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Strategic Insights

Volume 4, Edition 27 | July 20 – 24, 2015

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Commodity Calamity

Mike Leist Michael Leist | Articles

Read Time: 4:00 min

commodity_calamity

With the Greek drama no longer occupying the center of the world financial stage, investors have refocused on more important concerns, like corporate results and the trajectory of global growth. Concerns, particularly on the latter, drove stocks lower.

Market Review

Contributed by Alan Leist, III

With the Greek drama no longer occupying the center of the world financial stage, investors have refocused on more important concerns this week, like corporate results and the trajectory of global growth. Concerns, particularly on the latter, drove stocks lower.

Cracks forming: A survey of purchasing managers in China indicated the lowest level of activity in 15 months.

  • US stocks with Chinese exposure are beginning to feel this in their results. Strategic holding, United Technologies (UTX), reported this week a 10% decline in elevators orders in China. The shares fell 7%.
  • Commodities like metals and oil, have also slumped on fears that Chinese demand will continue to wane. While dramatic, we believe these pockets of weakness open up opportunities for the patient long-term investor.

Great but not exceptional: Corporate earnings season is in full swing. Companies like Apple and Microsoft have posted very strong results, but sliding shares suggest investors were expecting “exceptional”.

Economic Commentary

Contributed by Doug Walters

For much of this year, investors have focused on the timing of the first interest rate hike from the Fed in nine years. This week we take a look at interest rates and how they might impact one specific sector: Financials.

Why so low? Many of the sectors within the S&P 500 are performing at peak profit margins. Financials however, and more specifically banks, remain a clear outlier. Net interest margin, a key performance metric for banks, is depressed relative to pre-crisis levels.

  • Due to added regulation and the need for higher capital levels, bank margins may not get back to former levels. As interest rates normalize however, it is worth asking how this will impact bank share price performance relative to the S&P 500.

Year-to-date: The graph below compares the performance of large cap banks with that of the S&P 500 year-to-date.

  • The graph shows that as the 10-Yr treasury yield has risen (post April 24th), banks have outperformed.

Could this time be different: This correlation makes sense, but will it continue? When the Fed begins to raise short-term interest rates, longer-term rates, like the 10-Yr yield will need to rise even more for bank profitability to continue rising.

  • Yield starved investors may make it difficult for long rates to rise; leaving us cautious on large cap banks.
  • For now, however, banks appear to be being given the benefit of the doubt.

Investment Strategy Update

Contributed by David Lemire , Max Berkovich

STRATEGIC Asset Allocation

Fill ‘er up: Recent commodity price declines have caused our positions to shrink considerably. We continue to believe in commodities as a source of diversification and so we have begun the process to rebalance our portfolios back to our long-term desired weights.

Disciplined: While the impact of commodity prices over the shorter term may be influenced by China’s growth trajectory and the timing of a Fed rate hike, a tremendous amount of bad news appears to be priced into the asset class.  We feel comfortable with the margin of safety implied by the declines over that past year and we feel rebalancing is the prudent and disciplined response.

STRATEGIC Growth

A perfect Visa-ion: Another tough week for the Materials sector was not enough to out dual the Industrials sector for last place. While the Financials finished at the top thanks to…

  • Visa Inc. (V) reported a juicy quarter smashing analyst estimates on the bottom line. The company reported its processed transactions jumped by 8% in the quarter to 18 Billion. Also, the company reported it is in the process of acquiring Visa Europe, which is a separate company.

STRATEGIC Equity Income

A whopper from BK: Financials sector had a decent week despite a back-up in interest rates. Two financial holdings reported eye-catching earnings, but one was king…

  • Bank of New York Mellon Corp. (BK) topped analyst estimates. Interest revenue was 8% higher than previous quarter and net interest margin ticked up a bit. Also, solid progress in expense management was notable.

About Strategic

Founded in 1979, Strategic is a leading investment and wealth management firm managing and advising on client assets over $1 billion.

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