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3rd Quarter 2018 Market Update

30 October 2019

Geremy van Arkel, CFA® | Principal

Geremy van Arkel, CFA

Happy 10th Anniversary!

September 2018 has the sad honor to be the 10th anniversary of the collapse of Lehman Brothers, which marked the tipping point for what developed into financial crisis and later a full-blown disaster known as the Great Recession.  It is almost hard to imagine those dark days today, when the economy in which we live is thriving and where the capital markets have experienced a spectacular recovery.  But we ought to take a moment to remember the time when things were different and then rejoice because we have all been hard at work driving forward.

Jerome Powell, the Chairman of the Federal Reserve Board (Fed), remarked this month how perfect the economy is – maybe too perfect he noted.  It is worth remembering, though, that the current boom in asset prices and the corresponding steady economic gains did by no means occur in a vacuum.  Chairman Powell has no reason to be surprised by this economic miracle, since it was, in fact, highly engineered by the Fed itself.

One can’t reminisce over the past 10 years without noting the phenomenal impact of Federal Reserve Policy.  In the deepest, darkest hour of the financial crisis, the Fed enacted aggressive monetary policy actions with the specific goals of spurring borrowing and investment, lowering unemployment, and raising asset prices.  At a time of near economic ruin, many fingers were crossed in the hopes of this coordinated plan succeeding, even if that success only meant stopping the bleeding.  Few could have even dreamed about just how successful the Fed’s actions would end up being.

Quarter after quarter, we witness a steady, almost controlled-like rise in asset prices. Last quarter was no different. U.S. stock prices experienced another spectacular quarter, and the economy, which perpetually lags asset prices, has finally caught up. To put what’s happening in perspective: we have now entered the uncharted territory of the longest bull market in history without a 20% correction.  It seems that asset prices are finally high enough to support enough investment and spending to exceed the fabled economic target of three percent GDP growth and two percent inflation.

Nevertheless, the last quarter – and the year as a whole – has proven to be frustrating. The gains walked a very narrow path, and the low interest rate and high asset price miracle has yet to produce similar results abroad.  Everywhere else in the world stock prices continue to lag and most international stock markets are down this year. As inflation has emerged after the dormant decade, the strong U.S. economy has also put pressure on bond prices. There are still sectors within the U.S. markets, namely value-oriented and defensive stocks, which continue to struggle.  It seems that the only game in town are the U.S. growth and technology stocks, which leaves most other assets experiencing negative returns year-to-date.

The longer the steady rise in asset prices goes on, the stronger the desire to keep up will be. We can’t help it – it is a law of human nature.  Investors will no longer think about wealth as their family’s security, but as a tool to keep up.  The pull to go all in, to have every dollar working for you, seems like a generational edict.

Yet it must be stated that at this point, all of us are all in anyway.  A generation of retirees – the first ever to have amassed a high level of wealth and total control over it – is wholly dependent on these asset prices remaining high.  And it isn’t just the retirees that are affected. High real estate prices, which dominate most borrowers’ finances, mean that the younger generations, too, have their dog in the fight.  Stock, bond, and real estate investment is ubiquitous, and we are all exposed.

It seems like everyone is in on the deal.  The Fed has facilitated high asset prices through low interest rates and quantitative easing, as have the central bankers in Europe, Japan, and China. Low interest rates offer businesses the opportunity to borrow money, which they use to buy back their own stock, with the net effect of increasing stock prices as well as managements’ compensation.  The government, too, has seized the opportunity and borrowed heavily to finance corporate tax cuts, which in turn directly improve stock prices.

Low interest rates and high asset prices walk hand in hand – so much so, that asset prices are the economy.  It is therefore hard to see what kind of an impact normal random deflation in asset prices might have or would have on such an interdependent, symbiotic economy.

The Fed keeps steadily raising short-term interest rates.  Many have proclaimed that the Fed is perpetually late to the party, providing stimulus after the damage has been done and putting on the brakes far beyond the point of excess. We can only hope that it has more foresight than we give it credit for.  Judging by asset prices and the economy, their timing and steady gentle hand may just be engineering a perfect outcome.  In the very least, the higher short-term interest rates now offer investors a modest return on their safe assets.  That is, of course, if they choose not to be all in.

Good job, everyone. Happy 10th anniversary.

Additional Information
Past performance is no guarantee of future returns.  Performance discussed represents total returns that include income, realized and unrealized gains and losses. Nothing presented herein is or is intended to constitute investment advice or recommendations to buy or sell any types of securities and no investment decision should be made based solely on information provided herein. There is a risk of loss from an investment in securities, including the risk of loss of principal. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will be profitable or suitable for a particular investor’s financial situation or risk tolerance. Diversification and asset allocation do not ensure a profit or protect against a loss. Before investing, consider investment objectives, risks, fees and expenses.
In reviewing any performance information presented, we recommend that you consider both the returns generated and the level of risk that was assumed in generating those results. We believe that performance information cannot be properly assessed without understanding the amount of risk that was taken in delivering that performance. We present performance information for short time periods because we understand that clients and potential Investors are interested in this information, however, we recommend against making any investment decisions based on short-term performance information. Performance should be considered in light of the market and economic conditions that prevailed at the time those results were generated.
Information provided herein reflects Frontier’s views as of the date of this newsletter and can change at any time without notice. Frontier obtained some of the information provided herein from third party sources believed to be reliable but it is not guaranteed and Frontier does not warrant or guarantee the accuracy or completeness of such information.
Any forward-looking statements or forecasts are based on assumptions and actual results are expected to vary from any such statements or forecasts. No reliance should be placed on any such statements or forecasts when making any investment decision.
It is generally not possible to invest directly in an index*. Exposure to an asset class or trading strategy or other category represented by an index is only available through third party investable instruments (if any) based on that index.
S&P 500®
Represents US large company stocks. It is a market-value-weighted index of 500 stocks that are traded on the NYSE, AMEX, and NASDAQ
Measures international equity performance. It is comprised of the MSCI country indexes capturing large and mid-cap equities across developed markets in Europe, Australasia and the Far East, excluding the U.S. and Canada.
MSCI Emerging Markets
Measures large and mid-cap equities across 23 Emerging Markets (EM) countries which include Brazil, Chile, China, Colombia, Czech Republic, Egypt, Greece, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Peru, Philippines, Poland, Russia, Qatar, South Africa, Taiwan, Thailand, Turkey and United Arab Emirates.
HFRX Global*
Represents 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 index is weighted based on the distribution of assets in the global hedge fund industry. It is a trade-able index of actual hedge funds.
HFRX Absolute Return
The HFRX Absolute Return 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. As a component of the optimization process, the index selects constituents which characteristically exhibit lower volatilities and lower correlations to standard directional benchmarks of equity market and hedge fund industry performance.
MSCI World
A free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed markets. The MSCI World Index consists of the following 24 developed market country indices: Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Greece, Hong Kong, Ireland, Israel, Italy, Japan, Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland, the United Kingdom, and the United States.
MSCI All Country World (ACWI) ex-USA
The MSCI ACWI ex-USA is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of developed and emerging markets. The MSCI ACWI ex-USA consists of 44 country indices comprising 23 developed and 21 emerging market country indices. The developed market country indices included are: Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Greece, Hong Kong, Ireland, Israel, Italy, Japan, Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland, the United Kingdom excluding the United States. The emerging market country indices included are: Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Morocco, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand, and Turkey.
Bloomberg Commodity Index
This is a broadly diversified index that allows investors to track commodity futures through a single, simple measure. The DJ-UBSCISM is composed of futures contracts on physical commodities.
The Wilshire 5000 Total Market
The Wilshire 5000 Index is an unmanaged individually market capitalization weighted index that represents the total dollar value of all common stocks in the U.S. for which daily pricing information is available.  The index consists of over 7,000 U.S.-headquartered and traded issues, including common stocks, REITs, and limited partnerships, and excluding bulletin board issues. Please note an investor cannot invest directly in an index.
Barclays US Aggregate Bond
Measures the performance of the U.S. investment grade bonds market. The securities must have at least one year remaining to maturity, must be denominated in U.S. dollars and must be fixed rate, nonconvertible and taxable.
Barclays Capital Long U.S. Treasury
Includes all publicly issued, U.S. Treasury securities that have a remaining maturity of 10 or more years, are rated investment grade, and have $250 million or more of outstanding face value
Citigroup 3-Month T-Bill
Represents the monthly return equivalents of yield averages for the last three 90-day T-Bill issues
Benchmark Composition. The Benchmarks for the Long-Term Growth, Growth & Income, Balanced, Conservative and Capital Preservation strategies are combinations of the Wilshire 5000 Total Market Index, MSCI All Country World ex US Index, Bloomberg Commodity Index, HFRX Global HF Index, Barclays US Aggregate Bond Index and 3-Month T-Bills.
The blends of the indices are currently:
Capital Preservation Bench
Conservative Bench
Balanced Bench
Growth & Income Bench
Long-Term Growth Bench
Wilshire 5000
MSCI AC World ex US
Bloomberg Commodity
HFRX Global HF
Barclays US Agg
3M T-Bills
Benchmarks for the Global Opportunities, Focused Opportunities, Absolute Return Plus, Absolute Return and Short-Term Reserve strategies are the MSCI World, S&P500®, HFRX Global HF, HFRX Absolute Return and Barclays Capital 1-5 Year US Treasury Indices, respectively. In the case of indices that include foreign securities, index returns are still presented on a total return basis but will be net of foreign taxes on income generated by these securities.
Frontier’s ADV Brochure is available at no charge by request at or 307.673.5675.

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