3Q 2012 Market Overview

As we wrapped up the third quarter of 2012we have seen global stocks making significant gains.  Large cap US stocks, represented by the S&P 500, have gained 6.4% for the quarter, putting the benchmark up 16.4% for 2012 so far.  Total market returns (including reinvested dividends) are now positive from the October 2007 previous market top!

Foreign equities also performed well, with the MSCI EAFE (USD) developed markets index up 7.0% for the quarter and 10.6% year to date.

Economic Update

While GDP growth remains sluggish, several factors are improving.  Residential housing starts, after being crippled in 2008-2009, have been trending upwards since 2010 and continue to move ahead. Auto sales are approaching long-term average levels after several poor years. US consumer balance sheets have improved significantly as individuals and families de-leverage and reduce their consumer debt.  Household debt service, a measure of what percentage of a household’s income is used to make debt payments, has been falling since the recession and now sits at levels not seen for nearly two decades:

Unemployment numbers in the United States continued to fall last quarter, the most recent report for September showed a rate of 7.8%, the lowest since January 2009. 114,000 jobs were added in September. July and August BLS employment figures were revised significantly higher, adding 86,000 jobs for those months.

But dividend payouts have not kept up with corporate profit growth, leaving plenty of room for increased dividend payments.  Remember, the dividend payout ratio is how much of corporate profits are being distributed to shareholders in cash.

In fixed income, much has been said over the past two years about the state and stability of municipal governments and their debt.  In 2010 during an interview with 60 Minutes, Meredith Whitney predicted a surge in municipal bankruptcies across the US.  This caused a brief drop in municipal bond values as many individual investors panicked. Since that time, however, municipal bond returns have been very healthy, defaults have decreased and municipalities have issued less debt on an annual basis.

Thanks to our low interest rate environment, state and local governments are spending a smaller percentage of revenue on debt service than the last decade, proving that they are fiscally sound.

2012 year to date has proven to be quite profitable for long-term equity investors despite some volatile months.  As always, we will not attempt to predict what the coming months will bring, and encourage clients and readers to remember their long-term goals, evaluate their asset allocation and be conscious of the performance drags of costs and taxes.