Market Review FIRST QUARTER 2018

Transcription

1 Market Review FIRST QUARTER 2018 THE POSITIVE Economies across the globe are growing in sync and economic fundamentals remain strong, as recently seen with 605,000 jobs added in the first quarter of THE NEGATIVE Risks of a global trade war grew in the aftermath of new US tariffs being announced, further rattling markets that are already reeling from political uncertainty. THE BIG GAMBIT Nuclear talks with North Korea could eliminate an important source of recent market volatility, or could breakdown and increase market instability. Big Trends We re Monitoring Markets started off 2018 with more instability than previous quarters. Volatility increased by 193% as markets dropped in February and March So far, though, the level of volatility is not exceptional relative to even recent market history. The lack of volatility in 2017 seems to be an outlier as volatility averaged 14.4% since the crisis 19.2% 18.4% 24.2% 13.1% 11.3% 11.9% 15.3% 13.6% 7.2% 6.5% 7.2% 7.0% 5.5% Q Q Q Q Q Annualized Volatility Annualized Volatility Wage growth caused fears of accelerated interest rate increases, contributing to the volatility. But recent drops in equity values have made US companies more attractive investments. 3. 0% 2. 5% 2. 0% Forward-looking valuation ratios fell by 10% as prices dropped and earnings climbed 1. 5% % 0. 5% Wages grew at one of the fastest rates in 5 years, but inflation remains muted % Jan-16 Mar-16 May-16 Jul -1 6 Sep-16 Pri vate Wage Growth Nov-16 Jan-17 Mar-17 May-17 Jul -1 7 Sep-17 Inflation Growth (less Food & Energy) Nov-17 Jan-18 OCT-17 NOV-17 DEC-17 JAN-18 FEB-18 MAR-18 Forward-looking P /E Ratio Sources: US Bureau of Economic Analysis, MSCI Inc., US Bureau of Labor Statistics. Contact United Income for more details. Please see important disclosures and endnotes at the end of this market review. 1 Quarterly Investment Update Q1 2018

2 Dispatches from the Desk Davey Quinn, VP of Investments As volatility has recently returned to markets, we thought it was a good time to examine its implications on our member s 1 investment portfolios, the economy more generally, and our investment approach at United Income. IMPLICATIONS FOR YOUR PORTFOLIO We understand why investors are uneasy following large price swings after all, we are also members and therefore invest in the same portfolios. However, while increasing volatility may cause our investment balances to change in the short-term, it tends to have few implications over the long-term. There are many ways to make this point, but our favorite is to look at the relationship between investment returns and volatility over time. Between 2004 and 2017, for instance, the overall market (measured by the S&P 500) grew by 8.7 percent 2, on average. But, it was not a smooth ride: on one out of every twenty days the market was open, market volatility spiked to 100% above The lesson is that volatility may test your nerves from time to time, but it has forgettable implications over time for patient investors. the average historical rate 3. The lesson is that volatility may test your nerves from time to time, but it has forgettable implications over time for patient investors. In addition, there are potential tax benefits created from increased volatility. When prices drop in the short-term, we opportunistically sell securities with losses to lock in tax benefits today. Following the sale, we promptly invest the proceeds so your portfolio never skips a beat. This automatic, tax-loss harvesting algorithm can reduce your tax burden come April and is a feature we offer in all taxable accounts 4. Another thing to keep in mind is that the return of volatility is also part of a healthy, dynamic, well-functioning market. Most investors prefer calm in their portfolios, but without some variation in prices and expectations, returns would be considerably lower. Investors are compensated with higher returns for dealing with higher uncertainty about future outcomes. That is why volatility is often used to measure market risk. Our Verdict Investment returns going forward will behave more like what we have experienced thus far in 2018 and less like the historically calm period we experienced in Markets are susceptible to occasional shocks as new information is digested, but staying the course pays off in the long-run. 2 Quarterly Investment Update Q1 2018

3 ... our member s portfolios are built to weather market ups and downs, no matter what volatility throws our way. IMPLICATIONS FOR THE ECONOMY Volatility in financial markets may coincide with economic contraction, too, as recently evidenced during the 2008 global financial crisis. Yet, increasing volatility in financial markets doesn t always spell doom and gloom for economic activity. One reassuring statistic is that between 1993 and 2017, GDP still grew at 2.1% during quarters when volatility was above its historical average. This compares to GDP growth of 2.8% during periods of below-average volatility 5. In addition, periods of higher financial market volatility have been followed by higher financial market returns. One way to measure this is to compare returns in the year after above-average and below-average volatility. Between 1993 and 2017, the S&P 500 returned 12.5% in the year following above-average volatility 6 compared to 10.1% when volatility is below average 7. Patience is a well-rewarded virtue. Our Verdict Volatility has historically coincided with below-average economic growth. But, as of today, economic fundamentals are positive and strong across the globe, indicating that continued economic growth should be sustained. Even still, the investment return following periods of stress has been positive and above-average. IMPLICATIONS FOR OUR INVESTMENT STRATEGY We believe volatility is a feature of a healthy, functioning market and therefore account for it in our investment strategy regardless of how quiet the market can be at times. In particular, our member s portfolios are built to weather market ups and downs, no matter what volatility throws our way. We do this because research has found that a balanced investment approach spread across proven investment strategies can produce more stable returns relative to more narrow approaches, including trying to time the market 8. This is outlined in a forthcoming white paper that documents our strategy in depth, but here is a snapshot. We invest in equities by relying on five investment strategies that have historically outperformed the market over the longterm 9. We then combine the strategies in a single, dynamic portfolio - an investing approach that, based on backtested analysis, has outperformed the market in 14 of the last 19 years and in aggregate 10. Because each strategy outperforms at different times, a blended approach increases the odds that at any given time the portfolio will include a strategy that is currently outperforming the market. For instance, one of the investment strategies we include in member portfolios is a defensive equity strategy, which historically holds up well in more volatile markets 11. To highlight this, the total return in March for one of the defensive equity ETFs in our model (USMV) was -0.25%, outperforming the total return for the Vanguard Large-Cap ETF (VV) which was -2.49%. Over time, this approach smooths out volatility for our members, while also taking advantage of the investment value it can create 12. We also minimize the effects of volatility by keeping fees low, which we believe is in every investor s best interest. For instance, the expense ratio for a United Income portfolio of ETFs investing in 60% equity and 40% fixed income is just 0.195%, or 65% cheaper than the average mutual fund 13. In addition, the full-service advisory fee we charge, which includes in-person meetings, is 18% lower than the cost of an average advisor 14, even though our services are much broader than most advisors in our experience. With these low costs, our clients keep more of their money at work in the market, which allows them to better benefit from buying opportunities created by volatility. We look forward to sharing more with you in our forthcoming white paper. In the meantime, if you would like to learn more, please contact your financial advisor today or call (option 1). Please see important disclosures and endnotes at the end of this market review. 3 Quarterly Investment Update Q1 2018

4 Member Results Over the next few months, United Income will be introducing new-to-the-world performance reporting functionality on our website for all members to see. We will be able to highlight how much wealth you have saved by reducing fees and taxes, while projecting how much wealth you may accumulate from investment returns. These reporting metrics will be interactive for each member and will include the past and projections in the future. You deserve to know how much wealth is generated for each dollar you pay for wealth management advice. Along those lines, we have also started meeting with other large investment firms to encourage more of the industry to adopt this more transparent approach to wealth management. United Income Estimated Tax Savings as Share of Taxable AUM, in basis points 5.4 Wealth management companies like United Income are in business to increase the wealth and wealth potential of their clients. At United Income, we focus on four approaches to help our members generate wealth. First, we aim to reduce fees by relying on scalable technology and cost-efficient investments. Second, we lower taxes by utilizing tax-smart investment algorithms and tax-efficient investment products, like ETFs. Third, we aim to increase investment gains by diversifying across proven investment strategies. Lastly, we seek to increase the value of policy benefits, like Social Security and Medicare, by optimizing your claiming strategy. Our investment approach to generate wealth relies on things we can control, like diversification and costs, since no one can reliably predict the future. This ap- proach has been effective, as depicted in the Performance table below: 7 of the 11 equity ETFs that we use to build portfolios in member accounts have outperformed relevant ETF benchmarks over the trailing 12 months. Investment gains, however, represent just one area of focus at United Income, we also aim to increase wealth by reducing avoidable costs from taxes and excess fees. The chart to the left highlights wealth generated across all our members through estimated tax savings 15. For instance, in March 2018, estimated tax savings were 4.5 bps, or 0.045%, of taxable AUM. We think this is a pretty good deal in such a short amount of time, but these estimated savings make up the first of many ways we try to reduce your taxes. Other tax-reducing strategies we ve built consider your asset allocation and withdrawal sequencing across accounts, aiming to minimize lifetime taxes and maximize growth. We expect this approach will keep more wealth in your pocket and less in government coffers These data indicate the power of our unified wealth management approach. You will see more from us in the months and years ahead as you benefit from even more ideas we have. By focusing on not just investment returns, but also tax savings, Social Security and Medicare optimization, and keeping costs low, we can generate a more sustainable wealth return for our members and ourselves, as co-investors alongside of you. Oct-17 Nov-17 Dec-17 Jan-18 Feb-18 Mar-18 Please see important disclosures and endnotes at the end of this market review. 4 Quarterly Investment Update Q1 2018

5 Performance AS OF MAR 31, 2018 The table below shows the performance of ETFs that we use to build portfolios in member accounts, and are compared against relevant ETF benchmarks. EQUITY TRAILING 3 MONTHS TRAILING 12 MONTHS VV: Vanguard Large-Cap ETF (benchmark) -0.68% 14.15% SCHX: Schwab US Large-Cap ETF -0.62% 14.12% USMV: ishares Edge MSCI Min Vol USA ETF -1.12% 10.98% QUAL: ishares Edge MSCI USA Quality Factor ETF 0.28% 15.73% VLUE: ishares Edge MSCI USA Value Factor ETF -1.37% 14.79% MTUM: ishares Edge MSCI USA Momentum Factor ETF 2.75% 29.21% VB: Vanguard Small-Cap ETF (benchmark) -0.20% 11.82% SMLV: SPDR SSGA US Small Cap Low Volatility Index ETF -2.42% 7.15% FNDA: Schwab Fundamental US Small Company Index ETF -1.59% 8.94% VEA: Vanguard Developed Markets ETF (benchmark) -1.13% 15.96% GSIE: Goldman Sachs ActiveBeta International Equity ETF -0.93% 16.16% FNDC: Schwab Fundamental International Small Company Index ETF -1.42% 18.53% VWO: Vanguard Emerging Markets ETF (benchmark) 2.09% 20.97% GEM: Goldman Sachs ActiveBeta Emerging Markets Equity ETF 1.42% 23.61% DGS: WisdomTree Emerging Markets Small Cap Dividend Fund ETF 2.71% 23.22% FIXED INCOME TRAILING 3 MONTHS TRAILING 12 MONTHS BND: Vanguard Total Bond Market ETF -1.53% 1.12% VTIP: Vanguard Short-Term Inflation-Protected Securities ETF 0.16% 0.29% BNDX: Vanguard Total International Bond ETF 0.87% 3.33% EMB: ishares J.P. Morgan USD Emerging Markets Bond ETF -2.16% 3.65% All data is rounded to the nearest hundredth of a percent. Data is trailing total returns provided by Morningstar, Inc. Past performance is not indicative of future results. 5 Quarterly Investment Update Q1 2018

6 Endnotes 1. We refer to clients of the United Income Wrap Program as our members. Performance information regarding our members in this letter does not include information from clients of our Traditional Portfolio Management Services. 2. Compound annualized return of the S&P 500 Index, with dividends reinvested. 3. Volatility is measured using the CBOE VIX Index. The historical average is the average daily VIX Close from 2004 to There are no guarantees that a portfolio employing these or any other strategy will outperform a portfolio that does not engage in such strategies. Mutual funds, exchange-traded funds, and other securities are subject to risk, including loss of principal. All investments have inherent risks. There can be no assurance that an investment strategy proposed will by United Income will achieve its goal. Past performance does not guarantee future results. 5. GDP is measured using percent change of seasonally adjusted Real Gross Domestic Product, from US Bureau of Economic Analysis. Volatility is measured using the CBOE VIX Index. 6. Average total return of S&P 500 Index in the year after the CBOE VIX index is above its trailing 12-month average, calculated daily from 1993 to Average total return of S&P 500 Index in the year after the CBOE VIX index is below its trailing 12-month average, calculated daily from 1993 to Carl Richards, Forget Market Timing, and Stick to a Balanced Fund, New York Times, Jan 27, 2014; com/2014/01/28/your-money/forget-markettiming-and-stick-to-a-balanced-fund.html 9. From 1999 to 2017, the MSCI USA Minimum Volatility Index, MSCI USA Sector-Neutral Quality Index, MSCI USA Momentum Index, MSCI USA Enhanced Value Index and MSCI USA SMID Cap Index have all outperformed the MSCI USA IMI Index, measured using annualized compound return (gross dividends). 10. Measured using an equal-weight blend of the MSCI USA Minimum Volatility Index, MSCI USA Sector-Neutral Quality Index, MSCI USA Momentum Index, MSCI USA Enhanced Value Index and MSCI USA SMID Cap Index rebalanced monthly compared to the MSCI USA IMI Index. Performance is theoretical and does NOT reflect trading in actual accounts and is provided for informational purposes to indicate historical performance of the investing approach over the 1999 to 2017 period. Results are adjusted to reflect the reinvestment of dividends and other income and are presented gross of fees and do not include the effect of transaction costs, management fees, performance fees or expenses. Investment strategies, such as asset allocation, diversification, or rebalancing do not assure or guarantee better performance and cannot eliminate the risk of investment losses. There are no guarantees that a portfolio employing these or any other strategy will outperform a portfolio that does not engage in such strategies. Mutual funds, exchange-traded funds, and other securities are subject to risk, including loss of principal. All investments have inherent risks. There can be no assurance that an investment strategy proposed will by United Income will achieve its goal. Past performance does not guarantee future results. 11. Alex Bryan, Defensive Equity Under the Microscope, Morningstar Inc, Sep 2, 2015; defensive-equity-under-the-microscope.html 12. From 1999 to 2017, an equal-weight blend of the MSCI USA Minimum Volatility Index, MSCI USA Sector-Neutral Quality Index, MSCI USA Momentum Index, MSCI USA Enhanced Value Index and MSCI USA SMID Cap Index rebalanced monthly had a 8.66% annualized compound return with 13.93% volatility compared to the MSCI USA IMI Index which had a 6.69% annualized compound return with 14.97% volatility. Performance is theoretical and does NOT reflect trading in actual accounts and is provided for informational purposes to indicate historical performance over the 1999 to 2017 period. Results are adjusted to reflect the reinvestment of dividends and other income and are presented gross of fees and do not include the effect of transaction costs, management fees, performance fees or expenses. Investment strategies, such as asset allocation, diversification, or rebalancing do not assure or guarantee better performance and cannot eliminate the risk of investment losses. There are no guarantees that a portfolio employing these or any other strategy will outperform a portfolio that does not engage in such strategies. Mutual funds, exchange-traded funds, and other securities are subject to risk, including loss of principal. All investments have inherent risks. There can be no assurance that an investment strategy proposed will by United Income will achieve its goal. Past performance does not guarantee future results. 13. Morningstar US Fund Fee Study, Average mutual fund fee calculated based on the asset-weighted mutual fund fee for a portfolio of 30% US Equities, 30% International Equities, and 40% Taxable Bonds, which is the same allocation a United Income member electing 60% equity and 40% fixed income would receive in their portfolio. 14. Average Advisor Fee is 1.07% based on Cerulli Associates, 4Q 2014 Report for Rep-as-Advisor Program. The highest fee United Income charges is 0.88% for full-service and an in-person advisor. The Cerulli data does not include fee information for robo-advisors and therefore represents a higher fee structure than fee structures for investment advisers such as United Income, which provide digital financial advice based on mathematical rules or algorithms. 15. Estimated tax savings are measured as 17.5% x (net long-term gains realized) + 24% x (net short-term gains realized) across all taxable member accounts. These rates reflect a middle-tier of the tax rates that are applicable to members. Individual member tax rates could be higher or lower than the rates we use in our estimated tax savings calculations. Actual tax savings will depend on the specific circumstances of each member and may differ significantly from amounts calculated. There are no guarantees that a portfolio employing these or any other strategy will outperform a portfolio that does not engage in such strategies. Past performance does not guarantee future results. 6 Quarterly Investment Update Q1 2018