View as a PDF file - GenSpring Family Offices

Global Financial Market Perspective October 2010 

By Andrew Mehalko, CFA 

Chief Investment Officer 

Third Quarter Highlights 

Fears of a double dip recession subsided 

Risk assets had a tremendous quarter 

Fear gauge remained high as Treasury bonds and gold continued to move higher 

Emerging markets led the advance in equities 

Third Quarter in Review: Markets Rallied Worldwide 

The third quarter was marked by wide swings in the equity markets, concluding with a 

considerable gain for stocks, bonds, and commodities. Both the S & P 500 and the equity 

markets rallied, weakened, and rebounded. Domestic equities market exhibited peculiar 

behavior in September with low volatility, volume, and flows out of the asset class, yet 

the gain was strong for the month. Internationally, equity markets surged ahead, with 

emerging markets leading the charge. Improved confidence in business conditions (as 

evidenced by decent second-quarter earnings) and the likelihood of further quantitative 

easing by the Fed led investors to begin taking more risks. 

Governments in developed economies have used multiple methods to bolster economic 

growth: stimulus money, near-zero interest rates, and quantitative easing. Given this 

support, it is difficult to tell how much of the current growth in corporate earnings is true 

organic growth driven by solid end-demand. We remain acutely aware that the 

foundation for a sustainable bull market in equities is fragile. 

In the bond markets, high yield bonds outperformed municipal bonds and investment 

grade corporates, but all three posted respectable returns for the quarter. Hedge funds 

posted lackluster quarterly returns in comparison to the equity markets. Overall, 

however, hedge funds posted gains each month of the quarter. Hedge fund returns were 

slightly higher than the overall bond indices and volatility was comparable. 

© 2010 GenSpring Family Offices, LLC. All rights reserved. 1

Investment Return Expectations: What is Reasonable Going Forward? 

The amplified swings in the markets indicate that investors continue to be uncertain 

about the range of outcomes for the global economy. With equity markets advancing as 

of late, investors seem to be gaining confidence in decent future growth prospects. 

However, the familiar concerns of high unemployment, weak housing markets, weak 

lending activity, and rising government debt and deficits linger, and rightfully so. 

Developed economies seem to be at an inflection point: are we stuck in a quagmire of 

sluggish growth, augmented by government intervention, or can we work through some 

of these structural problems and start to generate sustainable, real growth? If it is the 

latter, it will still take time to work through the problems; thus, for the foreseeable 

future, a low-growth, low-inflation, low-interest rate environment is the likely scenario. 

A future of constrained growth will likely lead to lower absolute returns for both stocks 

and bonds over the next three to five years. 

How Will Equity and Bond Markets Fare in a Low-Growth Environment? 

While we are seeing positive signs of economic growth in corporate America, the reality 

is that companies have had to cut many costs to weather the economic crisis and they are 

at a dead-end on further cost-cutting. There is concern about whether businesses will be 

able to organically maintain their upward revenue trends in a sluggish economic 

environment. Thus, as companies look to boost their growth, we expect to see continued 

acceleration in mergers and acquisitions. If they are unable to find good assets to 

acquire, they will likely return cash to shareholders in the form of dividends or share 

repurchases. We expect dividends will be an important source of return for equity 

investors over the next few years. 

A very positive sign for economic growth will be a sustained upward trend in capital 

expenditures. At some point, companies will have to invest money in hiring, technology, 

and other overhead costs. Once this trend materializes, we should see some job creation 

so long as regulation and tax policy are not too uncertain or restrictive. 

Politics and Taxes Cloud the Picture 

The potential for a power shift in the November elections in the United States adds a 

layer of uncertainty in terms of how markets will perform. It is likely that the 

Republicans will take a majority control of the House of Representatives and the 

Democrats will maintain their hold in the Senate. While the net effect is greater balance, 


policy decisions will be harder to achieve, and true, positive change will become even 

more of a challenge. 

Tax changes scheduled to occur in 2011 may also alter the domestic picture. Tax cuts 

implemented in 2001 are scheduled to expire; income tax and dividend tax rates for high 

earners will climb; capital gains taxes will increase; and various income tax deductions 

will be reduced. In addition, the estate tax will return, and after 2012, a new Medicare 

contribution tax will be imposed on investment income as part of the health care reform 

bill. 

Portfolio Recommendations 

We encourage families to remain diversified as protection from a host of potential risks. 

Our preference is to always be patient and wait for opportunities that are attractively 

priced and fully reflect the range of future outcomes. After big upward swings in equity 

markets, investors tend to want to plow full-steam-ahead into stocks. We recommend 

equity exposure in the form of emerging markets, high quality large cap stocks, private 

equity, and long-short equity. 

We recommend the following exposures: 

 

 

 

High quality, dividend-paying stocks. At the right valuations, families should 

always have exposure to strong companies with clean balance sheets and good 

growth prospects. We favor businesses that employ low leverage, earn a portion of 

their revenue from international sources, and can weather through volatile 

environments. GenSpring has recently added an investment manager who provides 

long-only exposure to these types of companies. 

Private equity. Periods following recessions have historically generated outsized 

returns in private equity. We believe this asset class also allows families to own good 

businesses, and private equity better aligns ownership and management and shifts 

control to more focused owners and management teams. 

Emerging markets. Emerging market countries continue to increase their share 

of the global economy and strengthen their financial positions. Their fiscal balance 

sheets are healthier than those of developed nations with escalating debt from budget 

deficits. 


MLPs. Energy MLPs (Master Limited Partnerships) provide an attractive 

distributions yield, and are currently inexpensive relative to other yield-oriented 

equity classes. These structures are tax-efficient and generally under-owned due to 

the fact that many institutional, tax-exempt entities are unable to invest in them. 

The overall demand for investment in new energy infrastructure has never been 

greater. 

Long/short equity managers are able to profit from a greater dispersion in 

corporate performance resulting from economic weakness. These managers identify, 

buy, and hold well-priced, stronger companies and sell short, over-priced, weaker 

companies. 

Multi-strategy managers are diversified and have the flexibility to find the most 

interesting trades across asset classes. They participate in a wide range of 

opportunities and do not have to rely on good equity markets to deliver returns to 

investors. 

Credit alternatives. We recommend high yield-oriented credit alternative 

strategies that are more event-driven or favor dynamic exposure. These types of 

managers may participate if the rally continues, but are able to better preserve capital 

if the market declines. 

Global trading and CTA managers provide exposure to dynamic trading 

strategies. We favor a position in this asset class as it exhibits a low correlation to 

equity markets, and managers are able to profit from a variety of macro themes. 

Gold has significantly increased in value and we are conscious that many investors 

are now directing capital into gold. We have recommended owning gold as a hedge 

against both currency devaluation and inflation. Gold has historically held its value 

in inflationary scenarios, and it can also be used as an insurance policy against 

currency crises, war, and policy extremes. With respect to inflation, governments 

will choose inflation over deflation because it has the effect of making debt 

obligations easier to pay back in the future. Also, despite lost purchasing power, 

inflation generally feels better for the population as asset prices (housing, stocks) are 

rising. Given the now-elevated price of gold, we are looking for other methods for 

families to protect against these risks, though we continue to advise families to own 

gold. 


Keep in mind that investor constraints, preferences, and/or wealth planning objectives 

affect the application of these guidelines; thus, you should always discuss them with your 

GenSpring advisor. We encourage all of our families to work with their GenSpring 

service team to make informed decisions about their portfolios and the guidance we 

offer. 


Disclosures and Definitions 

The information contained herein is neither an offer to sell nor a solicitation of an offer to 

purchase any securities. Such an offer will only be made to qualified investors by means of a 

private placement memorandum and related subscription documents. 

Past Performance is not necessarily indicative of future results. 

Benchmarks and indices: The valuation information presented for the various indices is available 

from public sources. GenSpring makes no representation as to its accuracy. Comparisons 

between a composite and an index are unreliable as performance indicators and should not be 

considered indicative of the actual performance to be achieved in a particular managed account. 

S&P 500 Index: The S&P 500 consists of 500 widely held common stocks, consisting of four 

broad sectors (industrials, utilities, financial and transportation). It is a market-value weighted 

index (stock price times shares outstanding), with each stock affecting the index in proportion to 

its market value. This index is a total return index with dividends reinvested. 

Barclays Aggregate Bond Index: Composed of U.S. investment grade fixed rate bond market, 

including government and credit securities, agency mortgage pass through securities, asset 

backed securities, and commercial mortgage-based securities. 

Barclays 5 Year Municipal Bond: Composed of state and local general obligation bonds, revenue 

bonds, insured bonds. 

Citigroup SB High Yield Index: covers much of the below investment grade U.S. corporate bond 

market. In it, previously published indices are combined to create a broad index for the highyield 

market. To enter the index, an issue must be rated speculative (BB+/Ba1) by S&P or 

Moody’s. An issue must miss a scheduled interest payment and allow the 30 day grace period to 

lapse before it is removed from the index. 

The HFRX Global Hedge Fund Index is designed to be representative of the overall composition 

of the hedge fund universe. It is comprised of all eligible hedge fund strategies; including but not 

limited to convertible arbitrage, distressed securities, equity hedge, equity market neutral, event 

driven, macro, merger arbitrage, and relative value arbitrage. The strategies are asset weighted 

based on the distribution of assets in the hedge fund industry 

Barclay BTOP50 Index: The BTOP50 Index seeks to replicate the overall composition of the 

managed futures industry with regard to trading style and overall market exposure. The BTOP50 

employs a top-down approach in selecting its constituents. The largest investable trading advisor 

programs, as measured by assets under management, are selected for inclusion in the BTOP50. In 


each calendar year the selected trading advisors represent, in aggregate, no less than 50 percent 

of the investable assets of the Barclay CTA Universe. To be included in the BTOP50, the following 

criteria must be met: Program must have at least two years of trading activity, Program's advisor 

must have at least three years of operating history, and the BTOP50's portfolio will be equally 

weighted among the selected programs at the beginning of each calendar year and will be 

rebalanced annually. 

The MSCI ACWI (All Country World Index) Index is a free float-adjusted market capitalization 

weighted index that is designed to measure the equity market performance of developed and 

emerging markets. As of June 2009 the MSCI ACWI consisted of 45 country indices comprising 

23 developed and 22 emerging market country indices. The developed market country indices 

included are: Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Greece, 

Hong Kong, Ireland, Italy, Japan, Netherlands, New Zealand, Norway, Portugal, Singapore, 

Spain, Sweden, Switzerland, the United Kingdom and the United States. The emerging market 

country indices included are: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, 

India, Indonesia, Israel, Korea, Malaysia, Mexico, Morocco, Peru, Philippines, Poland, Russia, 

South Africa, Taiwan, Thailand, and Turkey. 

Morgan Stanley Capital International (MSCI) Europe, Australia, and the Far East (EAFE) Equity 

Index: MSCI EAFE acts as a benchmark for 23 “developed markets” stock portfolios, 

approximately 1000 companies. The average company has a market capitalization of over $3 

billion. The index is presented with net dividends in US dollars. 

The MSCI Emerging Markets Index is an equity benchmark for emerging market stock 

performance. It is a capitalization-weighted index that aims to capture 85 percent of the total 

market capitalization and is rebalanced quarterly. 

The Dow Jones Industrial Average is a price-weighted average of 30 significant stocks traded on 

the New York Stock Exchange and the Nasdaq. 

The FTSE (London) index is the Financial Times Stock Exchange 100 stock index, a market cap 

weighted index of stocks traded on the London Stock Exchange. 

The Nikkei (Japan) is an index of 225 leading stocks traded on the Tokyo Stock Exchange. 

The Hang Seng (Hong Kong) index is a market-value weighted index of the stock prices of the 33 

largest companies on the Hong Kong market. 


Gold prices are sourced from Bloomberg and reflect the London Gold Market Fixing Ltd. PM Fix 

Price in U.S. dollars. Prices are quoted on a per ounce basis.

View as a PDF file - GenSpring Family Offices

You also want an ePaper? Increase the reach of your titles

Delete template?

Save as template?