Transportation and warehousing Wholesale trade -2,000 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Source: Bureau of Labor Statistics, most recent data available as of November PFM 14

15 Inflation Steadies, but Outlook Remains Weak Inflation Measures (YoY) Expectations for Average Inflation Rate over next 5 years 2.5% 2.5% 2.0% 2.0% 1.5% 1.5% 1.0% 0.5% Core CPI Core PCE Fed's Long Term Inflation Target 1.0% 0.0% Nov '12 Nov '13 Nov '14 Nov '15 Nov '16 Nov '17 0.5% Nov '12 Nov '13 Nov '14 Nov '15 Nov '16 Nov '17 Source: Bloomberg, latest data available as of December Inflation expectations based on yield difference between 5-year Treasury note and 5-year Treasury Inflation Protected Securities (TIPS). PFM 15

16 The Fed s Updated Economic Projections Are Optimistic Indicator Longer run Sep. Dec. Sep. Dec. Sep. Dec. Sep. Dec. Sep. Dec. Real GDP (YoY) 2.4% 2.5% 2.1% 2.5% 2.0% 2.1% 1.8% 2.0% 1.8% 1.8% Unemployment Rate PCE Inflation (YoY) 4.3% 4.1% 4.1% 3.9% 4.1% 3.9% 4.2% 4.0% 4.6% 4.6% 1.6% 1.7% 1.9% 1.9% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% Core PCE (YoY) 1.5% 1.5% 1.9% 1.9% 2.0% 2.0% 2.0% 2.0% - - Federal Funds Rate (Median) 1.4% 1.4% 2.1% 2.1% 2.7% 2.7% 2.9% 3.1% 2.8% 2.8% Source: Federal Reserve, as of December Green denotes an improved projection in December compared to September, red for lower projection. PFM 16

17 FOMC Dot Plot December 2017 Fed Participants Assessments of Appropriate Monetary Policy 5% 4% Dec-17 FOMC Projections Dec-17 Median Fed Funds Futures 3% 2% 1% 0% History of Recent Fed Rate Hikes Dec % Jun 17: Jun % Mar 17: Mar 17 Dec 16: % Dec Dec 16 15: % Dec 15 08: % Fed expects 3 more rate hikes in Longer Term Source: Federal Reserve and Bloomberg. Individual dots represent each Fed members judgement of the midpoint of the appropriate target range for the federal funds rate at each year-end. Fed funds futures as of 12/13/17. PFM 17

18 Spreads Narrow Across Sectors 225 Yield Spreads (basis points) $150 Net Foreign Purchases of U.S. Corporate Debt (Billions) 200 $ $ $ $ $ Dec '12 Dec '13 Dec '14 Dec '15 Dec '16 Dec '17 $0 -$25 -$50 -$ IG Corp Agency MBS ABS Yield spreads represent option-adjusted spreads. Foreign purchases of U.S. corporate bonds only include the major foreign buyers, namely official institutions, and international and regional PFM organizations as classified by the U.S. Department of the Treasury. 18

19 Geopolitical Risks Around the Globe NAFTA trade tensions Brexit & EU fragmentation; German coalition uncertainty Russia-NATO conflict U.S.-China trade tensions U.S.-Mexico border tensions Israel-Palestine conflict Iran unrest South China Sea dispute North Korea nuclear threat Venezuela political crisis PFM 19

20 What are we watching? PFM 20

21 Impact of Tax Cuts Short Term Boost in corporate profits and consumer spending Next 10+ Years Increased uncertainty due to sunset provisions Long Term Potential economic impact from business investment Expected Average Effective Tax Rate for the U.S. Corporate Sector 21% 17% 19% New Corporate Tax Rate: 21% 16% 9% 2018 (No reform) Tax Cuts and Jobs Act Source: Penn Wharton Budget Model, as of December 15, PFM 21

22 Business Cycle Risk Duration of U.S. Expansion Periods 10-Year/2-Year Treasury Yield Spread Time (months) Difference in Basis Points Recession Left source: The National Bureau of Economic Research, as of December PFM 22

23 Global Central Banks Less Accommodative in 2018 Central Bank Rates Outlook Central Bank Net Asset Purchases 2.5% 2.0% U.S. Federal Reserve European Central Bank Bank of Japan 2.2% Billions $0 -$50 -$100 -$150 -$200 U.S. Federal Reserve 1.5% 16 Q1 16 Q2 16 Q3 16 Q4 17 Q1 17 Q2 17 Q3 17 Q4 18 Q1 18 Q2 18 Q3 18 Q4 300 European Central Bank 1.0% Billions % 16 Q1 16 Q2 16 Q3 16 Q4 17 Q1 17 Q2 17 Q3 17 Q4 18 Q1 18 Q2 18 Q3 18 Q4 0.0% 0.0% Trillions Bank of Japan -0.5% Q1 16 Q2 16 Q3 16 Q4 17 Q1 17 Q2 17 Q3 17 Q4 18 Q1 18 Q2 18 Q3 18 Q4 PFM 23

24 ECONOMY Above-trend growth across global economies Summary of Our 2018 Outlook INTEREST RATES Rising at a modest pace as inflation remains well behaved CENTRAL BANKS Tighter monetary policies globally EQUITIES Positive returns buoyed by economic growth, tax reform and relatively low rates FIXED INCOME Credit markets continue to outperform interest rate sensitive investments PFM 24

25 What are the Risks to our 2018 Outlook? LESS ACCOMMODATIVE CENTRAL BANKS Can the market stand on its own two feet? HIGHER INFLATION Central banks could tighten more aggressively Triggers economic slowdown and market sell-off DECREASED GLOBAL TRADE U.S. trade war with one or more trading partners GEOPOLITICAL RISKS Increase in political tension in Asia and/or Middle East PFM 25

26 Questions? PFM 26

27 Important Disclosures PFM is the marketing name for a group of affiliated companies providing a range of services. All services are provided through separate agreements with each company. This material is for general information purposes only and is not intended to provide specific advice or a specific recommendation. Investment advisory services are provided by PFM Asset Management LLC which is registered with the SEC under the Investment Advisers Act of Financial advisory services are provided by PFM Financial Advisors LLC and Public Financial Management, Inc. Both are registered municipal advisors with the Securities and Exchange Commission (SEC) and the Municipal Securities Rulemaking Board (MSRB) under the Dodd-Frank Act of Swap advisory services are provided by PFM Swap Advisors LLC which is registered as a municipal advisor with both the MSRB and SEC under the Dodd-Frank Act of 2010, and as a commodity trading advisor with the Commodity Futures Trading Commission. Additional applicable regulatory information is available upon request. Consulting services are provided through PFM Group Consulting LLC. Institutional purchasing card services are provided through PFM Financial Services LLC. PFM s financial modeling platform for strategic forecasting is provided through PFM Solutions LLC. For more information regarding PFM s services or entities, please visit This document is only intended for institutional and/or sophisticated professional investors. This material is intended for informational purposes only and should not be relied upon to make an investment decision, as it was prepared without regard to any specific objectives, or financial circumstances. It should not be construed as an offer or to purchase/sell any investment. Any investment or strategy referenced may involve significant risks, including, but not limited to: risk of loss, illiquidity, unavailability within all jurisdictions, and may not be suitable for all investors. The views expressed within this material constitute the perspective and judgment of PFM at the time of distribution and are subject to change. Any forecast, projection, or prediction of the market, the economy, economic trends, and equity or fixed-income markets are based upon current opinion as of the date of issue, and are also subject to change. Opinions and data presented are not necessarily indicative of future events or expected performance. Information contained herein is based on data obtained from recognized statistical services, issuer reports or communications, or other sources, believed to be reliable. No representation is made as to its accuracy or completeness. PFM 27

28 Thank You PFM 28

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