Market Outlook: 2011 Mid-Year Commentary

The Economy

The first half of 2011 has validated the severity of the sub-prime mortgage crisis circa 2007.  The mortgage market collapse triggered global stock market crashes in 2008.  Then, the federal government hastily tried to mitigate the intensity of ensuing bank collapses and housing foreclosures by creating “easy money” policies and by providing a financial backstop for failing banks.  Now, the reverberations of these stimulative economic policies are being felt.  We are four years removed from the beginning of the crisis, and despite the government’s success in slowing the effects of debt deflation on our economy; the housing market is still in the midst of finding price equilibrium.  Halfway through 2011, unemployment lingers nearly as high as it was at the depths of the recession and Gross Domestic Product (GDP) grows far too slow to create new jobs.  To make the situation even more precarious, the country has seemed to tire of public deficit spending which has caused battle lines to be drawn in Washington D.C.  The competing forces of near-term economic restoration and long-term financial preservation have produced a political stalemate for the ages.  Regardless the specific outcomes, the will to generate economic recovery via government deficit spending has come to an end.

The Markets

And now for the irony: The stock market rose during the first six months in 2011.   On average, corporate profits expanded.  Bond prices were fairly stable such that U.S. Treasury yields remain historically low.  Commodity prices crept up but overall inflation stayed low.  While the housing markets sank further, commercial real estate actually strengthened during the first half of 2011.  Let there be no doubt, the markets climbed our colossal wall of worry.

Stocks

International, domestic, small company and large company stocks all tracked fairly closely together in the first half of the year.  Corporate profits for U.S. stocks grew more than 13% on average in the first quarter of 2011 and about 10% in the second quarter.  The S&P 500 Index rose 6% for the first six months of 2011.

Bonds

While sovereign debt and the U.S. deficit problems created much of the headlines this year, the overall bond markets remained in check.  Despite the incessant borrowing by the national government, the closely watched 10 Year Treasury Note yield actually dipped during the first six months of 2011.  The latest stage of monetary easing may have helped push longer term yields down a bit, as was the goal.  For the first half of 2011, the Barclays Aggregate Bond Index rose 2.7%.

Commodity Futures

Monetary easing may have helped boost commodity prices during the past year.  Energy futures rose about 6% during the first six months of 2011.  Energy demand has been mild, though, as the recovery has stalled.  Prices are likely rising because of higher expected inflation, larger institutional holdings of commodities for diversification and/or easy money needing to find a home.  Investors continued to demand precious metals during the period because of angst about rising developed world debt and the fear of sovereign debt defaults.  Commodity futures as a group rose 2.7% for the first half of 2011 as measured by the S&P Goldman Sachs Commodity Index.

Real Estate

Nationally, office real estate vacancy rates dropped during both the first and second quarters of this year.  Retail space is still struggling due to online competition and the overall weak consumer spending.  While there remains a glut of residential and retail real estate, the overall commercial markets have fared well this year.  The National Association of Real Estate Investment Trust Index rose almost 10% in the first half of 2011.