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Quarterly Commentary – June 2016

The second quarter of 2016 continued to be volatile. The following are performance numbers from various popular indexes for the quarter. Index numbers are not individually comparable to a properly diversified portfolio. Each portfolio may include an allocation to securities similar to these indexes in varying amounts based on your personal risk tolerance and should only be compared in that context. The S&P 500 reflected a gain of 3.8% for the first six months of 2016. The Dow Jones Industrial Average was up 4.3%. Small company stocks represented by the Russell 2000 Index ended up 2.2% for the year. The Nasdaq Composite Index was down 3.3%. International equities as represented by the MSCI World Ex U.S. Index were down 3.0%. Fixed Income as represented by the Barclays Aggregate Bond Index closed up 5.3% for the year.

Economic data in the U.S. has been weak, however it has shown signs of improvement relative to earlier this year. First quarter GDP was revised higher to 1.1% which is still considered below par. Because of this subpar growth, a very bad jobs report in May, negative interest rates around the globe along with certain other global concerns, the Fed continues to take a cautious stance relative to its tightening policy and delayed raising rates again in mid-June. Although delaying a rate hike is positive for stocks, the continued speculation with regard to when the next increase will happen may continue to contribute to the market volatility. Corporate results have decelerated over the past few quarters. However, with share buybacks on the upswing along with aggressive downward guidance from company managements, revenues and earnings, although poor, still managed to exceed reduced expectations. With energy prices roughly doubling from February to June, we may see an improvement in quarterly earnings for the second quarter.

The big event this past quarter was the U.K. voting to leave the European Union. This unexpected news rattled equity markets around the globe. Central banks have made it clear that they stand ready to provide liquidity and intervene in currency markets. There is a lot of analysis out there discussing the impact of this potential exit, however a lot of uncertainty exists in order to draw any real conclusions and there is much disagreement on possible outcomes. Our assessment is that the impact on the U.S. economy should be very low since the U.K. makes up a small fraction of the 15% of U.S. GDP that comes from U.S. exports. The Brexit may have some negative impact on corporate profits through a stronger U.S. dollar in the short term, but it should not be major. The largest potential impact might be how this vote will affect other countries considering leaving the EU and the fear of further fragmentation in Europe. Most importantly, how this complex and unprecedented event unfolds as things get negotiated will probably add to the volatility. For the time being, markets are performing their function well and we are not dealing with any systemic issues. The flip side of this outcome is that there are potentially positive long term ramifications for the U.K. as they take charge of their own destiny and unburden themselves from the direct and indirect costs brought by the added layer of E.U. bureaucracy and regulation. As it stands, there is disagreement as to whether this event will even end up happening. Markets dislike uncertainty, however it does create a rewarding environment for the patient investor. Markets do not like change in the short term, but in the long term, it is the change, innovation and growth that fuels it to much higher levels. This seems paradoxical but it simply represents a shift of perspective on how one chooses to view the equity markets, either with a short term orientation along with all the noise or what it should be, which is a long term investment and participation in the future.

On the positive side of the ledger, consumer confidence for June came in significantly better than expectations and was the best report since September. Consumer spending did rebound after a bad first quarter and was much better than expected in April and May. The expectation for GDP growth for the second quarter is higher at above 2%. An interesting note is that the U.S. is on the verge of a very positive demographic trend for the economy as the largest share of the population will soon be young, highly educated, and ready to consume as they start to get married, buy homes and have children.

We hope that you have an enjoyable summer. We are thankful for the opportunity to serve you.