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Third Quarter 2021 | Issue No. 35An Economic & Market Commentary from Trust Point
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Third Quarter 2021Market Point
An Economic and Market
Update from Trust Point
Economic growth decelerated during the third quarter, but from very
high levels. Even though COVID-19 vaccinations became more available
(helping further ease restrictions on mobility), uncertainty related to
monetary and fiscal support combined with ongoing labor and supply
shortages led equities to slightly underperform bonds during the past
three months.
As Delta variant cases of
COVID-19 surged in Q3, service
industries such as leisure and hos-
pitality dealt with renewed unwill-
ingness from customers to engage
in close-proximity activities. At
the same time, the manufacturing
sector battled with ongoing labor
and supply shortages, preventing
companies from meeting customer
demand. As a result, output growth
lagged and economic activity fell
short of earlier expectations while
inflation rose at the same time.
On the positive side, the Delta
variant led to greater cooperation
among nations, which accelerat-
ed the pace of vaccinations, an
important development which we
believe will ultimately allow global
economic growth to fully resume.
As bottlenecks go away, backlogs
are cleared, depleted inventories
are rebuilt and consumption
(especially on services) picks up,
economic activity will increase and
extend into 2022 and beyond in a
more gradual way than previously
expected. In our view, this remains
positive for risk assets as it should
help keep central banks relatively
cautious. Importantly, the condi-
tions for weak growth or worse, a
recession, do not currently exist.
Weaker Growth & Higher Inflation in Q3
Dollar Index Level Sept 94.2 92.4 93.9
As of Actual 3 Mos. Ago 1 Year Ago
ISM Manufacturing (>50 = Expansion) Sept 61.1 60.6 55.7
ISM Non-Manufacturing (>50 = Expansion) Sept 61.9 60.1 57.2
Non-Farm Payrolls Sept 194k 962k 716k
Unemployment Rate Sept 4.8% 5.9% 7.8%
CPI Ex-Food & Energy (yoy) Aug 4.0% 3.8% 1.7%
JP Morgan Global Manufacturing Index (>50 = Expansion) Sept 54.1 55.5 52.4
JP Morgan Global Services Index (>50 = Expansion) Sept 53.4 57.4 52.0
US Economic Activity
KEY ECONOMIC DATA
Global Economic Activity
Source: Bloomberg
1910
Corporate Tax Rate
Taft
Wilson Harding
CoolidgeFDR
Truman
Eisenhower
Kennedy
Johnson Nixon
Carter
FordReagan
Clinton
GHW BushGW Bush Pbama
Trump
Biden
Hoover
Proposed Increase
0
10
30
30
40
50
60%
1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020
26.5%?
Source: Captial Group Strategas
Chart 1: Top Marginal U.S. Corporate Tax Rate Over Time
Growth and inflation were not the
only factors affecting markets last
quarter. In Washington, a last-minute
funding bill to prevent a government
shutdown led to some volatility in
markets at quarter-end. Compound-
ing the issue, the ongoing divide be-
tween moderates and progressives
over the $1.2 trillion infrastructure
bill and the $3.5 trillion reconcilia-
tion bill -- designed to expand social
programs with most of the new tax
burden falling on corporations (Chart
1) -- also created some anxiety over
the timing and size of any future fis-
cal stimulus. Finally, at the time of
this writing, Washington was also
still trying to come up with a solution
regarding the debt ceiling, a limit on
how much money the government
can borrow to pay its bills. Since July
21, 2021, the government has used
“extraordinary measures” to keep the
government running, a temporary
solution that many analysts believe
could run its course by the end of
October. History would suggest a
default is unlikely, as failure to raise
or suspend the debt ceiling would
pose a substantial and unacceptable
risk to the U.S. economy. In the end,
Democrats will probably need to ei-
ther tag the debt ceiling onto their
reconciliation bill for the $3.5 trillion
spending plan, package it into a sep-
arate stand-alone reconciliation bill,
or convince enough Republicans to
help craft a solution.
Fourth Quarter 2020
The rally in risk assets over the last
18 months has been abnormally
rapid and large by historical stan-
dards. As a result, equity valuations
and measures of speculative activity
would suggest we are late in the cy-
cle. However, the global economy is
only slowly returning to the 2019 level
of economic growth, which in itself
would characterize more a mid-cycle
scenario (Chart 2). At the same time,
unprecedented and sustained mone-
tary and fiscal support would suggest
we are still early in the cycle. This di-
vergence in the economic policy and
asset markets cycle (Chart 3) is un-
common and largely a function of the
growing importance and role of gov-
ernments and central banks in the
economy and markets. These macro
factors have important implications
for the investment outlook and port-
folio positioning of our clients’ assets.
For now, we recommend maintaining
a pro-growth bias in portfolios, favor-
ing stocks over bonds, value and cy-
clical stocks over defensive or growth
stocks, small caps over large caps
and international stocks over do-
mestic ones. Within fixed income, we
remain cautious about rising inter-
est rates while maintaining inflation
hedges in portfolios.
Is Everything Out of Sync?
Washington in the News Again
Market Point Third Quarter 2021
Chart 2: Global Economy Slowly Returning to the Level of
Economic Growth of 2019
Source: Organization for Economic Cooperation and Development
U.K.
Cumulative GDP change 4Q 2019 to 2Q 2021 OECD total
Italy France Germany Euroarea
EuropeanUnion
Japan Canada G-7 U.S.
1%
0
-1
-2
-3
-4
-5
Chart 3: Early, Mid or Late Cycle?
Source: MRB Partners
Trough
TroughPolicy Support(Early Cycle)
Growth & Inflation(mid Cycle)
Equities &Risk Assets(Late Cycle)
Peak
Expa
nsio
n
Recessio
n
Over the last year we have written
about how we have positioned the
equity portion of portfolios for an eco-
nomic recovery, for a time post-pan-
demic when economic growth is
sufficiently strong to support funda-
mentals such as earnings growth.
This conviction has not changed.
We believe equity markets can still
appreciate from increased vacci-
nations leading to higher economic
confidence as we move ever closer
to a more normal world. But, in Q3
a global rise in Delta variant cases
pushed investors to the relative safe-
ty of U.S. stocks and its outsized allo-
cation to growth stocks, and technol-
ogy stocks in particular (Chart 4). We
have seen this before as investors
flocked to growth stocks during the
initial pandemic wave in early 2020,
only to rotate to value and cyclical
stocks toward the end of 2020 and
early 2021, as positive news about
vaccines’ efficacy surfaced and
global economies slowly reopened.
The latest wave of Delta cases ap-
pears to have peaked, which should
be a catalyst for expensive, interest
rate-sensitive growth stocks to con-
cede to attractive value and cyclical
stocks once again.
Delta Variant Encourages Flight to Safety, Boosting Growth Stocks Once Again
An Equity Market
Update from Trust Point
Market Point
Despite the proliferation of the more contagious COVID-19 Delta variant,
global stocks declined by only 1.05% in the third quarter. In the face of
pandemic headwinds, monetary and fiscal uncertainty, and risks from
China increasing throughout the quarter, corporate earnings trends
remained relatively strong, helping the S&P 500 index rise 0.6% for the
quarter while the MSCI ACWI ex-U.S. index fell 3.0%.
S&P 500 4,308 4,298 3,363 2,914 2,168Dow Jones Industrial Average 33,844 34,503 27,782 26,458 18,308NASDAQ 14,449 14,504 11,168 8,046 5,312
US Large Cap Growth 1.2% 14.3% 27.3% 22.0% 22.8%US Large Cap Value -0.8% 16.1% 35.0% 10.1% 10.9%US Mid Cap Growth -0.8% 9.6% 30.5% 19.1% 19.3%US Mid Cap Value -1.0% 18.2% 42.4% 10.3% 10.6%US Small Cap Growth -5.7% 2.8% 33.3% 11.7% 15.3%US Small Cap Value -3.0% 22.9% 63.9% 8.6% 11.0%
International Large Cap Developed (US Dollar) -0.4% 8.3% 25.7% 7.6% 8.8%International Small/Mid Cap Developed (US Dollar) 0.9% 10.0% 29.0% 9.0% 10.4%
Emerging Market (US Dollar) -8.1% -1.2% 18.2% 8.6% 9.2%
Quarter-End 3 Mos. Ago 1 Year Ago 3 Years Ago 5 Years Ago
3 Month YTD 1 Year (Ann) (Ann)
3 Year 5 Year
US Economic Activity
EQUITY BENCHMARK TABLE
Equity Returns (%)
Source: Bloomberg, Morningstar
Third Quarter 2021
Source: Bloomberg
Chart 4: Growth Stocks Outperform Value in Q3
Jul 15 Jul 30 Aug 16
2021
Aug 31 Sep 15 Sep 30
1.4
1.41
1.42
1.43
1.44
1.45
1.46
1.47Russell 3000 Growth Index / Russel 1000 Value Index 1.427
1.427
Market Risks (Always) Present
Market Point
Chinese stocks have been under
considerable pressure in 2021, de-
clining 16.7% (USD) through end
of Q3 after leading the way in 2020.
The threat of increasing government
regulations on corporations (Chart
5) and default concerns from high-
ly-leveraged companies has taken a
toll on stock prices. China is current-
ly promoting a greater emphasis on
social equality, informally coined as
“common prosperity.” To accomplish
its goals, the Chinese government
is increasing regulations on com-
panies in sectors associated with
social inequality, including technol-
ogy and for-profit education among
several others. Spooked markets
have resulted as regulations could
be wide-ranging and not insignificant
for corporate profits going forward.
Additionally, large Chinese property
developer, Evergrande, postponed
a scheduled repayment to foreign
bondholders in September as part
of its struggle with $300 billion of
current liabilities, including $90 bil-
lion owed to creditors. News reports
suggest the Chinese government
has already stepped in to facilitate
a debt-restructuring but questions
linger around possible contagion to
other companies, the global econ-
omy, and asset prices. In portfolios,
we remain cautious on China relative
to the broad market.
China Dominates Market Headlines
A recent survey of investors (Chart
6) listed inflation, a Fed-induced
“taper tantrum,” COVID-19 variants,
asset bubbles, etc., as current con-
cerns. Let’s tackle a couple here.
First, the inflation risk stems from the
reopening of the global economy as
demand has increased faster than
supply, a situation that has been
magnified by considerable labor and
supply-chain constraints. As we’ll dis-
cuss in greater detail later, we have
viewed higher inflation as being a
little more stubborn than what his-
torical economic transitions and the
Fed would suggest. In anticipation
of more persistent inflation we have
proactively positioned equity portfoli-
os with a higher allocation to inflation
hedges. Second, the infamous “taper
tantrum” originates from the Fed’s
2013 announcement that it would
suddenly be reducing massive mon-
etary support. Back then, the bond
market reacted violently with U.S.
Treasury yields spiking higher. How-
ever, while equity markets fluctuated
in the months that followed, stocks
ultimately finished higher over the
following 12 months. In 2021, unlike
in 2013, the Fed has very deliberate-
ly conveyed and projected the timing
and pace of similar actions, which
gives us confidence in a relatively
smooth monetary policy transition
for equity markets.
Third Quarter 2021
Chart 5: China Regulatory Actions Increasing
Source: The Daily Shot, Cornerstone Macro
0Nov 20 Dec 20 Jan 21 Feb 21 Mar 21 Apr 21 May 21 Jun 21 Jul 21 Aug 21 Sept 21
5
10
15
20
25
30
Chart 6: Current Stock Investor Concerns
Source: Bank of America
Inflation
What do you consider the biggest “tailrisk”?
A “taper tantrum”
Asset bubbles
China Policy
Other
Aug-21
0 5 10 15 20 25 30 35
Jul-21
US debt ceiling
COVID-19 delta variant
Number of regulatory actions
Inflation has continued to be a topic
of concern for many investors. Wag-
es have accelerated, especially in
industries such as manufacturing,
leisure and hospitality. Supply chain
bottlenecks have caused shortages
in goods at the same time that de-
mand is powering back. Higher wag-
es, supply shortages, and increased
demand are forcing companies to
raise prices rapidly. Inflation’s impact
on the bond market is typically man-
ifested through higher interest rates
and lower bond prices as inflation
erodes the purchasing power of fixed
coupons over time. Bond investors
ultimately demand higher rates in
an inflationary environment. Some
policy-makers at the Fed are starting
to acknowledge that inflation risk is
building. However, the overall mes-
sage is that inflation will gradually
come down to the Fed’s target over
the coming months. We agree that
inflation may come down from elevat-
ed levels we saw this past summer
(Chart 7) but we believe it will remain
well above the Fed’s target for some
time. Inflation is just starting to move
into larger components of the Con-
sumer Price Index bucket, such as
services and housing, and both are
areas in which higher prices tend to
be more persistent (Chart 8).
Inflation Running Hot
A Fixed Income Market
Update from Trust Point
Market Point
In Q3 global bonds faced competing forces, which led to an increase
in volatility. Early in the quarter, the Delta variant slowed the pace of
economic recovery, which put downward pressure on yields. Sentiment
then turned, as above-trend inflation data and the Federal Reserve
hinting at tapering asset purchases put upward pressure on bond yields
later in the quarter. The net effect was relatively flat returns from global
bonds for the period.
3 Month T-Bill 0.0% 0.0% 0.9% 2.2% 0.3%2 Yr US Treasury 0.3% 0.3% 0.1% 2.8% 0.8%10 Yr US Treasury 1.5% 1.5% 0.7% 3.1% 1.6%
US Intermediate Treasuries -0.1% -2.8% -3.5% 5.6% 2.4%US Treasury Inflation Protected Sec. 1.8% 3.5% 5.2% 7.4% 4.3%US Mortgages 0.1% -0.7% -0.4% 3.9% 2.2%US Short-Intermediate T/E Munis -0.1% 0.3% 1.1% 3.8% 2.3% US Investment Grade Corporates 0.0% -1.3% 1.7% 7.4% 4.6%US Senior Bank Loans 1.1% 4.4% 8.4% 4.1% 4.6% US High Yield 0.9% 4.7% 11.5% 6.6% 6.4%
Int’l Bonds Ex-US (Hedged) 0.0% -2.3% -1.4% 4.1% 2.6%Int’l Bonds (Unhedged) -0.9% -4.1% -0.9% 4.2% 2.0%
Emerging Market Debt (US Dollar) -0.5% -4.5% 3.9% 5.6% 3.6%
Quarter-End 3 Mos. Ago 1 Year Ago 3 Years Ago 5 Years Ago
3 Month YTD 1 Year (Ann) (Ann)
3 Year 5 Year
US Yields (%)
FIXED INCOME BENCHMARK TABLE
Global Economic Activity
Source: Bloomberg, Morningstar
Third Quarter 2021
Source: Bloomberg
Chart 7: Inflation Has Exceeded All Expectations This Year
4.0
4.5
3.5
3.0
2.5
2.0
1.5
1.0
0.5
‘01 ‘02 ‘03 ‘04 ‘05 ‘06 ‘07 ‘08 ‘09 ‘10 ‘11 ‘12 ‘13 ‘14 ‘15 ‘16 ‘17 ‘18 ‘19 ‘20 ‘21
3.6
US Core CPI 4.0% US Core PCE 3.6%
Market Point
According to Federal Reserve Chair
Jerome Powell, the “substantial fur-
ther progress” test in the jobs market
has been “all but met.” With inflation
already above the Fed’s target, pass-
ing the employment test has paved
the way for the Fed to begin reducing
monthly asset purchases in No-
vember or possibly December. This
“tapering” would be the first time the
Fed has reduced accommodation
since prior to the pandemic in early
2020 and has brought back mem-
ories of the 2013 “taper tantrum.” It
is known as the “taper tantrum” be-
cause bond yields spiked higher and
equity prices fluctuated when the Fed
surprised markets with tighter policy
in 2013. Today, the Fed has absorbed
most of the new U.S. public debt that
has been issued to help finance
emergency fiscal stimulus (Chart 9),
which has led to a massive increase
in its balance sheet. Given the scale
of today’s bond buying program
($120 billion/month), tapering could
again be a risk for investors if the
private sector is unable to absorb the
resulting excess supply of Treasuries.
What is different from 2013 is that
the tapering risk has been well-tele-
graphed and kept separate from the
decision to hike interest rates. The
Fed has convinced the market of no
rate hikes until 2023 and has offset
the tapering conversation with com-
munication that the policy will contin-
ue to remain very accommodative.
However, as we have seen late in the
third quarter, the risk remains to the
upside for yields over the longer term
and we are positioning with caution
to interest-rate risk as the Fed scales
back its asset purchases.
“Taper Tantrum” 2.0?
The global reduction in liquidity may
put upward pressure on bond yields
for some time and will continue to be
of interest for bond investors moving
forward. With the recent move higher
in interest rates, we have benefited
from allocations to short-term bonds,
which are less sensitive to interest
rates. We continue to have exposure
to inflation hedges in fixed income
portfolios to benefit from broadening
inflation pressure. The reduction in
Delta variant cases should allow the
global economy and corporate health
to continue to improve, favoring
credit over high-quality interest-rate
sensitive bonds. In fact, our exposure
to fixed-income sectors tied to im-
proving corporate health and an im-
proving economy have continued to
provide good diversification benefits
while enhancing portfolio yield. On
the other end, we largely continue to
avoid bonds from developed nations
carrying negative yields.
It’s Trending Globally
Third Quarter 2021
Chart 8: Inflation is Moving Into Larger Components of CPI, Such
as Housing
Source: Macrobond, ING
96
5
CPI - Owners’ equivalent rent (lhs) CPI - Primary Rents (lhs)
Case-Schiller house prices advanced 14 months (rhs)
25
20
15
10
5
0
-5
-10
-15
-20
-25
4
3
2
1
0
-1
02 08 1497 03 09 1598 04 10 1699 05 11 17 2000 06 12 18 2101 07 13 19 22
Chart 9: Tapering Could Weigh On Bond Returns
Source: Department of Treasury; Numera calculations
12
8
4
003 06 09 12 15 18 21
US public debt by ownership (TR USD)
Fed & Gov.
Foreigners
Other Private
Mutual Funds
Banks
Market Point
Key Investment Themes
Macroeconomics
Asset Allocation
Fixed Income
Equities
• Structurally, Debt, Demographics, and Deglobalization may influence global growth and inflation for years
• Cyclically, growth will improve materially in ‘21/22 (policy support, vaccine availability and pent-up demand)
• Structurally, greater policy support and healthier consumers & banks (vs the 2010 decade) will lead to better growth
• Biggest wild cards: 1) COVID variants & 2) Inflation & growth impact of labor supply shortages
• Tactically, the risk/reward outlook favors stocks vs bonds
• Low bond yields & pricier equity valuations call for modest returns from financial assets over the next 3-5 yrs
• Global macro factors have important implications for various sub-asset classes / sectors
• Important to maintain a diversified approach and not let emotions dictate investment decisions
• Government bond yields are historically low. They do not offer attractive value for long-term investors
• Expect steeper yield curve as CBs commit to keep ST rates low but growth/inflation drive LT rates higher
• Downward pressure on the U.S. dollar favors some unhedged international fixed income exposure
• Strong growth and continued policy support will allow defaults and spreads to stay low/tight. Favor credit
• Equities continue to benefit from ongoing policy responses and greater mobility as vaccinations efforts ramp up
• Volatility has subsided as investors get more clarity on the outlook going forward
• 1H21 earnings were very strong and have led to ongoing upward revisions of earnings estimates for 2H21 and 2022
• Small-cap, value and Int’l stocks offer good value in a cyclical recovery
Third Quarter 2021
Market Point
Tactical Asset Allocation
Fixed Income
- Underweight + Overweight
EquityAsset
Allocation
Growth
Large Cap
Technology
Value
Small Cap
Financials
Equity
Interest-Rate Risk
Government Debt
Developed Sovereign
Corporate Credit
Inflation Protection
Developing Markets
Fixed
Income
In the third quarter we maintained our overweight position to equities relative to fixed income. Within equities, we have maintained our
bias to small cap and value stocks which we expect to benefit from the market rotation away from growth and large cap technology re-
lated stocks. We also continue to favor Int’l equities. The equity portion of portfolios has maintained a bias toward cyclical sectors of the
economy which have benefited from broadening economic growth due to the combination of widespread vaccinations, easy monetary
policy and fiscal stimulus. We continue to favor corporate credit within fixed income as credit is directly benefiting from easy monetary
policy and low interest-rates. We also maintained our inflation hedges and positioning for further yield curve steepening. We continue
to position portfolios to ensure that we can provide the best risk-adjusted returns without taking unnecessary risks.
Profile Summary
Tactical Asset Allocation
Individual client portfolio positioning, performance and transactions therein can vary greatly based on factors including investment strategy, objective, limitations, risk tolerance, time horizon, asset allocation and tax implications.
Third Quarter 2021
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Market Point is a quarterly market commentary designed to provide you with an overview of economic conditions, as well as equity and
fixed income market summaries for the quarter.
This commentary is offered by the Investment Management team. The individuals contributing to Market Point are pictured from left to
right: Randy Van Rooyen, CFA®, Yan Arsenault, CFA®, CAIA®, Ryan Bergan, MBA, Steve Brudos, Brandon Hellenbrand, CFA®, Brett
Sebion, Christine Doll and Nolan Gaffney. Please feel free to contact any team member with questions.
The opinions herein are those of Trust Point Inc, are made as of the date of this material, and are subject to change without notice. Trust Point uses its best efforts to compile its data from reliable sourc-
es, however, it does not warrant the accuracy, completeness or timeliness of any of the information provided. This publication is prepared for general information only. This material does not constitute
investment advice and is not intended as an endorsement of any specific investment. Investors should seek advice regarding the appropriateness of investing in any securities or investment strategies
discussed or recommended in this report and should understand that statements regarding future prospects may not be realized. All investing involves the risk of loss, including principal, a reduction in
earnings, and the loss of future earnings. Past performance is no guarantee of future results. Individual client portfolio positioning, performance and transactions therein can vary greatly based on factors
including investment strategy, objective, limitations, risk tolerance, time horizon, asset composition, asset allocation and tax implications.
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