Executive Summary

• The rally in the final week of November was insufficient to pull domestic equities out of the red for the month. International stocks lost more ground, driven by a slowing global economy and growing Eurozone crisis.
• Bonds had mixed results in November as the Treasury yield curve flattened slightly during the month. The Fed made no policy changes during their November meeting and will continue with “Operation Twist.”
• The economy grew at a moderate rate in the third quarter, while preliminary results point to a more robust fourth quarter. Price pressures receded in November, led by declines in energy.
• Moderate job creation continued in November, while the unemployment rate registered a steep drop to 8.6% as individuals continue to leave the workforce.

Gratuitously Unnecessary Statistic of the Month When Did Black Friday Become Black Thursday?  We’re all familiar with Black Friday, the day when droves of bargain hunters flock to retailers in search of unprecedented discounts and rewards. This year was no exception. According to the National Retail Federation, spending per shopper surged 9.1 percent over 2010 – the biggest increase since 2006 – to an average of nearly $400 per customer. Total spending, including online sales, reached an estimated $52.4 billion Thursday through Sunday. That’s right…Thursday through Sunday. While it had become common for retailers to open as early as 4 a.m. on Black Friday, this year, many opened at midnight, and some even opened Thanksgiving afternoon. While this is undoubtedly good for those retailers trying to get a jump on their competition, it’s hard not to long for a simpler time, where instead of battling traffic and crowds we battled too-tight pants and tryptophan-induced naps in front of the TV. Source: New York Times

Capital Markets

Wild card: an unknown or unpredictable factor.

Our secular view for some time has been built in part on the expectation of a slow-growth environment accompanied by massive indebtedness, increasing regulation, and increased intervention by policymakers. Unsustainable levels of debt in various developed countries, including the United States, have resulted in a deleveraging process that could take many years to overcome. Reduced government spending will be the byproduct of the necessary austerity measures in many countries, while households continue to rebuild personal balance sheets challenged by the lasting repercussions of the Great Recession. Consumers are confronted with home values well below peak levels, comparably tighter credit, uncomfortably high unemployment, and a stock market that remains 20% lower than its October 2007 peak. Overall, the economy remains fragile, and still vulnerable to both exogenous shocks and even a cyclical downturn in the rate of growth. This becomes particularly worrisome when you throw today’s wild cards into the mix, as unknown or unpredictable factors could represent an exogenous shock that could leave a lasting imprint.

Wild cards, by definition, are characterized by uncertainty. Given the fragile or susceptible backdrop of today, there are several wild cards present that reinforce our somewhat cautious stance. The Eurozone crisis has been a major source of uncertainty, creating a series of wild cards that have been thrown on the table over the past few years. It was in early 2010 that fears of a Greece default became prevalent, and sovereign yields began to rise. Nearly two years and several bailouts later, the situation has spread far beyond Greece and continues to stymie policymakers. Rising sovereign yields have infected several Eurozone sovereigns. Higher yields are a result of increasing uncertainty in a government’s ability to cover its debt obligations and investors demanding compensation accordingly. This can become a self-fulfilling prophecy as high yields translate into higher borrowing costs, making it even more difficult to sustain current levels of debt. This year alone, the crisis has toppled leaders in several Eurozone countries. Spain was the most recent casualty to be added to a list that already included Greece, Ireland, Portugal, and Italy.


Source: PMFA, Bloomberg

Armed with the responsibility of successfully navigating this fragile environment and directing the course to more sustainable levels of debt, policy decisions are yet another wild card. From both a fiscal and monetary perspective, policymakers today have significant power to sway outcomes – and markets – both positively and negatively. Examples of each occurred in November.

On one hand, the debt supercommittee announced it was unable to negotiate a plan to slash an additional $1.2 trillion from the federal budget. Given the ongoing dysfunction in Washington, this was no surprise. On the other hand, central banks around the globe unveiled coordinated action to ease tightening credit conditions arising from the Eurozone crisis. This announcement on November 30 triggered a sharp rally to close the month on a high note, but still left equities in the red for the month. While volatility levels fell from their October highs, they remain at levels indicative of heightened fear in the market.


Source: PMFA

The S&P 500 Index lost just 0.22% for the month (after being down over 7% intra month), while international equities remained negative in light of the expanding Eurozone crisis. International losses for U.S.-based investors were mitigated as the Dollar appreciated during the month.


Souce: PMFA

On December 6, Standard & Poor’s announced a blanket credit rating downgrade warning for each of the Eurozone’s 15 members. The warning was prompted by the “belief that systemic stresses in the Eurozone have risen in recent weeks to the extent that they now put downward pressure on the credit standing of the Eurozone as a whole.” Credit rating changes are another wild card that may have widespread effects on demand, yields, and volatility. This blanket downgrade announcement was also not welcome news for the market and resulted in a sharp selloff in Europe.


Source: PMFA

Traditional bonds were virtually flat in November but still boast year-to-date returns that are strong in the context of a low-yield environment. Municipal bonds provided nominal gains while high yield bonds sold off as fears mounted. Longer-term Treasuries rallied as the yield curve flattened slightly during the month.


Source: PMFA

Alternative strategies were primarily negative in November, as the “risk-off” trade also permeated risk assets beyond stocks. Oil has been edging upward amidst the bubbling tensions in Iran, although broad commodities have experienced a pullback recently as global growth expectations have diminished. Since 2008, however, the strong run-up in commodities (particularly food prices) has contributed to the social turmoil in several developing countries. Meanwhile, in some developed countries, austerity measures and perceived social injustice lit the fuse for demonstrations and protests. In the past year, the rising tide of social unrest was notably successful in even driving regime change (e.g., Egypt and Libya). Meanwhile, movements such as the Tea Party and Occupy Wall Street represent disparate groups, each in their own way expressing dissatisfaction with the status quo. The idea that the collective voice of individuals can work together to effect change has been and will continue to be a wild card. Advances in technology and communication have facilitated the flourishing of social networking, which has become the new standard of rapid information resources.

The list of potential unknowns is substantial, and the lack of clarity that results from so much uncertainty reinforces to us the importance of approaching this already tepid growth environment with caution. Certainly terrorist threats, natural disasters, and the like only add to this list of wild cards, although those risks will likely always be present. Against this backdrop, we continue to believe opportunities exist today. Moreover, wild cards can create favorable outcomes, which could also provide positive near-term results. Given our expectation for heightened volatility, we continue to recommend the reconfirmation of one’s stated risk tolerance and confirmation that sufficient levels of cash reserves are available to better endure any potential short-term volatility. Overall, we expect the road ahead to continue to be bumpy, but we also believe that patient investors will inevitably be rewarded.

Economy

GDP

The Bureau of Economic Analysis reported the economy grew at a moderate 2.0% annualized pace in the third quarter. This was 0.5% lower than the first estimate but remains the strongest quarterly result this year. Overall, consumers accounted for the bulk of the increase, while business investment also accelerated. The revision was due to downward adjustments to the previous estimates for inventories, consumer spending, and business investment.

As we wrap up 2011, estimates for the fourth quarter suggest growth in a range of 2-4%. Consumer and business spending has remained stronger than anticipated in recent months. Black Friday sales were the highest on record, as consumers shrugged off their pessimist moods and opened up their wallets. However, recent spending has come at the expense of a decline in the savings rate given recently limited real wage growth. Meanwhile, unemployment remains high, and home values have once again been receding from their recent peak. As such, the ability for consumers to maintain a higher spending pace remains a significant question


Source: PMFA, Bureau of Economic Analysis (BEA)

Inflation

Consumer prices fell in October, led by a drop in energy that more than offset marginal increases in food prices and core inflation. The one-year change in the Consumer Price Index slowed from 3.9% in September to 3.5% in October. Producer prices also benefitted from lower energy costs, falling 0.3%. The year-over-year change for the Producer Price Index was 5.9% in October, a full 1.0% lower than September’s reading of 6.9%.


Source: PMFA, BEA, Bureau of Labor Statistics (BLS)

Core inflation, as measured by the core CPI, edged higher for the month and over the last year. Core PPI was flat in October. The recent pull-back in prices has been a relief for consumers, allowing their dollars to go further. Forward-looking expectations for inflation remain contained, even with the unprecedented liquidity the Fed has injected into the system. While energy prices may continue to be volatile, core prices are expected to remain in a range that affords the Fed plenty of leeway to ease further if the need arises.


Source: PMFA, BEA, BLS

Interest Rates

The yield curve flattened fractionally throughout November as longer-term yields pulled back and short-term yields remained at virtually zero. The three-month Treasury ended the month where it began, at just 0.01%. Yields for the 10-year Treasury pulled back 9 basis points and ended November at 2.08%. The risk-off trade benefitted Treasury bonds this month, but at yields of just 2.08%, their relative value remains limited beyond their safe-haven status.


Source: PMFA, U.S. Treasury

The Fed will hold its last scheduled meeting this year on December 13 to once again reevaluate the course of the economy and the sufficiency of monetary policy to determine if any further steps are needed to support economic growth and price stability. Recently, some economic indicators have surprised to the upside, while others maintained their moderate pace. This may allow the Fed to stay the course, assuming the Eurozone crisis does not spread further. As we look toward 2012, changes in the composition of the Federal Open Market Committee are expected to result in a slight shift toward an even more dovish stance. This change is unlikely to have a meaningful impact, however, as the tone of the Committee has been fairly dovish given the softening of economic expectations in recent months. The Fed remains poised to ease further if needed in the months ahead.

Employment

The employment report for November raised eyebrows due to the significant drop in the unemployment rate to 8.6%, its lowest level since March 2009. An additional 120,000 new jobs were added this month, slightly less than the average of 130,000 new jobs per month since July. While the increase in nonfarm payrolls have been positive, it hasn’t been sufficient alone to lead to a meaningful drop in the unemployment rate. The more significant contributor has been the ongoing decline in the labor force participation rate, which fell 0.2% to 64.0%. The civilian labor force shrank by an estimated 315,000 during November, despite continued population growth.


Source: PMFA, BLS

In the final days of this year, eyes are once again on policymakers in Washington as they deliberate on whether or not to extend the expiring payroll tax cuts and unemployment benefits. At this point, it is unclear whether they will come to terms on both of these items and extend them into 2012. If extended, the reduced payroll taxes should provide a moderate tailwind for consumers to maintain their current levels of spending. However, the overall pessimistic cloud that continues to restrain more robust spending will likely continue until economic growth experiences sustained strength and job creation improves for an extended period.




Past performance does not guarantee future results. All investments include risk and have the potential for loss as well as gain.

Data sources for peer group comparisons, returns, and standard statistical data are provided by the sources referenced and are based on data obtained from recognized statistical services or other sources believed to be reliable. However, some or all information has not been verified prior to the analysis, and we do not make any representations as to its accuracy or completeness. Any analysis non-factual in nature constitutes only current opinions, which are subject to change. Benchmarks or indices are included for information purposes only to reflect the current market environment; no index is a directly tradable investment. There may be instances when consultant opinions regarding any fundamental or quantitative analysis may not agree.

Plante Moran Financial Advisors (PMFA) publishes this update to convey general information about market conditions and not for the purpose of providing investment advice. Investment in any of the companies or sectors mentioned herein may not be appropriate for you. You should consult a representative from PMFA for investment advice regarding your own situation.