Economic Backdrop

The second quarter played host to balancing acts between accommodative central bank actions and transparency about future courses of action. In the U.S., the Federal Open Market Committee (FOMC) announced a reduction in the size of its bond purchase program to a monthly total of $35 billion starting in July. The $15 billion reduction is $5 billion larger than past moves. It pares purchases of mortgage-backed securities (MBS) by $10 billion and longer-term Treasury security purchases by $5 billion. The increased cutback could signal that the FOMC considers its dual mandate for full employment and low steady inflation to be in line with or slightly ahead of expected progress. This is consistent with its quarterly forecasts, which showed lower 2014 economic growth expectations alongside an improved unemployment rate, with a slight elevation in the inflation outlook.

In the U.S., the labor market brightened as initial jobless claims continued to decline and ongoing claims hit several post-recession lows during the quarter; the unemployment rate stood at 6.1% in June. Purchasing managers continued to raise the bar throughout the quarter, with the highest manufacturing production figures of 2014 reported in May and strong preliminary expectations for June. Non-manufacturing sectors (services, mining and construction) also surprised to the upside, with May’s new orders representing a bright spot. Personal incomes increased an expected 0.4% in May, while consumer spending and prices rose 0.2%. Motor vehicle sales trounced expectations with a 4.4% jump in May, putting unit sales at an annual rate of 16.8 million, the highest level since 2006. New and existing home sales jumped in May, while prices appeared to remain anchored based on April data, a sign of increased activity in the real estate market that is not currently benefitting sellers in the form of higher prices. Looking back to the first quarter, the U.S. economy contracted an annualized 2.9% in the final gross domestic product reading. The figure was far below prior reports, but weakness was still attributed to a harsh winter.

The European Central Bank (ECB) made good on assurances by lowering its bank-deposit interest rate into negative territory in early June, effectively charging banks to keep funds on deposit when they choose not to lend. A €40 billion commitment to underwrite private-sector lending was also announced, along with the promise of more support if needed. The Bank of England (BOE) kept interest-rate and asset-purchase targets unchanged in June, but Governor Mark Carney stated that rate increases could take place sooner than markets expected after minutes from the latest Monetary Policy Committee meeting revealed a growing preference to hike rates sooner rather than later. In addition, the BOE expressed concern about the efficacy of mortgage-lending limitations in slowing the rise of house prices as a significant reason why rates may need to increase. Finally, the Bank of Japan maintained accommodative monetary policy in each of its four announcements during the quarter, with an aim to close the shortfall from its target inflation level.

The U.K. saw retail sales decline throughout the quarter even as manufacturer production expectations, service provider headcount and construction lead times each reached multi-decade highs. Unemployment edged downward to 6.6% in May, but earnings growth showed a surprising deceleration over the prior year. Prices fell at the producer and consumer levels, based on May’s data, although real estate continued to be the exception as house prices closed in on levels not seen since before the financial crisis. The final first-quarter economic growth reading was unchanged at 0.8%. Growth over the same period a year earlier was measured at 3.0%.

Eurozone consumer confidence failed to continue a multi-month trend of improvement in June that mirrored a decrease in economic sentiment centered on the industrial sector. A silver lining could be found in the fact that Spain and Greece actually saw increases despite Germany’s notable decline. Purchasing managers gave preliminary reports of a worse-than-expected slowdown in manufacturing and services growth for June. While the overall reading remained in positive territory, France reported a continued decline. The drop-off contrasts sharply with early-quarter strength, in which April’s industrial production doubled expectations and Greece delivered its first growth of the year. Eurozone prices underwent a small contraction according to May’s data, contributing to a downward trend in year-over-year inflation. The unemployment rate improved to 11.6% in April and held firm in May despite a nominal improvement.

Market Impact

Global fixed-income markets matched their positive early-year performance as the maintenance of accommodative monetary policy forced investors to turn to more aggressive and riskier investments in an effort to generate higher returns. The Barclays Global Aggregate Index returned 2.47%, in line with first quarter performance. Emerging-market debt delivered the greatest outperformance, followed by Treasury inflation-protected securities, which returned more than double traditional Treasuries. Investment-grade U.S. corporate bonds edged out their high-yield counterparts (which are rated below investment grade and considered riskier). High-yield bonds issued by Western European companies approached the $100 billion mark, setting an all-time high and breaking through last year’s record six months early, indicating an increased appetite for high income-producing, lower-quality bonds among investors.

Equities delivered an impressive quarter; returns were positive across all sectors of the MSCI AC World Index, with energy far ahead of the pack, followed by utilities, while financials brought up the rear. Strength in emerging-market equities was evenly distributed between Asia-Pacific and Latin America; Japan led in developed-market equity performance. Small companies had the toughest quarter, delivering the lowest returns in the U.S. and having the dubious honor of delivering the quarter’s only negative performance in Europe. Turkey earned the highest returns, while neighboring Greece detracted the most.

Second Quarter Index Data

  • The Dow Jones Industrial Average Index returned 2.98%.
  • The S&P 500 Index gained 5.23%.
  • The NASDAQ Composite Index returned 5.31%.
  • The MSCI AC World Index, used to gauge global equity performance, rose by ($) 5.04%.
  • The Barclays Global Aggregate Index, which represents global bond markets, returned ($) 2.47%.
  • The Chicago Board Options Exchange Volatility Index, a measure of implied volatility in the S&P 500 Index that is also known as the “fear index,” declined during the quarter, moving from 13.88 to 11.57.
  • WTI Cushing crude oil prices, a key indicator of movements in the oil market, moved from $101.58 per barrel at the end of March to $105.37 on the last day in June.
  • The U.S. dollar strengthened slightly versus the euro, while it weakened against sterling and yen. The U.S. dollar ended June at $1.37 against the euro, $1.71 versus sterling and at 101.31 yen.


This material represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding the Funds or any stock in particular, nor should it be construed as a recommendation to purchase or sell a security, including futures contracts.

There are risks involved with investing, including loss of principal. Current and future portfolio holdings are subject to risks as well. International investments may involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles or from economic or political instability in other nations. Narrowly focused investments and smaller companies typically exhibit higher volatility. Bonds and bond funds will decrease in value as interest rates rise. High-yield bonds involve greater risks of default or downgrade and are more volatile than investment-grade securities, due to the speculative nature of their investments. Emerging markets involve heightened risks related to the same factors as well as increased volatility and lower trading volume.

Diversification may not protect against market risk. There is no assurance the objectives discussed will be met. Past performance does not guarantee future results Index returns are for illustrative purposes only and do not represent actual portfolio performance. Index returns do not reflect any management fees, transaction costs or expenses. One cannot invest directly in an index.