Current Thinking, Q1 2015

CurrentThinking First Quarter, 2015
1
2015 Outlook: The Return of Volatility
After a few years of relative calm, the confluence of slowing economic
growth overseas, a surging U.S. dollar and collapsing oil prices has led to a
spike in volatility across all of the major asset classes. Underlying fears are
growing that the global economy may be headed for serious trouble, since
these events have often coincided with unexpected geopolitical risks and
periods of economic instability. However, it’s important to note that the
rising dollar and fall in oil prices provide meaningful benefits to U.S.
consumers, but are likely to weigh on business activity and corporate profits.
With the U.S. consumer accounting for nearly 70 percent of the economy,
2015 may prove to be a better year for Main Street than Wall Street.
BadThings Can HappenWhen Growth Slows
The global economy, already slowed by stagnation in Europe and Japan, is being further hampered by China’s
economy slowing to a 24-year low of 7.4 percent in 2014. China is the world’s second-largest economy, and
continues to grow at more than twice the pace of the world economy. Given its size, the expected gradual
deceleration in China’s growth rate has an outsized impact on the world. The International Monetary Fund
downgraded its forecast for the global economy for this year and next, and pointed to China's slowing
economy as a key factor. The growth risks have clearly increased for China as they attempt to rebalance their
economy after an unsustainably supercharged 5-year building and investment-led growth spurt that fueled an
insatiable level of demand for iron ore, copper and oil. As China slows, the economies of many commodity-
exporting countries as well as China's neighbors are also likely to face slowing growth.
As global growth has slowed, there’s been a pronounced drop in commodity prices and inflation throughout
the world. This has provided cover for a wave of global central banks to initiate monetary stimulus programs
in order to promote growth. Meanwhile, the comparative strength of the U.S. economy has the Federal
Reserve poised to finally raise interest rates later this year. This divergence in monetary policies is
contributing to the rapid appreciation of the dollar versus other global currencies. With many global
commodities such as oil priced in U.S. dollars, we’ve frequently written about how a strong dollar can help to
limit inflation and interest rates; however, the relentless rise in the dollar could lead to another currency crisis.
With over $9 trillion in dollar-denominated debt outside the U.S, a sharp rise in the dollar also raises the debt
burdens for countries with weaker currencies. Historically, a strong dollar has triggered turmoil in emerging
markets, such as in Latin America in the 1980s, and Asia in the 1990s.
Crude Oil (WTI) and Trade-Weighted U.S. Dollar
Source: Cornerstone Macro

2
The high yield market has the reputation of being an
important leading indicator for the stock market as
well as the broader economy. High yield bonds are
both very economically sensitive and provide scant
liquidity during periods of high market volatility.
Given these characteristics, this institutionally-driven
market is considered a good proxy for assessing both
the accessibility and cost of credit for speculative-
grade bonds. As a result, the high yield market is often
referred to as the proverbial canary in the coal mine
for detecting early changes in risk appetite. While no
indicator is perfect, high yield bonds have flashed an
early warning signal in advance of every notable
financial shock over the past 20 years.
Zhengzhou
Due to the shale revolution, bonds in the energy sector now account for 15 percent of the high yield market.
As crude prices collapsed, it sparked the nearly indiscriminant selling of energy bonds that also affected the
overall high yield market. The chart above reflects serious distress within the high yield energy sector, with
the yield spread over U.S. Treasuries (100 basis points equals 1 percent) more than doubling since last June.
The chart below shows that the author’s more broad-based model of financial conditions also reflects a
heightened level of systemic risk. This quantitative model is based on the premise of the credit markets as a
leading indicator for the equity market, but also includes factors such as interbank lending rates, derivatives
and currency volatility. Currently, the divergence between the model and the more credit-sensitive Russell
2000 Small Cap index is flashing a warning sign that stocks are vulnerable to a correction.
Zhengzhou
The Strong Dollar is Hurting the Profits of U.S. Multinationals
200
300
400
500
600
700
800
900
Dec-13
Jan-14
Feb-14
Mar-14
Apr-14
May-14
Jun-14
Jul-14
Aug-14
Sep-14
Oct-14
Nov-14
Dec-14
High Yield Credit Spread, bps
Source: BofA Merrill Lynch
Energy Sector, High Yield High Yield 'B'
While the sharp drop in oil prices is widely expected to result in a significant decline in earnings within the
energy sector, the strengthening dollar is more broadly impacting the corporate profits of U.S. multinational
companies by driving up the cost of doing business overseas and lowering the value of foreign revenues.
With companies in the S&P 500 deriving approximately 40 percent of their after-tax profits from foreign
markets, many analysts have been aggressively slicing their estimates for corporate profits. Over the past
month, the estimated earnings per share growth in 2015 for the S&P 500 has been sliced from 8.4 percent to 3.7
percent. Stocks may face headwinds from increasingly stretched valuations if profits from domestically
focused companies don’t begin to offset the expected weaker profits of multinationals.
The Canary in the Coal Mine is Flashing aWarning Sign
500
600
700
800
900
1,000
1,100
1,200
1,300-2.00
-1.50
-1.00
-0.50
0.00
0.50
1.00
1.50
2.00
2.50
Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15
Lenox Financial Conditions Index: U.S.
Source: Bloomberg
Lenox FCI, Inverted (L) Russell 2000 (R)
Looser
Tighter

3
A Foreign Central Bank Easing Cycle Has Restarted
During the past six months, the steep decline in
global government bond yields, falling commodity
prices and sharp decline in inflation expectations
have stoked growing fears of deflation among global
central bankers. In response, a wave of 15 foreign
central banks have already enacted some form of
monetary stimulus during the first few weeks of
January to fight deflation and promote growth.
However, the real game-changer was European
Central Bank (ECB) President Mario Draghi’s
announcement of a much larger, more flexible and
potentially more open-ended stimulus package than
the market was expecting. In what is considered
quantitative easing (QE), the ECB will inject at least
€1.1 trillion into the ailing eurozone economy by
purchasing €60 billion per month in bonds (including
sovereign debt) from banks until at least the end of
September 2016. In theory, QE increases the supply
of money, which helps keep interest rates low in
order to boost economic activity.
Following the ECB’s announcement, the euro fell 3
percent versus the dollar, and has now collapsed by
18 percent during the past 12 months. Although the
weaker euro is likely to be the most important
contributor to economic growth this year, the
additional tailwinds from rock-bottom interest rates
and low oil prices should help buy time for
policymakers to enact the necessary fiscal and
political reforms.
Even after the end of the Federal Reserve’s QE
program last October, the aggressive liquidity
injections announced by foreign central banks is
poised to unleash an even larger tidal wave of global
liquidity. The glut of liquidity should support asset
prices as the hunt for yield intensifies.
Lower Gas Prices Are Pumping Up Retail Stocks
Along with an improving labor market, the roughly
50 percent drop in gasoline prices since June has
clearly boosted the discretionary spending power of
consumers. This is allowing a reallocation of
spending into broader areas of the economy. For
example, retail stocks as well as restaurants have
been sharply outperforming the S&P 500 as investors
anticipate higher revenues.
Global Central Bankers Go All-In to Fight Deflation and Promote Growth
0.00
0.50
1.00
1.50
2.00
2.50
3.00
3.50
4.00
Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15
10-Year Government Bond Yields
Source: Bloomberg
U.S. Germany France U.K. Japan
1.25
1.50
1.75
2.00
2.25
2.50
2.75
3.00
3.25
Jan-12 Jul-12 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15
Inflation Expectations
Source: Bloomberg
5Yr,5Yr Forward 10 Year TIPS Spread
80
85
90
95
100
105
110
115
120
125
Retail Stocks vs S&P 500
Source: Bloomberg
Retail - Apparel Retail - Specialty

4
Disclosures
Views are as of the date above and are subject to change based on market conditions and other factors. The views
expressed are those of the author(s) and are subject to change at any time. These views are for informational
purposes only and should not be relied upon as a recommendation to purchase any security or as a solicitation or
investment advice from the Advisor.
The information contained in this presentation has been compiled from third party sources and is believed to be
reliable, but its accuracy is not guaranteed and should not be relied upon in any way, whatsoever. This information
does not constitute, and should not be construed as, investment advice or recommendations with respect to the
securities or sectors listed. Diversification and asset allocation do not assure a profit nor protect against loss.
The actual return and value of an account fluctuate and, at any time, the account may be worth more or less than the
amount invested. Past performance results are not indicative of future results.
IRS Circular 230 Disclosure - To ensure compliance with requirements imposed by the IRS, we inform you that any
U.S. federal tax advice contained in this communication (including any attachments) is not intended or written to be
used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii)
promoting, marketing or recommending to another party any transaction or matter addressed herein.
Presentation is prepared by: IBERIA Wealth Advisors
Copyright © 2013, by IBERIA Wealth Advisors; All rights reserved.
Investment Products: • Not FDIC Insured • Not a Bank Deposit
• Not Insured By Any Federal Government Agency • No Bank Guarantee • May Lose Value
(800) 667-6176
www.iberiawealth.com
Despite the continuing broad-based strength in the U.S. economy, investors should expect to face higher
volatility and some tricky crosscurrents this year.
Historically, we’re very cognizant that today’s extreme price trends in the U.S. dollar and oil prices present
sharply elevated risks of an unexpected geopolitical event or period of economic instability. In addition, the
prospect of weaker corporate profits along with tighter financial conditions have led the Committee to believe
that the balance of risks have shifted to the downside.
However, the aggressive monetary policies and even mere statements by global central banks will likely
continue to have a dominant impact on asset prices. At least in the short-term, foreign central bank liquidity
injections can offset cyclical headwinds, and help asset prices stay surprisingly resilient. Based on the strength
of the U.S. economy, the Federal Reserve is setting the stage for raising short-term interest rates in either June
or September. However, our sense is that the Fed will likely raise rates at a slower-than-consensus pace due to
slower global growth, and concerns about the repercussions of a stronger dollar.
With most asset prices trading at elevated valuations, the weight of the evidence led us to take a more
defensive stance by reducing our overweight (since January 2013) allocation in equities to a neutral weighting
in favor of high quality bonds. Our defensive positioning has rotated up-in-quality to focus on high quality
assets that also offer deep liquidity. Within equities, we prefer U.S. large cap dividend-paying companies with
predominantly domestic revenues and strong balance sheets.
Kevin A. Lenox, CFA
Senior Investment Strategist / Portfolio Manager
The Balance of Risks Point to a More Defensive Stance

Current Thinking, Q1 2015

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Current Thinking, Q1 2015