Overall Market Equities US Markets The third quarter of 2024 was marked by significant volatility, particularly in early August, when a weak jobs report sparked fears of an economic slowdown. The S&P 500 experienced its largest one-day drop since 2022, and concerns about the Federal Reserve’s potential failure to achieve a soft landing led to a market rotation that dominated Q3. Despite these challenges, the S&P 500 managed to gain 5.8% during the quarter, with a boost from the Federal Reserve’s “jumbo” 50bps rate cut in September, which reflected a slowing labor market and increased confidence in inflation control. The small-cap Russell 2000 also outperformed, driven by expectations of continued rate cuts. Sector Rotation Throughout Q3, investors moved away from the high-performing tech sector, driven by profit-taking and a cooling of the AI boom. As a result, the Nasdaq Composite gained just 2.7% for the quarter, while the tech-heavy “Magnificent 7” stocks underperformed the broader market for the first time since late 2022. As tech stumbled, value stocks began to outperform growth stocks, with sectors such as utilities, real estate, financials, and industrials attracting greater investor interest. Interest rate-sensitive sectors like utilities and real estate were among the leaders, benefiting from the Federal Reserve’s rate cuts, as investors favored more stable, economically linked sectors amid shifting market dynamics. International Emerging market (EM) equities, represented by the MSCI EM Index, gained 7.9% during the quarter, outperforming developed markets (MSCI World Index, +6.5%). In July, a momentum shift led to underperformance in earlier winners due to China’s economic strain, declining commodity prices, and a downturn in overvalued tech stocks. Volatility increased in August, spurred by a US recession scare and unwinding of the yen carry trade. In September, emerging markets saw strong gains due to stimulus measures from Beijing and a larger-than-expected US rate cut. China, Hong Kong, and India all performed well, with Chinese markets particularly benefiting from government actions. Latin America, led by Brazil, also posted robust results. International markets overall outpaced the S&P 500, with rallies driven by expectations of further rate cuts. The EuroStoxx 600 gained 2.2%, reflecting improved sentiment across Europe as the European Central Bank cut rates for the second time in the year. Fixed Income U.S. Bonds In the U.S., the leading benchmark for bonds, the Bloomberg Barclays US Aggregate Bond Index, delivered a very strong quarterly return, driven by falling inflation, mixed economic data, and investors’ anticipation of an aggressive rate-cutting cycle by the Federal Reserve. The Bloomberg US Treasury Index returned 4.7% during the quarter, as the Federal Reserve, in its September meeting, cut interest rates for the first time in four years. The larger-than-expected 50bps reduction reflected a slowing labor market and increased confidence in inflation dynamics, leading to a sharp fall in Treasury yields. Bond Duration and Credit Quality Longer-duration bonds significantly outperformed shorter-duration ones during the quarter, as investors reached for higher long-term yields amidst falling inflation, underwhelming labor market data, and the expected unwinding of the inverted yield curve—which has seen short-term rates exceeding long-term rates for over two years. Nonetheless, shorter-duration bonds also posted positive returns in Q3, contributing to a strong overall rally across the bond market. In the corporate bond market, investment-grade bonds slightly outperformed lower-quality “junk” bonds, although both experienced solid quarterly gains. Investors preferred the safety of investment-grade bonds amid growing economic uncertainty, favoring them over higher-yielding, higher-risk securities for the first time in 2024. International Bonds In Europe, the European Central Bank (ECB) made its second 25bps rate cut of the year in September, encouraged by improved inflation dynamics and weak economic growth. Inflation in the Euro Area cooled to 2.2% during the quarter, the lowest level since mid-2021, contributing to the Bloomberg EuroAgg Index’s 3.7% return. In the UK, inflation printed at 2.2% year-on-year in both July and August, after reaching the Bank of England’s (BoE) 2% target in June. The BoE cut rates by 25bps in August and maintained them in September. Despite the restrictive monetary policy—with inflation at 2.2% and interest rates at 5%—the fall in Gilt yields was less pronounced compared to other markets. In Japan, the Bank of Japan (BoJ) raised its policy rate by 15bps to 25bps at the end of July. Despite this hawkish move, the BoJ slowed the reduction of its government bond purchasing program and indicated that it would avoid rate hikes during periods of market instability, leading to a decline in the 10-year yield over the quarter. The Bloomberg Global-Aggregate Total Return Index posted a return of 7.0% for the quarter, reflecting the broader positive performance of global bonds. The Portfolios in Q3 2024 Global Equity: Heading into Q3, global equity lagged the major indexes due to a lack of significant exposure to the “Magnificent 7” stocks, which had driven the markets to multiple all-time highs. With a more conservative approach that leaned towards value, as well as mid and small caps (largely through equal-weight S&P 500 index ETFs), August’s sudden sell-off in big tech had a much smaller impact on the portfolio. Diversification across dividend-paying stocks, REITs, gold, government bonds, and international ETFs helped the Global Equity portfolio hold up well during the most volatile periods of the quarter. Later in September, with hopes of an eventual 50 bps Federal Reserve rate cut, small caps surged. While we had patiently awaited this rotation away from high-priced tech and mega caps—and were rewarded during the quarter—we continue to lag on a year-to-date basis. For perspective, U.S. Small Cap Value ended Q3 up 10.15% but is only up 9.21% year-to-date (YTD). REITs ended the quarter strong, with a 17% return, but are only up 14.3% YTD. This means that this asset class and sector, which we held for most of the year, were negative until Q3. Overall, we are satisfied with the performance of the strategy over the third quarter—not just because of returns that outperformed the S&P 500 for the period, but also because we continue to provide positive risk-adjusted returns, reducing
Proxy Global Equity: The Second quarter of 2023 closed out with more positive momentum carrying the market, which was almost exclusively driven by growth and tech. The S&P was up 16%, with the largest tech names in the index pushing the vast majority of that performance. The Proxy Global Equity Portfolio, which is designed to be invested across all markets, which maintains a focus on risk adjusted returns, was also positive at the close of Q2. Up 12%, The Global Equity portfolio saw a lot of its returns come from US equities, and more tech focused investments such as QQQ (Nasdaq 100 ETF) and SMH (Global Semi conductor ETF), both of which provided an extra boost. SMH was a tactical add to the portfolio at the end of 2022, successfully predicting the high demand for the tech they offer would drive results as the supply gradually caught up. The majority of the portfolio however has had a more conservative lean, with greater exposure to value, some gold (3% IAU) , bonds (3% in TIPS index) and 7.5% in cash. All of those, while positive on the year, have significantly lagged their respective indexes. Emerging markets, developed international, and Small and Mid Cap companies have also been detractors to the overall performance. As previously mentioned, Large Cap Growth has been the driving factor (up 29%), while asset classes like Large Value or Emerging Markets where each only up 5%. In spite of the broad diversification hurting the portfolio in this very unusual market, Proxy’s portfolio management teams tactical bets have paid off enough to help provide us with double digit returns just 6 months into the year. One of the most notable changes in the portfolio for the Quarter was the tactical decision to move half of our position in IVV ( market cap weighted S&P 500 ETF) to RSP (S&P 500 equal weigh ETF). The reason behind this was the theory that if the broad market sells off the largest stocks (weighed by market cap), they would sell off in a more proportionate way than the other 494 stocks in the index. If the broad market continues to trade upward, the idea is the remaining, smaller companies, in the index will be able to catch up with the largest stocks that remain fairly stagnant. For the month of June the later theory had played out. Proxy Growth: 2023 has been a good year for growth and technology overall. However, it is the largest tech names which have really moved the markets. While Proxy growth is up 26% and has outperformed the S&P 500 by ~10%, it’s weightings in Mid and Small Cap have been a bit of a detractor. Additionally, the healthy cash position of 15% has been a drag. A portion of that cash is a defensive play, in the face of several potential head winds, and the rest is the result of trimming positions and capturing gains. In spite of more conservative decision to hedge with cash, the portfolio continues to perform. AI driven stocks such as Nvidia, C3.AI and Upstart Holdings have been up 200%+ which have provided strong attribution despite each being 1% or less of the portfolio. The top 2 holdings (the 4% max allocation), The Trade Desk and Microsoft have both added significant returns as well. Throughout the quarter we used the market pop to exit a few positions such as Sabre which we felt no long possessed the growth potential that we once believe to be there. Additionally, we trimmed a few positions we believed were trading enough above fair value, that we simply took the opportunity to lock in gains. To this effect we were able to trim C3.AI, and Nvidia more than once this year. We also added a few new names with which we saw opportunities to add strong value for reliable long term growth. An example of a newly initiated position is Shift4 Payments Inc. As for the future of the portfolio, we are well positioned to hold up if a market reversal occurs, as we have lowered the overall risk profile and have significant surplus of buying power (cash) to put to work. If the market is able to remain resilient in the face of the headwinds we have been preparing for, we will continue to participate. If Mid and Small Cap Growth stocks continue to play catch up with Large Cap, we will see an even greater acceleration. Proxy Dividend Income: The Large Cap Growth driven market rally has left value falling flat on the year. For the first half of 2023, Large Cap Value is up just 5% and Small Cap Value is 2.5%. The Proxy Dividend portfolio has lagged both, up only 0.13%. While last year the value high quality dividend company approach paid off nicely relative to the indexes, the opposite has been true this year. However, we don’t believe the assets class being out of favor means the strategy is broken, so we have made few changes to it this past quarter. We have stayed the course and believe the quality approach combined with a 4.8% average yield will continue to provide a lower risk approach towards equity investing while also generating steady dividend income. Looking ahead we anticipate utilizing the 8% tactical cash position to add a few more quality names to the portfolio which should continue to perform in the face of an economic recession. Fixed Income: Our Proxy ETF strategies have acted in line with the index (~2%) . We have maintained a lower overall duration (shorter term bonds). Regardless if the Fed continues to raise rates or not, we do not anticipate a rate cut for the remainder of this year and current inverted yield curve provide lower risk, higher yields, and more liquidity. We do not see a need to go further out on the curve for the time being. For clients with greater fixed Income needs, we have enjoyed the lowest risk asset in this market: