Quarterly Capital Market Review & Outlook

U.S. Economic Outlook

  • Concern continues that the headline unemployment rate may not accurately reflect the true environment as a large number of people would prefer to be in higher paying jobs that better fit their qualifications.
  • Business owners’ attitudes about the economy and their businesses have been gradually improving for the past few years, although much of the gain in the fourth quarter is attributed to the election outcome and the potential for future fiscal stimulus.
  • The outlook for oil prices in 2017 is between $50 and $60 per barrel.
  • Domestic inflation has begun to trend higher, and the trend is expected to continue due to wage pressure, rising energy prices, and economic growth.

Equity Outlook

  • Considering valuations and the mature market cycle, we anticipate 2017 U.S. equity returns in the neighborhood of 5.00%.
  • We are generally in agreement with the prevailing consensus that calls for 2017 earnings to be positive, although not off the charts, and certainly not enough to rationalize current valuations.
  • The anticipated changes proposed by Mr. Trump must materialize promptly as all presidents have a pretty well-defined honeymoon period, and Mr. Trump’s has already begun.
  • There is a question of whether the new administration can change the attitudes of the fiscal hawks in Congress sufficiently to enlist support for initiatives that will likely increase the deficit.

Fixed Income Outlook

  • We anticipate that the yield on the 10-year Treasury will approach 3.00% by the end of 2017.
  • We anticipate that the Fed will hike interest rates two to three times in 2017.
  • While the yield curve has steepened since the election, we do not expect it to continue to do so. Investors will eventually “catch up” with the Fed, and inflation expectations will likely recede a bit as stimulative initiatives fail to live up to the hype.
  • Assuming growth accelerates above its current pace in 2017, it is difficult to see how corporate bonds underperform Treasuries.
  • Municipal demand should remain very steady.

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Figure 1: First Quarter 2017 Market Outlook
Figure 2: Total Returns - Fourth Quarter 2017 Market Outlook

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BBVA Compass is the trade name for Compass Bank, Member FDIC, and a member of the BBVA Group. Securities products are NOT deposits, are NOT FDIC insured, are NOT bank guaranteed, may LOSE value and are NOT insured by any federal government agency.

This material contains forward looking statements and projections. There are no guarantees that these results will be achieved.

Investing involves risk including the potential loss of principal. There is no guarantee that a diversified portfolio will outperform a non-diversified portfolio in any given market environment. No investment strategy, such as asset allocation, can guarantee a profit or protect against loss in periods of declining values. Past performance is no guarantee of future results. Please note that individual situations can vary. Therefore, the information presented here should only be relied upon when coordinated with individual professional advice.

Indexes are unmanaged and investors are not able to invest directly into any index.

International investing involves special risks not present with U.S. investments due to factors such as increased volatility, currency fluctuation, and differences in auditing and other financial standards. These risks can be accentuated in emerging markets.

Investments in stocks of small companies involve additional risks. Smaller companies typically have a higher risk of failure, and are not as well established as larger blue-chip companies. Historically, smaller-company stocks have experienced a greater degree of market volatility than the overall market average.

Equity investments tend to be volatile and do not involve the guarantees associated with holding a bond to maturity.

In general, the bond market is volatile as prices rise when interest rates fall and vice versa. This effect is usually pronounced for longer-term securities.

Any fixed income security sold or redeemed prior to maturity may be subject to a substantial gain or loss.

Fixed income investments are subject to various risks including changes in interest rates, credit quality, inflation risk, market valuations, prepayments, corporate events, tax ramifications and other factors.

The investor should note that vehicles that invest in lower-rated debt securities (commonly referred to as junk bonds) involve additional risks because of  the lower credit quality of the securities in the portfolio. The investor should be aware of the possible higher level of volatility, and increased risk of default.

Municipal bond offerings are subject to availability and change in price. If sold prior to maturity, municipal bonds may be subject to market and interest risk. An issuer may default on payment of the principal or interest of a bond. Bond values will decline as interest rates rise. Depending upon the municipal bond offered, alternative minimum tax and state/local taxes could apply.

The price of commodities is subject to substantial price fluctuations of short periods of time and may be affected by unpredictable international monetary and political policies. The market for commodities is widely unregulated and concentrated investing may lead to higher price volatility.

Investments in real estate have various risks including possible lack of liquidity and devaluation based on adverse economic and regulatory changes.

Other Sources: Bloomberg; California.gov; Russell.com; First page index returns are calculated on a total return basis using the following indexes:

S&P 500 (SPX), MSCI World (MXWO), MSCI Emerging Markets (MXEF), BofA Merrill Lynch U.S. Treasuries 1-10 years, BofA Merrill Lynch U.S. Agencies 1-10 years, BofA Merrill Lynch U.S. Corporates 1-10 years A-AAA, BofA Merrill Lynch U.S. Municipals 1-10 years A-AAA, Russell Top 200 Index, Russell 1000 Index, Russell Midcap Index, Russell 2500 Index, Russell 2000 Index, Credit Suisse High Yield Index (CSHY), MSCI U.S. REIT Index (RMZ Index).