Investment Commentary - October 9, 2015

The past quarter brought volatility to markets not seen since October, 2011. During the quarter we saw the S&P 500 index fall over 11% in just seven trading sessions. Shortly thereafter, the index recovered approximately half its losses and then immediately retested the August 25 low. Even with a 1.9% gain on the final trading day, the S&P was down 6.9% for the quarter, making it the worst since the quarter ending September, 2011. The Dow Industrials and the NASDAQ Composite were down 7.6% and 7.4% respectively.

While the quarter was difficult as a whole, many companies and sectors fared far worse than the indices. The energy sector continued its sharp drop and is now down approximately 40% from its high. With the dollar remaining strong and supply outstripping demand, many companies involved in the production of energy as well as other commodities have declined much further. International stocks (down approximately 9.7%) and Emerging Market stocks (down approximately 17%) were not spared either. Gold was also down but by only about 5.5% and, as is often the case during volatile periods, long-term treasury bonds were up for the quarter (approximately 4.7%)

As mentioned in our most recent commentary, it had been almost 4 years since the equity markets in the United States had experienced a correction of 10% or more. Given that length of time, and the fact that declines generally occur every 1 to 2 years, the volatility we've seen recently is not surprising. We also do not discount the possibility that more weakness may be in store. While the economy seems to be holding its own, markets and economies do not necessarily move in tandem.

It's important to note that while recent investment performance has been poor, we don’t see the type of issues that would create a scenario similar to the ones we experienced in 2008 or 2000. The table below is an attempt to provide some perspective by comparing several factors that generally influence investment returns. Certainly, no one can be sure what happens next, and it’s often something that is least expected that impacts us most. However, we hope this will provide a frame of reference.

	8/1999	10/2007	Today
S&P 500 Index:	1,327	1,540	1,913
S&P 500 PE Ratio (TTM):	30.89	20.68	19.20
10 year U.S. Treasury Yield:	5.94%	4.53%	2.03%
U.S. Inflation Rate:	2.26%	3.54%	0.2% (8/1/2015)
Price of Oil per Barrel:	$29.58	$98.44*	$45.05

*Went to $144.78 in ‘08

It is also important to note that six of the nine bear markets occurring since 1950, have coincided with a recession. So, if we don't readily see the traditional symptoms of a recession, or that we are fundamentally on the edge of an abyss, what do we see and how are we positioning? First, as has been previously noted, we have been conservative for some time. This was due to several factors. Company valuations have generally been above their long-term averages even though overall revenue growth has slowed, and margins at all-time highs leave little room for improvement. Combine these points with concern over a potentially negative reaction to looming interest rate increases. Finally, we were just way overdue for a correction. All of this led us to feel the prudent action was to slow down investment and/or increase cash.

The decline we experienced over the past quarter has improved valuation some, but not significantly. However, it did meaningfully impact investor psychology, but we didn’t get as much of the indiscriminate panic selling that is often consistent with bottoms in the market. It is possible we’ve seen the worst of the immediate decline, but we feel the weight of the evidence continues to warrant caution.

Bonds, which are the most obvious alternative to stocks, continue to have historically low yields. At the time of this writing, the yield on a 10 year US treasury bond is only 2.03% and a 30 year treasury yields only 2.84%. While we don't know when rising yields may come, the risk of principle being devalued is significant. To illustrate, a 1% increase in rates would result in the 10 year bond's value dropping by approximately 9% and the 30 year roughly by 20%. This presents real challenges in achieving attractive total return from balanced portfolios. Corporate bonds haven't offered much additional yield. Recently, however, lower graded paper has sold off and spreads are widening. For now, we are generally keeping shorter-term, high-quality bonds rather than chase yield.

As we implement, monitor and adjust investment strategy, we are keeping in mind that our overriding objective is for our clients to reach their goals with no more risk than is necessary. Our primary means of reducing portfolio volatility is diversification combined with a component of forward looking adjustments. The adjustments are typically driven by our views of valuation, monetary policy and investor psychology.

One downside of an effectively diversified portfolio is the distinct possibility of trailing a singular index when it is moving up faster than the entire market. This was the case for many of our clients in 2014 and early 2015, when the U.S. stock market decoupled from the rest of the world. Conversely, when individual markets correct, diversified portfolios often experience less decline than more concentrated portfolios.

Currently, we think there may be some great bargains out there and are pursuing them cautiously. One example would be that we believe there will be opportunity in international and emerging markets as the current currency issues fade. Also, unless everything has fundamentally changed, energy and commodity investments may already be at appealing valuations. We expect to reflect these and other conclusions in our investment strategies going forward.

Someone once said that we make our money in bear markets, but we just don't know it at the time. Of course, we would always prefer to pay lower prices for our investments but no one wants the uncertainty that often creates those lower prices. The volatility that we’ve seen the past few weeks may not be over for a while as governments and central banks around the world wind and unwind measures designed to spur growth without inflation. Our economy is “OK” overall but could certainly be better. If and how it will improve is the question. On one hand, lower energy costs puts extra money in everyone’s pockets but corporate profit margins are already at all-time highs. America is trying to regain some its manufacturing strength but export growth will be difficult with the dollar’s strength. The unemployment rate is low but the number of people who are not participating is still high. These and other issues (Putin, Middle East, China) require creative ideas and collective courage from Washington and other democracies. Hopefully, we will see some emerge. While we’re waiting, our plan is to monitor and weigh all the information and evidence as best as possible. We expect to continue to "phase-in" investments that we feel fit each Strategy’s particular mandate and have attractive long-term potential. Staying true to time tested tenets and focusing on the long term rather than the distortions of the moment has been effective in the past and we believe it will continue to be.

As always, thank you for allowing us to work with you.

The CCA Investment Team

Investing involves risk including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values. Past performance is no guarantee of future results. Please note that individual situations can vary. Therefore, the information presented here should only be relied upon when coordinated with individual professional advice.