A Look Back at 2016

As we begin 2017, we reflect upon the returns of the previous year: the Standard & Poor’s 500 was up 11.9%, the Dow Jones Industrial Average was up 16.5%, the iShares iBoxx High Grade Corporate Bond Exchange Traded Fund (ETF) was up 6.2%, while its high yield version, the largest “junk-bond” ETF by assets, returned 13.4%. All in all, 2016 was a good year for most asset classes.

Nearly half of the Dow Jones’ return (8.6%) materialized in the fourth quarter. Although the markets had initially sold off after the U.K. referendum in June, the recovery had been swift. Similarly, as vote tallies started coming in on election night in the U.S. reflecting Trump’s probably victory, the markets sold off only to recover and hit new highs in what has been dubbed in the financial news as the Trump Rally. Unpredictably, from a markets perspective, the most important event of the year ended up being the U.S. Election, followed by the U.K. referendum. Compounding the unexpected outcome of the Presidential choice and perhaps, equally as significant, was the loss by Democrats in both houses of Congress.

Although we had forecasted higher volatility coming out of the election in case of a Republican win, we could hardly have predicted such a strong, positive reaction from the markets. As we get past inauguration day, we believe the markets will start to consider whether the high valuations projected by the rally will indeed be justified by the incoming administration’s actions and polices. Stay tuned.
Notice should also be taken of our last letter where we indicated that many democratic nations have seen their respective governments being toppled to make room for more populist-oriented leaders. The latest victim was the Italian Prime Minister, Matteo Renzi. We predict more of the same in the near future. Lookout France and Germany! Nearly a decade after the great Financial Crisis, the voters remain disgruntled with the actions taken by their politicians. High unemployment rates in Europe, widening of the wage gaps, instability due to terrorism and lack of improvement in living standards are all factors generating discontent amongst the citizens of the world.

We believe that a new cycle is beginning to manifest itself, one that will result in significant changes in the world’s geopolitics and international trade. Each of these factors will impact asset prices globally and sector rotation, in our humble opinion, will be inevitable. Over the next year, of far greater importance than monetary moves by central banks, will be the flow of trade between old as well as newly formed alliances. With that having been said, we will be paying particular attention to themes including, but not limited to, U.S. effective (not monetary) stimulus, potential corporate repatriation, protectionist trade policies, tax and regulatory reforms, a strong U.S. Dollar, U.S. bond yields testing their secular trends, and the strength/weakness in commodity currencies.