2016 Outlook: A Scorecard

At the outset of each year, Rogerscasey, a Division of Segal Advisors, publishes our perspective on macroeconomic conditions, valuations

and other factors, with an eye towards providing some degree of guidance regarding possible developments in the global capital markets. Our assessment, updated quarterly, continues to be one of seeking to look out 12 to 18 months, in what we describe as a “TSA approach” — we only feel the need to say something about a specific asset class where we actually see something that appears to have clear directionality.

We also believe that, unlike many who attempt to assess market direction over the near term, we should keep score on our own assessments as a way to gauge our process and its effectiveness. This is a scorecard of how we did in 2016.

EquitiesThroughout 2016, we were neutral on U.S. equity on an absolute basis with an expectation that we would see lower-single-digit returns with higher volatility. This was in light of somewhat stretched valuations along with expectations for continued anemic low growth and a subdued corporate earnings picture. With an annual return of just over 12 percent (Russell 1000 Index), the U.S. equity market delivered results significantly above our assessment of those conditions. We also expressed neutrality relative to growth versus value in the U.S. In fact, after three years of no significant difference between the two by most measures, and after a 2015 when growth substantially outperformed, there was a full reversal in 2016 and value outpaced by a wide margin. We also voiced no preference for small- over large-cap equities until the final quarter, when we indicated some favorability for the former. In fact, the small cap index (Russell 2000 Index) outperformed large cap by a substantial margin over the full year, although a significant part of that performance came as a result of a stellar fourth quarter. Lastly, in keeping with our concerns regarding uncertainty and volatility, we suggested quality should be a focus for investors. This expectation was inconsistent with a market where value was king and the markets earned buyers low-double-digit returns.

Outside the U.S., we had a consistent view that non-U.S. developed markets would modestly underperform the U.S. That view became more pronounced after the “Brexit” vote. We also noted that U.S. dollar (USD) investors should

be concerned about some erosion of returns due to continued USD strength as U.S. rates began to rise. For 2016, non-U.S. developed equity was up only 1.5 percent for the USD investors as per the MSCI EAFE Index, substantially underperforming the U.S. markets broadly. While those non-U.S. markets, surprisingly, did recover somewhat, they fell in Q4, post the Brexit announcement. In addition, the MSCI EAFE Index locally was up almost 6 percent, confirming the expectation that the USD would erode some of the local returns. The quality factor was close to neutral for the year.

This is a summary of 2016 year-end results versus the forecasts stated in the 2016 Investment Outlook of Rogerscasey, a Division of Segal Advisors.

2016 Outlook:Standing (or Is that Sitting?) Out in a Crowd

INVESTMENT

OUTLOOK

“ For 2016, non-U.S. developed equity was up only 1.5 percent for the [U.S. dollar] investors ..., substantially underperforming the U.S. markets broadly.”

2016 Outlook: A Scorecard n Page 2

In the emerging markets, we were neutral relative to the U.S. and expected some volatile, but difficult, markets without substantial return from the higher risk until the end of the third quarter, when we became somewhat more bullish in general. While these markets — as measured by the MSCI Emerging Markets Index’s 11.2 percent return — over the course of the year were almost a tie with the U.S., we should have been more bullish earlier. In addition, the surprising election results in the U.S. held these stocks back in the fourth quarter, as the potential for higher interest rates and a stronger USD rippled negatively through these markets. We also noted that we were less concerned about the effect of the USD versus local market results, and that was largely accurate as investors were slightly rewarded for not hedging.

Fixed IncomeFrom the outset of 2016, it was our view that there would be little money to be made in the U.S. core bond market as rates might rise slowly and investors would likely only earn their coupon or slightly less. With a 2.6 percent return for the Bloomberg Barclays U.S. Aggregate Index, that was the case. For non-U.S. core, we began the year neutral relative to the U.S., but quickly became more negative after the first quarter. With an annual return of 1.8 percent as measured by the unhedged Citigroup Non-U.S. World Government Bond Index, non-U.S. core bonds did underperform.

For the emerging markets, we suggested that, with less currency impact, investors would have returns exceeding those available in the U.S. simply on the basis of emerging markets’ higher average yields. The 10 percent return from emerging market debt, as per the blended 50 percent JPM EMBI+/50 percent JPM GBI, did bear out that conclusion, and the margin between local and USD-denominated emerging market debt was very small for the year.

We had great confidence in the high-yield and bank loan markets with a positive outlook, and investors were rewarded in both areas as returns were in the double digits for relevant indexes (Citigroup High Yield Market and S&P/LSTA Leveraged Loan, respectively), although high yield results were in the upper teens, outstripping bank loans significantly. We also suggested a quality bias reflecting our concerns for continued uncertainty, but this conservatism was unfounded for 2016. Treasury Inflation-Protected Securities (TIPS) (Bloomberg Barclays U.S. TIPS) and long bonds (Bloomberg Barclays U.S. Long Government/Credit) were also neutral relative to U.S. core in our outlook, but interest rate declines in the first two quarters enabled both areas to turn in impressive results, with the Bloomberg Barclays U.S. Long Government/Credit Index returning low teens for the first half. Both sectors reversed course substantially in the fourth quarter, but results for the year were significantly higher than for core. We expected the municipal markets would achieve positive absolute returns and perform modestly better than the broad U.S. bond market. With a substantial collapse in the fourth quarter (the Bloomberg Barclays Municipal Bond Index was down 3.6 percent), the annual return was a very small 0.25 percent for the year.

Hedge Funds and Private/Illiquid InvestmentsWith an overall return of 5.5 percent for the year for the HFRI Fund Weighted Composite Index, results were in line with an expectation of 4 percent to 6 percent over Treasury bills, but somewhat less than the goal of providing favorable support to a classic 60/40 stock/bond portfolio. While we anticipated somewhat more anemic returns from hedge funds, our expectation that equity hedge and some market-event-driven funds would perform more favorably did hold true for 2016.

“ We had great confidence in the high-yield and bank loan markets with a positive outlook, and investors were rewarded in both areas as returns were in the double digits for relevant indexes.”

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Reminding readers that the private — or illiquid — asset classes are truly long-term in nature and the ability to rebalance or modify concentration is limited, we nonetheless had somewhat bullish views for much of the year on the energy sector, which was up dramatically for 2016 as measured by the S&P Oil and Gas Exploration and Production Select Industry Index. While directionally correct, our assessment did not call for the degree of recovery in prices for investors that occurred. We were also favorable on commodities and timber, but only briefly (for Q2 for the former and at the start of the year for the latter). While the Bloomberg Commodity Index was up dramatically for the second quarter, we did not intend to make such a short-term forecast, but were reflecting the fact that we were seeing some strains in the commodity supply/demand chains. For timber, results for the NCREIF Timberland Index were quite muted throughout the year, despite our viewing this more favorably to begin 2016. On average, farmland (NCREIF Farmland Index) and real estate (NCREIF Property Index) performed in line with our long-term expectations and our shorter-term neutral view. Infrastructure began the year with a double-digit first half and, although the markets did back off their torrid pace, our neutral view should have been more bullish, as the FTSE Global Core Infrastructure 50/50 Index returned 11.8 percent for the year.

While providing perspectives about the future of capital markets and investment opportunities are an important part of Rogerscasey’s long-standing commitment to keeping our clients informed, ours is a world of events and influences that can never be fully known. Today, it does seem there is even more uncertainty than usual. As we have been doing for a number of years, our Investment Outlook seeks to at least illuminate some of the shadows to assist investors in making better decisions.

Our Latest OutlookFor our latest views, read Rogerscasey’s 2017 Investment Outlook, “Arrival.”

“ On average, farmland and real estate performed in line with our long-term expectations and our shorter-term neutral view.”

Questions? Contact Us.

To learn more about how our outlook views can help you improve your clients’ investment strategies, contact your Rogerscasey, a Division of Segal Advisors, investment consultant, our nearest office or the author of this report, whose information is listed on the next page.

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Rogerscasey provides consulting advice on asset allocation, investment strategy, manager searches, performance measurement and related issues. The information and opinions herein provided by third parties have been obtained from sources believed to be reliable, but accuracy and completeness cannot be guaranteed. Rogerscasey’s “2016 Outlook: A Scorecard” and the data and analysis herein is intended for general education only and not as investment advice. It is not intended for use as a basis for investment decisions, nor should it be construed as advice designed to meet the needs of any particular investor. Please contact Rogerscasey or another qualified investment professional for advice regarding the evaluation of any specific information, opinion, advice, or other content. Of course, on all matters involving legal interpretations and regulatory issues, investors should consult legal counsel.

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About Rogerscasey Rogerscasey is the Advisor Solutions Group of Segal Marco Advisors, a leading global investment consulting firm. Rogerscasey provides a full range of consulting services to broker dealers, banks, insurance companies, registered investment advisors, multi-family offices and other intermediaries that serve the high-net-worth marketplace.

About the Authors Tim Barron is the Chief Investment Officer of Segal Marco Advisors, the U.S. investment solutions member of The Segal Group, where he manages the firm’s Research Department and oversees all investment activities. He has more than 30 years of experience in the investment industry. Mr. Barron also chairs Segal Marco Advisors’ Investment Committee and is on the Governing Committee of the Global Investment Research Alliance. He can be reached at 203.621.3633 or tbarron@segalmarco.com.

David Pappalardo is a Senior Vice President and the Practice Leader for the Advisor Solutions Group in the Boston office of Rogerscasey. He has more than 20 years of experience in the investment industry. He can be reached at 617.424.7354 or dpappalardo@segalmarco.com.

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