US economic data trended in mostly positive territory for the month. The Citigroup Economic Surprise Index (CESI) drifted in a fairly narrow range following a sharp decline in preceding months. However, the CESI remains in slightly positive territory as many economic indicators have been in line or slightly exceeded expectations.

Following the government shutdown in October, where consumer sentiment plummeted, consumer psyche indices have slowed their rapid descent. During the month, the Consumer Confidence Index fell to 70.4 from 72.4. On the contrary, the University of Michigan Consumer Sentiment Index rebounded from 73.2 to 75.1. Overall, sentiment was mixed with consumers citing a strengthening job market yet slowing business conditions.

The ISM Manufacturing and Non-Manufacturing Indexes remain tailwinds for the US economy as both continue to trend in expansionary territory. The ISM Manufacturing Index increased from 56.4 to 57.3 in November while the Non-Manufacturing index decreased from 55.4 to 53.9. Despite the small decline, the ISM Non-Manufacturing Index has been steadily trending in positive territory (i.e. above 50) since late 2009. This is strikingly positive for the US economy as the service sector makes up a vast majority of GDP.

On the inflation front, both the Consumer Price Index (CPI) and Producer Price Index (PPI) disappointed. Both indexes fell in October with softer energy prices responsible for much of the decline. Core levels, which strip out food and energy, were also soft at 0.1% and 0.2% for the CPI and PPI, respectively. With US inflation falling to 1% from 1.2% month-over-month, there remains a fairly clear runway for the Fed to continue quantitative easing (QE).

Employment and new home sales came in positive for November. According to the ADP National Employment Report, the US private sector added 215,000 jobs in November, beating consensus expectations for 178,000. November marks the best month of job creation so far in 2013. October was also revised up to 184,000 from 130,000. News in the housing market continues to be staggering albeit somewhat fear-provoking. New home sales escalated 25.4% in October, clipping back a 6.6% decline in September. This resulted in a seasonally adjusted annual rate of 444,000 units. Despite higher mortgage rates, the housing market continues to gain momentum and approach levels not experienced since the pre-2007 housing boom.

Central Banks

Even when the US Federal Reserve does not release new and pertinent information regarding its asset purchasing program, the markets continue to be highly responsive to newly released data in order to gain insight on when the Fed might taper. Following the ADP jobs report, US markets remained on edge due to uncertainty on how to digest the better-than-expected reading. This was evident by volatile swings in the S&P 500, which opened well in the red and jumped into the black twice throughout the day before ending slightly in the red. With inflation slowing and the Fed characterizing growth as “modest to moderate,” employment numbers will be heavily watched in order to gain a better sense on when tapering will occur.

Across the pond, rates remain at historically low levels while growth forecasts are reassessed. The European Central Bank (ECB) held its benchmark refinancing rate at 0.25% as inflationary pressures remain lackluster. Inflation in October fell to 0.7%, prompting the ECB to cut its policy rate at its November meeting. Inflation has since ticked up to 0.9%, but is still far below the 2% target. The Bank of England (BoE) maintained its bank rate at 0.5% and its 375 billion pound target for its asset purchasing program. Britain’s economy is growing at an annualized rate in excess of 3%. The BoE has raised expectations of being the first major bank to raise rates. Last week, Britain announced that they will no longer boost mortgage borrowing through its Funding for Lending Scheme program in order to counter housing bubble worries. However, with the economy smaller than it was prior to the financial crisis and unemployment well above 7%, the BoE does not anticipate lifting quantitative easing anytime soon.

Source:, BEA, BLS, ISM, Econoday, WSJ, Reuters, Conference Board, Financial Times


Global equity markets appeared to get an early start to the historically strong holiday season, with the MSCI ACWI Index rising 1.5% in November. Developed market equities regained leadership as investors favored the relative economic stability and supportive monetary policies in these regions. US equities led on the upside, rising 2.8% as seasonal tailwinds and the Fed’s continued commitment to QE boosted domestic markets to new all-time highs. Conversely, emerging markets lagged, falling 1.5% during the month as investors booked profits following the robust gains of October. While indications of overly complacent bullish sentiment may cap upside potential in early 2014, the combination of seasonal tailwinds with improving breadth, leadership, and economic data should help global equity markets continue their ascent into year-end.

United States:
Very little news proved to be good news for US equities in November, helping maintain the strong momentum that began in the second half of October. As has been the case during most of 2013, speculation surrounding Fed policy was the major force dictating the market’s direction during November. Stocks churned a bit early in the month as the market digested a surge in equity IPOs, but dovish comments from several key Fed officials helped drive further upside momentum in the second half of November, specifically from outgoing Fed Chairman Ben Bernanke and his presumed successor Janet Yellen.

Contrasting from last month, there was a notable divergence in leadership across sectors in November, with sectors leveraged to domestic consumption growth significantly outperforming (health care, financials, and consumer discretionary). Technology was a notable outlier from this theme on the upside, boosted by the expected seasonal increase in orders from enterprise customers and a refresh of supply chain inventories. Conversely, underperformance was concentrated primarily in defensive sectors as rising interest rates stifled demand for higher yielding fixed-income substitutes. Furthermore, the decline in commodity prices had a noticeable impact on returns, with commodity producers in energy and materials lagging, while lower input costs helped boost stocks in the industrials sector. While rising volatility in the financial sector looms as a potential headwind for early 2014, building momentum in sectors leveraged to the strength in the domestic economy and seasonal tailwinds should support further gains through year-end.

Dispersion across investment styles remained minimal, although growth generally outperformed value, albeit by a small degree. Conversely, greater performance dispersion was observed across market caps, with small and microcap stocks regaining leadership after lagging in October. As was the case last quarter, we believe this is largely attributable to the differing earnings exposure of these segments, with small and microcap stocks having greater exposure to domestic markets (which outperformed), while large caps lagged due to their larger exposure to international markets (which underperformed). While this is constructive for small and microcap stocks near‑term, improving global economic data raises questions as to whether this leadership is sustainable moving into 2014.

International/Emerging Markets:
Major developed international indices were led higher by Germany in November, which continues to benefit from broad economic tailwinds despite a disappointing 0.1% Q3 GDP print for the Eurozone. German factory orders beat estimates for the month of October, a positive sign for the still nascent Euro-area recovery. In response to a sudden drop in Eurozone inflation, the ECB elected to cut its benchmark interest rate by 0.25%, reinforcing Mario Draghi’s commitment to do “whatever it takes” to preserve the currency union. Returns cooled in peripheral countries Italy and Spain after strong September and October results, as bond yields in both countries crept higher during the month. The Japanese market was strong as the yen broke through 100 relative to the dollar after middling in the 96 to 100 range since late July. The currency is now at its weakest point since late May when the talk of Fed tapering began. Australia had the weakest monthly performance among developed markets, as materials stocks weighed on the broad index.

The big story in emerging markets during November was the meeting of the Chinese Communist Party’s Central Committee (also known as the plenum), which resulted in a raft of new reform proposals that have the intention of furthering the country toward a more market-based economy. A few of the big ticket proposals included the reform of state-owned enterprises and increasing access to foreign investors. The potential loosening of the one-child policy came as a big surprise and supported shares in many consumer staples stocks, particularly those of baby formula producers. Overall, the market appears to favor these proposed reforms as the MSCI China led all major indices for the month.

Indian equities slowed as the market digested Q3 earnings (Q3 encompassed the rupee crisis). The economy as a whole appears to have navigated past the crisis, as the steps taken by the RBI have proven effective. Brazil continues to struggle in the face of weak economic growth and rising inflation, leading to a 50bps rate hike late in the month. The market took a significant hit at the end of the month and into early December as the government directed Petrobras to raise fuel prices. Weakness in commodity prices also hampered performance in Brazil and many of its neighbors in Latin America. Southeast Asian markets were broadly weak, as the region dealt with a devastating typhoon in the Philippines, political unrest in Thailand, and a continued currency and current account crisis in Indonesia.

Source: MSCI, Bloomberg, WSJ, The Economist, Morgan Stanley, Bespoke, FactSet, Russell, Reuters, J.P. Morgan, Barclays Capital, Financial Times, Goldman Sachs

Fixed Income

Interest rates continued their march higher to break a rally that began with the Fed’s shocking taper delay announcement in September. Positive economic reports in November were headlined by GDP and jobs numbers well ahead of expectations. In addition, the Fed signaled that it may be moving away from asset purchases to drive monetary policy in its October meeting minutes. The tone of the meeting minutes pushed market expectations of tapering up from April towards January of 2014. A December taper surprise is not entirely out of the question.

High-quality fixed income, as represented by the BC Aggregate Index, lost 0.4% in November. Losses were driven by increasing Treasury rates as spreads for investment grade corporates and agency MBS were stable to slightly down.

Taxable Market:
In review of specific fixed income sectors and markets:

  • TIPS under-performed the nominal Treasuries index by 80 bps with a loss of 1.1% for the month. Breakevens were unchanged as yields for TIPS and Treasuries increased roughly the same amount along the curve.
  • Agency MBS lost 0.6% for the month. Agency spreads were unchanged but yields increased 20 bps due to rising rates. Current 30-year mortgage rates of 4.4% are roughly 1.0% higher now than they were at the beginning of 2013.
  • Non-agency MBS valuations were steady despite the upward move in rates. The big November news for this sector was JP Morgan settling a lawsuit brought against it by institutional investors. The legal action was over non-agency mortgages issued by the bank and Bear Stearns, which JP Morgan acquired in 2008. The $4.5 billion settlement will cover about 7% of realized and expected losses for the bonds in question. In addition, the settlement set limits on how aggressively JP Morgan and other servicers can modify loans by forgiving principal. This is a positive for investors as loan modifications hurt the value of non-agency mortgages by increasing realized losses.
  • Corporate bonds lost 0.2% for the month. Spreads tightened slightly to offset a portion of losses due to higher interest rates. Despite being interest rate sensitive, corporate bonds may find support from institutional buyers should the economic outlook continue to improve.
  • High-yield bonds and bank loans both gained 0.4% for the month. The sectors benefitted from spread compression that drove price appreciation. Issuance quality has deteriorated noticeably for the high yield space in the second half of the year. Use of proceeds for both markets is veering towards M&A activity and capital expenditures at the expense of refinancing.
  • Convertible bonds were the top fixed income performers in November with a 1.9% return. The sector was a beneficiary of strong equity performance. Overall gains are in line with expectations given the equity rally and current equity sensitivity of the market.

Municipal Market:
Muni performance was good in the context of rising Treasury yields. Muni yields rose to a lesser extent than Treasuries across the curve. The outperformance was particularly noticeable on the long end of the curve as long munis, which lost 0.2%, nearly matched the performance of intermediate munis, which fell 0.1%. The 30-year muni to Treasury ratio fell markedly from 120% to 108% as a result.

Headlines such as Puerto Rico and Detroit are putting increased scrutiny on muni creditworthiness. The primary gauge of quality in the market is traditionally the rating agencies of which S&P and Moody’s are predominant. However, the two firms are on diverging trajectories of rating upgrades and downgrades. S&P is upgrading municipal ratings as a general reflection of the improving fundamentals in the space amidst the economic recovery. Moody’s is taking a harsher view of muni credit that incorporates pension liabilities (which can be severely underfunded) and the possibility that the willingness of issuers to make good on their obligations is weakening. Roughly half of all outstanding dual rated munis now carry different ratings from S&P and Moody’s. This dynamic may cause additional concern about muni credit quality as well as degrade the value of an agency rating.

International Markets:
EM fixed income was once again dragged down by rising rates in the US as local EM rates sold off in sympathy with Treasuries. Local currency yields are now at levels last seen before the taper surprise in September. Currency returns were also lacking with vulnerable countries such as Indonesia and Brazil off 5.8% and 4.0% versus the US dollar, respectively.

In the developed markets, the interest rate cycles of the US and UK are diverging from those of the Eurozone and Japan. The Bank of England and the Fed may both move to tighten as growth accelerates. The ECB is faced with the prospect of deflation that led it to surprise the markets by cutting rates in November. Finally, Japan is pursuing monetary policy that is unprecedented in terms of injecting liquidity into the market.

Sources: Barclay’s Capital, Bloomberg LP, Financial Times, J.P. Morgan, Municipal Market Advisors, US Treasury


Hedge Funds:
November proved to be an uneventful month for hedge funds, as the broad complex posted marginal returns. In a period mostly dominated by Fed-talk and the nomination proceedings of Janet Yellen, equity markets crawled their way to record highs. This natural buoyancy in risk assets once again outpaced more conservatively positioned hedge fund strategies.

The surprise performer in November was the Systematic Diverisified Index, which rose 1.6% to lead all other alternative strategies. Unsurprisingly, the bulk of those gains were concentrated in equity index positions, and individual managers saw varying performance results based on their long equity exposure. Data from Newedge, a popular prime broker for many CTA strategies, suggested that trend followers were generally flat or negative in the other major asset classes, including FX, rates, bonds, and commodities. Commodities were the most difficult space for CTAs as shorts across the complex moved against them, with the exception of gold and crude.

Equity strategies generated better performance with the alternative investment peer group, led by equity hedge strategies. Those funds’ 1.0% gain was strong on a risk-adjusted basis, as the group cut its exposure to equity markets sharply in the period. Market-neutral strategies also generated alpha in the range of 50-60 bps in the month, with that group up 0.6% in the period. Data from Credit Suisse indicate that single stock dispersion remains on the high end of its range, albeit somewhat lower than previous months, and that one-month cross-correlations in the S&P 500 are lower than mid-2013. Both of these developments present a more favorable backdrop for these strategies.

Event-driven strategies produced an incremental return in November but lead the alternative investment group on a year-to-date basis. Deal activity remains on track to eclipse last year’s $2.24 trillion in total volume, although November’s pace represented a modest slowdown from the first 10 months of the year.

Liquid Alternatives:
Alternative Investment (AI) mutual funds generated performance mostly in line with their hedge fund peers in October. The broadest multi-alternatives category returned 0.7%, one of the best monthly returns of the year and ahead of the HFRX absolute return benchmark.

Long/short equity mutual funds beat comparable hedge funds by 50 bps on the month. As we often note, however, this may be due less to alpha production and more to higher embedded systematic risk levels within the mutual fund space. Long/short mutual funds captured roughly 50% of the S&P’s performance on the month, similar to the category’s beta profile for the period.

Market-neutral strategies posted a modest return of 0.3% in the month. This lagged their hedge fund counterparts, which may partially be due to a structural inability to leverage their portfolios. Generally speaking, any reduction in the liquidity fueled rally observed this year should be more conducive for these fundamentally-oriented (and non-beta-dependent) strategies.

Nontraditional bond funds were slightly negative, once again disappointing investors in a month where the BC Aggregate Bond Index fell 40 bps. There are a wide range of strategy types within this Morningstar categorization, however, which may make definitive commentary less appropriate. More unconstrained solutions may have been negatively impacted by any non-US fixed income exposure, which was generally negative in November.

Finally, managed futures funds saw the same benefits as their hedge fund bretheran, posting their best return of 2013. This was mostly driven by strong trend following exposure to equity markets. Given the inherent liquidity within futures markets, many of these Funds can run their hedge fund strategies unencumbered within the 40 Act wrapper. Performance has remained tight on a relative basis over the year as a result.

Sources: Bloomberg LP, Factset, Credit Suisse, Barclays, JP Morgan, Morningstar Direct, Hedge Fund Research, NewEdge

Liquid Real Assets:
Yield-heavy real assets lagged broad equities once again as interest rates backed up 0.25% in November. Commodities remained the YTD laggard due in part to weak metals performance.

Energy held up relatively well during an otherwise lackluster month. Natural gas rose nearly 9% with the help of colder weather and greater-than-expected pipeline withdrawals. Heating oil also climbed. WTI crude weakness (-4.2%) was the most notable detractor, as the US continues to struggle with oversupply compared to the rest of the world. Brent Crude, on the other hand, rose during the month.

  • Agriculture: Grains slowed their descent with a strong rebound in soybeans (+5.5%) offsetting weakness in corn (-3.4%) and wheat (-1.5%). Soybean exports the week before Thanksgiving tripled the same period last year. Conversely, corn exports surprised to the downside, by way of China’s recent rejection of several shipments of genetically modified grains. Soft commodities diverged once again as cotton (+1.2%), coffee (+2.2%), and cocoa (+3.4%) counterbalanced weakness in sugar (-6.5%). The international sugar organization recently raised its global surplus expectations from 4.5 million tonnes to 4.7 million tonnes for 2013.
  • Industrial metals weakened further with nickel and aluminum declining by more than 6% during the month. Nickel’s decline in the face of a potential export ban from Indonesia to China (~15% of global nickel trade) portends either upside or a change in Indonesian policy. In either case, volatility could persist for some time to come. Copper (-2.7%) continued to face dueling forces of excess supply (mine production up 9% YoY) and increased China buying, with no immediate resolution in sight.
  • Precious metals sold off again, led lower by silver (-8.6%) and gold (-5.6%). Investor sentiment continued to provide the majority of bearish headwinds, with gross short positions on the COMEX rising to three-month highs in the middle of November. Gold ETP holdings fell 40+ tonnes during the month. Silver ETP holdings fell more than 250 tonnes. Countering the trend, China gold bullion imports from Hong Kong continued to rise, hitting nearly 150 tonnes during the month.

The sector rose slightly in November, buoyed by positive performance in natural gas pipelines (+3.9%) and E&P operators (+2.4%). Coal MLPs (-3.8%) finished at the bottom of the totem pole, hurt by sub-$4 natural gas prices which traditionally drives utilities away from coal.

The asset class finished the month yielding 5.9% vs. 2.8% for the 10-Year Treasury. The historical spread is ~3%, but nearly 3.75% when the US 10-Year Treasury yield is below 4%.

After a strong October, US REITs sold off due in part to rising interest rates and taper fears. Healthcare REITs, which have exhibited a correlation of nearly -0.90 to rising interest rates since May, faced significant selling pressure (-10.3%). For the year, they are down 4.1%. A similar fate befell apartment REITs (-5.5% in November; -6.6% YTD). The fact that these are the only two REIT sub-sectors in the red YTD does not bode well heading into year-end, as many investors will look to harvest tax-losses in what was an otherwise banner year for equity investments. Domestic REITs finished the month yielding approximately 4.0%, ~120 bps north of US Treasuries, which is slightly above the historical average.

Europe proved to be the bastion within the REIT space, supported by continuing improvement in local economies as well as occupancy strength in northern Europe and the UK. Smaller countries led the charge with Austria and Denmark property indices rising more than 3%. The much maligned southern European nations joined in, with Spain and France finishing up for the month.

Despite a near 20% drop in the Hong Kong residential property index for the month, the broad index was the least negative within Asia (-0.6%) as diversified and retail REITs stood firm. Hong Kong developers remained under pressure from a mainland China residential regulatory squeeze, losing almost 50% of their value YTD. Elsewhere in Asia, Australian REITs lagged due to weakness in economically sensitive industrial and retail REITs. Unlike Hong Kong, however, Australia saw strength in residential property indices, which are now up 25% YTD.

Sources: MLPHINDSight, S&P, FactSet, Alerian, Barclays, Bloomberg


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.