MARKET UPDATE AND COMMENTARY
December 14, 2014


Led by a decline in energy prices, US markets reversed direction sharply this past week following seven consecutive positive weeks (October 17th to December 5th, 2014). Last week’s drop was the worst one-week performance by the Dow Jones Industrial Average (DJIA) in about three years.

Source: The Wall Street Journal (Past Performance is Not Indicative of Future Returns)

International markets continue to underperform US markets.

Source: The Wall Street Journal (Past Performance is Not Indicative of Future Returns)

The most prevalent explanation given by the financial media for last week’s pullback was investor fears of a global economic slowdown as evidenced by the falling demand for crude oil. The Wall Street Journal reported that since June, the International Energy Agency (IEA) has cut its demand forecast for 2015 by 800,000 barrels, while it says U.S. oil output will rise next year by 1.3 million barrels a day. WTI Oil closed Friday at $57.81 per barrel some 41% below where it began 2014.

Bond investors echoed concerns over a global slowdown dropping yields on bonds worldwide. The benchmark yield on the 10-year US Treasury fell 21 basis points (a basis point is .01%--similar to a penny to a dollar) to close at a nearly 17-month low of 2.09%. Germany’s 10-year Bund closed at an astonishing low yield of 0.62%. Bond yields reflect investors’ outlook for economic growth and inflation, signaling weak growth and inflation expectations for some time to come. This is why I have been writing that higher interest rates would be a sign of better economic prospects especially in a low-inflation environment.

Gold prices are up 4% in December. I believe this is a normal reaction by some investors who buy gold when stock prices drop.

Finally, the US Dollar fell slightly against the Euro and the Yen last week; however, the US Dollar is up 9.4% and 12.8% respectively against these two key currencies in 2014. This dramatic change in currency valuation, in my view, says a lot about what has happened to markets around the world.

THE US DOLLAR, OIL, AND GLOBAL ECONOMICS

For those who have been reading my Updates over the years know one of my themes is that academics try to over-complicate economics by using very sophisticated mathematical models to predict or explain human behavior. I believe this is a fool’s errand (I am sure many economists would strongly disagree) and that economics can be summed up in three words: SUPPLY AND DEMAND. The more of something we have, all other things being equal, the less we will value that something; and if we want more than is available, we will be willing to pay more to meet our desires. Following this, the more people are willing to pay for something, the more others will try to meet that demand thereby increasing supply. As supply increases, prices inevitably fall. This is where we find ourselves today regarding oil. I will concede, however, that the circumstances around this simple supply and demand concept can be complicated, but I will attempt to explain the basics of how we got to $58 oil.

As you can see by the graph below, oil prices are volatile and have been subject to geopolitical shocks over the past 50 years beginning with the 1973 oil embargo. This curtailment of oil exports middle-eastern oil producers in response to the US support of the 1973 Arab-Israeli war increased the price of oil by nearly 400% almost overnight.

The 1979 and 2000’s oil price spikes were also driven by unrest in the Middle East. The United States and other western oil consumers did not sit back and wait for the next oil embargo; rather we took steps to lower our dependency on middle-eastern oil by reducing consumption and searching for oil elsewhere in the world.
One of the most notable efforts has been the extraction of oil in the North Sea. I highlight this because it shows how technology overcame extreme conditions allowing oil companies to drill for oil over 1000 feet under sea in some of the most inhospitable conditions anywhere. Today, the North Sea region produces about 1.5 million barrels each day. The most notable change in the US has been in technological developments with the shale oil boom in North Dakota, Texas, and coming soon to other states like Pennsylvania and California. This boom in US oil production, coupled with an overall reduction in demand, has placed pressure on oil prices. The two charts below show the changes in oil production and consumption over the past few years.

The drop in oil consumption, in my view, is a combination of much higher prices over the past decade or so and increased supplies. While the “doom and gloomers” are going to suggest that that drop in demand is due to a lack of economic activity, the chart below shows that US manufacturers are far more efficient in the use of oil in producing goods and services. This is a natural response to higher oil prices and makes our nation less vulnerable to oil price shocks.

Another component of the demand variable has been the value of the US Dollar (USD). I have discussed previously that the USD has been surging in value against most foreign currencies, especially the Euro and the Yen since May. It is difficult to identify one or two primary reasons for the renewed strength of the USD, but I believe it is fair to say that a steadily growing US economy, the end of quantitative easing in the US, the possibility of quantitative easing in Europe, very weak economic growth in Europe and slowing growth in China, and geopolitical instability around the world are some of the reasons for a stronger USD.

A stronger USD has an impact on the price of oil and thus demand. Since early May, the US Dollar Index (a measure of strength of the USD compared to a basket of six foreign currencies) has risen nearly 12%. The fallout of this move has been to raise the price of oil to the rest of the world since nearly all oil contracts are transacted in USD. As the USD rises in value, the cost of oil to all but Americans goes up (according to the most recent statistics by the US Energy Information Administration the US accounts for only 21% of worldwide oil consumption). This higher cost of oil to the world weakens demand leading to lower oil prices. I believe if the Federal Reserve starts raising interest rates next summer as many are expecting, this will continue to favor a stronger USD.

In reaction to falling prices, Saudi Arabia was expected—as they have in the past—to cut production to boost oil prices. They did not. This propelled the price of WTI Oil down from $73.69 (November 26th) to Friday’s close of $57.81 (-22%). I have read a number of pundits suggest this is an attempt to hurt US oil production. I believe this is off target. The real target of the Saudi’s willingness to let oil prices continue to fall is to hurt Iran and its ally Russia. Both countries are not friendly to Saudi interests and are heavily dependent on oil revenue to fund national budgets. Geopolitical issues continue to influence the price of oil.

Going forward, I believe the price of oil will find equilibrium as supplies adjust to meet demand. I have a lot of confidence in US oil producers to react to current events. I would expect that some projects could be held back and the more expensive drilling sites may be slowed or even taken offline. However, the long-term outlook remains positive for the US. Domestic oil production will continue to grow and the US could be energy independent in a matter of a few years. The benefits for the US consumer will be positive and other industries will benefit. Additionally, the US will continue to attract energy-intensive manufacturing to take advantage of our low energy prices and stable political environment.

LOOKING AHEAD

Volatility returned to the markets last week, however, my general view remains unchanged: the US economy is the place for investors to be and US stocks remain a good investment. Volatility is a challenge to everyone’s emotions, however, the relative strength data continue to suggest maintaining current US equity exposure.

On a relative strength basis, the US equites major asset category remains the clear leader and has not lost any strength to the other five asset categories. International equities has weakened and should be underweighted or avoided for now. The current relative strength ranking of the six major asset categories is: US Equities, International Equities, Bonds, Money Market, Currencies, and Commodities.

Most bond sectors have held up, however, as interest rates have fallen, the high yield and bank loan sectors have pulled back. I do not expect this to last and I believe there are good valuations in these two more volatile bond sectors.

Looking at key economic sectors, Health Care (+25%) continues to be the best performing sector year-to-date followed by Real Estate (21%) and Utilities (+19%). The Real Estate and Utilities sectors have, in my view, benefited by the drop in interest rates. Not surprising, the Energy sector is the worst performing sector having lost nearly 17% in 2014. The Energy sector is currently very oversold and I believe it may hold opporunities for select investments. The Transportation sub-sector offers potential as energy prices remain subdued.

I continue to watch the money market sector closely. I consider this sector to be a key gauge of where the markets are on a risk-adjusted basis. As of market close on Friday, the money market sector ranking had risen slightly from 126 (November 21st) to 119 out of the 134 sectors I follow. Even with the recent rise in ranking, 88% of all sectors are stronger on a relative strength basis than money market.

This will be my last Update and Commentary for 2014.

As we head into the Holiday Season, I want to remind everyone to be thankful for their health and family. I have a dear friend currently in the hospital in serious condition. I am reminded how fragile life can be at times and I ask everyone to say a prayer for him and others in need. I also want to say what a privilege it is to serve my clients and I value the trust each family has placed in me and I take this responsibility very seriously. I hope each of you have the opportunity to spend time over the next few weeks with family and loved ones and wish each of you a very Happy Holiday and Happy New Year.





Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of subindices, measuring both sectors and stock-size segments, are calculated for each country and region.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

MARKET UPDATE AND COMMENTARY
November 23, 2014


Central bankers from the European Union (EU), China, and Japan stepped up to take the initiative in their respective countries/regions to spur growth in the face of sagging economic reports. Meanwhile markets here in the US continued to move steadily forward.

Most key US equity indexes posted gains over the past two weeks:

Source: The Wall Street Journal (Past Performance is Not Indicative of Future Returns)

International markets, buoyed by recent central bank announcements, have also generally moved higher.

Source: The Wall Street Journal (Past Performance is Not Indicative of Future Returns)

The efforts by central bankers to ease monetary policy abroad gave stock investors a bit of confidence and helped drive up valuations last week, however, I also believe that it fits right within the narrative that I have discussed many times. That narrative is that central bankers can only mask the symptoms but not cure what ails Europe and Japan which are fiscal policies that stifle innovation, job creation, and entrepreneurship. China is a completely different model because it is communism seeking a way to inject a private sector component (capitalism) into the economy for economic growth and to provide opportunity to the billion-plus Chinese. While many favor China as an investment theme, I remain wary due to the lack of financial transparency, state ownership, and corruption that is so prevalent throughout their economy. In the end, European and Asian stocks may rise as they have so far this year, however, I believe they will lag US returns in general for some time.
Bond yields continued to slip downward last week with the benchmark 10-year US Treasury yield closing

Friday at 2.307% and is now down 2.5 basis points (a basis point is .01%--similar to a penny to a dollar) for the month. The broad Barclays US Aggregate bond index gained 0.1% for the week and is now up 5.6% for the year. The decline in interest rates has been attributed to renewed confidence of investors that central banks are willing to buy bonds in an effort to stimulate economic growth. The US just completed the third round of bond buying (also referred to as Quantitative Easing) with little to no effect on growth. The only thing I can say is that quantitative easing gives investors a psychological lift and that can help in the short run.

Commodities received a boost with the Chinese central bank lowering interest rates on Friday causing investors to speculate that lower interest rates will spark renewed demand for primary commodities by the Chinese. Oil and gold both rose last week with WTI Oil gaining $0.69 per barrel (+0.9%) to close at $76.51. WTI Oil is still down 22.4% for the year. Gold gained $12.10 per ounce (+1.0%) to close Friday at $1197.70. Gold is almost unchanged for the year recording a drop of just 0.4%.

SOME PRELIMINARY THOUGHTS ABOUT 2014

It is not too early to look back at the year and draw some meaningful conclusions, so let me make a few brief observations.

• The US Dollar strengthened dramatically in 2014. The Euro is down nearly 10% and the Japanese Yen is down almost 12%. These moves signal a strong demand by international investors for US bonds and stocks, and a general confidence in our economy. I share that confidence. The rise in the US Dollar makes imports from Europe and Asia cheaper and it helps drive down energy and other commodity prices. I think for the average American, this is very good news. For US investors a rising US Dollar acts as a strong headwind on returns in international investments accounting, in part, for the lag in international stock performance.

• Oil prices have fallen dramatically in 2014. This is a real boost for consumers here and has helped keep inflation in check. The transport stocks have benefited by this drop saving airlines and truckers billions in fuel savings.

• Interest rates fell in 2014 when all the pundits were predicting a rise due to the end of quantitative easing by the Federal Reserve. This was a big miss by economists and, I believe, points to the futility of central bankers’ efforts to stimulate the economy by purchasing bonds. Interest rates are comprised of economic growth and inflation expectations and bond purchases by the Fed does not change this fundamental fact. I believe we will continue to see low inflation (1.8%) and modest economic growth (2.5% to 3.5% in real terms). This forecast has been the same for several years now.

• While not reported by the financial media, we did have a 10% correction by the S&P 500 this fall. Well, technically it was 9.9%, and it was off of intra-day highs and lows, not market close to market close. Corrections do happen and so we have had a 5% correction and a 10% correction within the same year. That is quite a change from 2013 when we had none. I have no way of predicting how the next six weeks will work out, but as I have said for some time, I do not believe we are on the verge of a stock market collapse or that we are in a bubble.

• The geopolitical situation abroad remains tenuous and the political temperature here at home is rising. While the Ukraine, the Middle East, and Pacific regions have quieted somewhat, I can say that there is still plenty that can go wrong and possibly impact the markets. Closer to home, the President’s recent executive order regarding immigration has increased the likelihood, I believe, in a harsher political discourse and raise uncertainty in investors. Overall, however, markets have ridden the trials of global and domestic tensions well this year.

I will certainly have more to say in the coming weeks about 2014 and 2015, but for now, my suggestion is to get focused on the holidays and let’s see how the rest of the year plays out.

LOOKING AHEAD

As I said at the top of my Update and Commentary, central bankers have been working overtime to use monetary policy tools to shore up flagging economies. I think these are stop-gap measures at best. They are also, if you look closely at the US over the past five years, not particularly effective. I will say that what is more instructive is to recognize that stock markets go up because of economic expectations—not last month’s news, and because companies are profitable.

While I am bearish on Europe today and cautious on Asia, I remain fully committed to the US. I believe the US remains the most vital, flexible, and dynamic economy in the world. These adjectives translate to real actions which in turn lead to more profitable companies. I read an article this past weekend in the Wall Street Journal about how international stocks were undervalued and therefore a bargain. They also talk about how international stocks have gone up, but just not as much as US stocks. Given a choice, I prefer investments that go up more than others, therefore, I will continue to underweight international stocks for now.

The trading week will be shortened by the Thanksgiving holiday this coming week. Markets are closed on Thursday and will close early at 1 PM on Friday. Most international markets will be open. Although the week is usually a quiet one with many traders off on holiday, there are a couple of key economic reports coming out. The second estimate of the 3rd quarter gross domestic product (GDP) will be published Tuesday morning at 8:30. The consensus expectation is for a slight contraction from the first estimate from 3.5% to 3.3%. I am not expecting any significant changes to the GDP. Wednesday morning will be busy. October durable goods orders, new home sales and personal income reports will all be released. I would not expect any surprises here with this economy trudging along as it has for so many months now.

Thanksgiving is one of my favorite holidays because it causes us to stop and think about what we have to be thankful for. I hope that your week is spent surrounded by those you love and cherish.

Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of subindices, measuring both sectors and stock-size segments, are calculated for each country and region.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

MARKET UPDATE AND COMMENTARY
November 9, 2014


The 2014 mid-term elections brought sweeping changes to the US political landscape with the Republican Party reaching levels in Washington, DC, not seen since the late 1940’s. State elections were equally profound with the Republicans winning governor races in some of the bluest states like Maryland, Illinois, and Massachusetts. Although the Republicans did not run a national campaign, it is clear from a state and local level that voters elected individuals promising to address the economic stagnation felt by many workers. It is too early to tell if Republicans will be successful in delivering on their promises, but I think we will certainly see a very different Congress in January.

Most key US equity markets posted gains over the past three weeks:

Source: The Wall Street Journal (Past Performance is Not Indicative of Future Returns)

Positive economic statistics and corporate profits contributed to recent market gains; however, I also believe investors were beginning to sense that the status quo in Congress was about to end.

International stocks continue to struggle. The broad international MSCI EAFE index was off -1.01% last week and the European-heavy STOXX 600 fell -0.46%. The European Commission cut its outlook for Euro zone growth on November 4th predicting the region will grow just 1.1% in 2015 compared to its forecast of 1.7% six months earlier. The European Union (EU) managed to stem a major confrontation when the French and Italians pledged budget adjustments to improve their 2015 debt forecasts delaying the sanction of fines for violating the Growth and Stability Pact for now; however, these countries will remain under scrutiny to insure they deliver on their pledges. All of this is putting pressure on Mario Draghi, European Central Bank President, to adopt a US-styled quantitative easing program. While the effectiveness of quantitative easing (QE) remains uncertain and will be debated for years to come, I believe two likely outcomes of the Europeans expanding their own QE will be a continued weakening of the Euro (helping exports to the US and other non-EU countries), and further delays of meaningful fiscal policy changes. Without significant fiscal policy changes in labor and tax laws, I believe the EU will struggle to create the growth necessary to overcome the current economic lethargy.


Bond yields edged slightly downward this past week after two weeks of increases. The US 10-year Treasury yield fell -3 basis points (a basis point is .01%--similar to a penny to a dollar) to close Friday at 2.30%. Despite the slight decrease in interest rates, the broad Barclays US Aggregate bond index managed to post a 0.1% gain for the week and is now up 5.5% for the year. The decline in interest rates came following the release of the October Employment Situation report that indicated a gain of private sector jobs of 214,000 compared to an expected increase of 240,000. Additionally, weekly hours worked remained unchanged at 34.6 hours, and wages increased 0.1% compared to an expected increase of 0.2%. The modest tone of this critical economic report failed to convince bond traders to change their overall outlook on economic growth or raise concerns that the Federal Reserve will act sooner than anticipated in raising interest rates, in my view.

The big story within commodities is the continued weakness in oil prices. For the year, WTI Oil has fallen $19.90 (-20.2%) per barrel to close Friday at $78.65. Energy prices have been slipping on a combination of increasing supplies, slowing global economic growth, and a stronger US dollar. The energy sector as a whole is the weakest performing major sector in 2014 with a loss of roughly 1.7%. Weaker energy prices have been beneficial to the average consumer by increasing disposable income, and especially to the airline industry whose profitability is closely correlated to oil prices. Other fuel-intensive industries such as package delivery and trucking should also begin to see a benefit from reduced fuel expenses.

ECONOMIC RAMIFICATOINS OF THE 2014 MID-TERM ELECTIONS

I have read numerous studies over the years that discuss market performance following major elections like the one we just experienced. They are interesting and certainly have a story to tell. Bob Doll, chief equity strategist at Nuveen Asset Management, highlighted this past week that the S&P 500 has jumped 16% on average in the six months following mid-term elections since 1950. Additionally, Doll said that on average the stock market has gone up over 18% in the third year of a president’s term over that same period. His explanation for the six-month increase was the removal of uncertainty in the markets, while he believes the third year of growth is a result of presidents trying to juice the economy in the years leading up to a major presidential election. These broad conclusions are interesting, but what matters to us is tomorrow not yesterday.

I do believe there are some conclusions that can be drawn now. First, with control of the Senate turning over to the Republicans, I anticipate that pro-growth bills will start moving to the President’s desk. What the President does with those bills is anyone’s guess, but votes will be taken, bills will be passed, and positions staked out prior to the 2016 presidential election. Second, I believe that the Republican majority will follow through on their promise to address issues they believe are slowing the economy. Some of these issues include approval of the Keystone Pipeline construction project, major overhaul of the Affordable Care Act (ACA), and addressing perceived excesses of agency rule making by the EPA, Treasury (Dodd-Frank, inversion), and other organizations. Third, look for bipartisan efforts to lower corporate taxes. This could potentially give a boost to the stock market through higher profits and encourage new investment. How successful any of the Republican legislative agenda will be in spurring growth in the economy is unknown at this time due to the many political and geopolitical challenges that still lie ahead.

Looking at what economic areas might benefit by the Republican victory in the mid-terms is a very speculative proposition because while the Republican leadership and caucus may have their agenda, the Democratic Party and President Obama do not support that agenda. That being said, here are some of my thoughts about which sectors might benefit from the elections:

Energy: in addition to pushing for the Keystone Pipeline, the Republicans are supportive of carbon energy. Look for more favorable legislation to counter some of the anti-carbon rule-making coming from the EPA. The US has tremendous potential for exports of coal, liquid natural gas, and even oil if energy companies and these opportunities can be expanded by streamlining regulatory approvals for drilling permits, construction licenses, and export permits. The decline in the global economy and falling energy prices, however, may slow the realization of increased returns in this sector.

Defense: I think Republicans will likely push to increase defense spending to counter growing threats from China, Russia, and ISIS. The world is not a safe place and the US will be required to maintain a high state of readiness to counteract these threats.

Health Care: I believe the future of the Affordable Care Act (ACA) as currently written will be challenged. I do not think the Republicans will be able to “repeal and replace” the law in its entirety, but I do believe they will be able to chip away at some of the more unpopular provisions. Look for repeal of the medical device tax early on. There is bipartisan support for this move. I also expect early legislation to replace the law’s definition of fulltime employment from a 30-hour workweek and with a 40-hour workweek. I have read subsidies to insurance companies to help offset the costs of insurance premiums might be eliminated. This could be a real blow to insurance companies in the short-term. The health care sector has been one of the strongest in 2014, but I do not know if the sector will continue to outperform given the increased uncertainty facing many health care companies. However, the aging demographic within the US will continue to place heavy demands on health care companies helping offset some of the negative effects of potential legislative uncertainty.

With all the discussion about how the Republican Congress will affect the fiscal policies of the nation, do not overlook the Federal Reserve and monetary policy. Fed Chairwoman, Janet Yellen, spoke this past Friday in Paris to European central bankers. Among the many topics she discussed, she said that as our short-term rates begin to rise, “some heightened financial volatility” is likely to occur. I interpret her statement to suggest that stocks will fall when rates go up. I expect the Fed will try to give markets plenty of warning to dampen the negative impact on stocks if Ms. Yellen’s views are correct. There is no clear consensus about when the Fed will actually start raising rates; however, the financial media is reporting a range from spring of next year to early 2016.

LOOKING AHEAD

I suspect that the dust will begin to settle this week following the intensity of last week’s elections. Time to turn our attention to the markets and what is happening in the economy.

Profits remain strong. Reuters reports that 88% of S&P 500 companies have reported 3rd quarter earnings with 74% exceeding analyst estimates. However, the same article reports these analysts keep trimming their profit forecasts, and that earnings growth for the fourth quarter is now estimated to be 7.6% compared to the 11.1% estimate on October 1st. The ability of companies to continue to grow revenues and profits has the potential, in my opinion, of becoming an increasingly important story and worth watching closely.

I continue to hold little confidence that Europe will fix itself anytime soon. If the European Central Bank launches a massive quantitative easing program, I would expect stocks to react positively; however, I do not believe real economic growth will return in any meaningful way and stock performance will likely continue to lag the US. The prospects of continued violence in Ukraine is also contributing to my decision to underweight the international asset category. I am also growing increasingly concerned with the Emerging Markets region. Addressing the same Paris conference last Friday as Ms. Yellen, New York Fed President William Dudley said rising interest rates in the US “could create significant challenges for those emerging market economies that have been the beneficiaries of large capital inflows in recent years.” A potential serious warning for investors in Argentina, Brazil, Chile, Indonesia, Russia, South Africa, and Turkey in particular.

According to DorseyWright & Associates, US stocks continue to dominate the rankings of the top six major asset categories followed by International stocks, Bonds, Foreign Currency, Cash, and Commodities. I continue to recommend over-weighting US stocks in equity allocations.

I remain positive regarding US equities. As always, there are reasons for caution and today is no different. However, do not let short term worries override longer term investment decisions. Markets never go straight up, even in the best bull markets, and this time is no different.

Tuesday is Veteran’s Day and I want to take the time to acknowledge all our veterans past and present. I was privileged to grow up the son and grandson of soldiers and I followed them into Army where I served with the most amazing and talented men and women. One very special group was my leadership team when I commanded an artillery battery in Germany. These men were the best of the best and I was honored to serve with them. Freedom has always carried a heavy price and we continue to face threats from abroad, but I am thankful that our nation is blessed to have young people yesterday and today like these guys who are willing to serve and defend this great country.
L to R: SFC Shiver (Smoke), 1SG Melvin (Top), CPT Merritt (BC), 1LT Johnson (XO), 2LT Lechowitch (FDO), and SFC Dennison (Gunny)

If you have any questions or comments, please reach out to me.





Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of subindices, measuring both sectors and stock-size segments, are calculated for each country and region.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

MARKET UPDATE AND COMMENTARY
October 26, 2014


Just as quickly as the economic storm clouds gathered over stock markets earlier in the month, they cleared and key US indexes posted their best weekly returns for the year. For the week, the Dow Jones Industrial Average (DJIA) gained 2.6%, the S&P 500 rose 4.1%, the Russell 2000 added 3.4%, and the NASDAQ jumped 5.3%. Other than the Russell 2000 (+1.6%) which is now positive for the month, the DJIA (-1.4%), S&P 500 (-0.4%), and the NASDAQ (-0.2%) still remain in negative territory for October. For the year, the DJIA is up 1.4%, the S&P 500 is up 6.3%, the Russell 2000 is down -3.9%, and the NASDAQ is up 7.3%.

The turn in markets coincided with 3rd quarter earnings announcements that have been decidedly positive overall. Current projections suggest that US corporations will exceed last year’s 3rd quarter profits by roughly 10%. Ebola fears have subsided for now. Both Dallas nurses are now Ebola-free, and the case of the Brooklyn doctor does not appear, at this time, to be a concern to the markets.

International markets also rebounded last week. The broad MSCI EAFE index added 2.4% with the European-heavy STOXX 600 gaining 2.6%. The Emerging Markets region lagged with a 0.8% gain. For the month, however, the Emerging Markets region has outperformed the key international indexes I follow with a loss of -1.6%. The STOXX 600 remains down -4.6% in October, and the MSCI EAFE is down about -3.0%. European leaders continue to seek solutions for their economic woes; however, I believe they face significant, self-imposed obstacles.

Bond yields edged slightly upwards this past week for the first time in six weeks. The US 10-year Treasury yield rose nearly seven basis points (a basis point is .01%--similar to a penny to a dollar) to close Friday at 2.263%. The slight rise in interest rates pushed the broad Barclays US Aggregate bond index down 0.3% for the week. For the month, however, this index is up 1.3% and 5.7% for the year.

Commodities in general continue to struggle. The Dow Jones UBS Commodity index lost -0.8% last week as Gold (-0.7%) and WTI Oil (-2.1%) continued their recent slides. Grains are the notable exception to general commodity weakness. Corn and Wheat have risen in price about 10% since October 1st. Coupled with high meat prices, these increases could lead to higher food prices in the next few months.

THE TROUBLE WITH EUROPE

I wrote in my previous Update and Commentary that I had lost confidence in Europe, and despite the recent jump in key European indexes, my view remains. Let me explain.

Several recent events illustrate my concern. First, the German economy has slowed exposing economic weakness in other countries most notably France and Italy (second and third largest countries in the European Union (EU) by Gross Domestic Product--GDP). France is growing at just 0.4% and Italy is contracting -0.2% in 2014. Growth forecasts for 2015 by the International Monetary Fund show the EU growing at an anemic 1.3%, France 1%, Italy 0.8%, and Germany 1.5%.

Second, the ability of the EU to oversee member nations and enforce rules is facing its most important test to date. In response to all of the recent economic troubles, the EU strengthened its Stability and Growth Pact. Under the terms of this pact, member nations are required to reduce annual borrowing to 3% of GDP. France submitted its 2015 budget to the EU projecting borrowing of 4.3% of GDP. The French government currently spends approximately 56% of the nation’s GDP each year. Tax revenues have improved, but spending continues to grow as well. Violating the borrowing levels set by the EU subjects France to an €800 million ($1.01 billion) fine. The EU has forced smaller countries to undertake unpopular austerity measures, so the question confronting the EU is whether they will impose such a fine on France. France has indicated they will not cut spending. If the EU fails to enforce its rules on larger members, there will be no incentive for other countries to adhere to the unpopular austerity measures demanded by the EU, and call into question the viability of the EU. Investors are watching this development very closely.

Third, the EU has just concluded stress tests on 125 of the largest banks in the EU. Results just released show 25 banks failed, an increase of five banks over the last test. Initial reaction to the test results has been mixed. I think this is a negative development and shows continued weakness in the EU banking system.

Fourth, unemployment within the EU remains at high levels. According to Eurostat, unemployment throughout the EU sits at 10.1%. France’s unemployment rate is 10.5%, Italy’s is 12.3%, Spain’s is 24.7%, and Greece is 26.4%. These high unemployment rates are likely to be a drag on any economic growth long-term. Reform-minded leaders such as Italy’s Matteo Renzi have been unable to pass meaningful changes in the face of entrenched self-interests that protect existing, older workers, leaving the unemployed to settle for temporary, poor paying work. Many EU leaders face similar challenges—assuming they want to address labor reform at all.

Finally, the outlook for population growth in the EU does not bode well for the future. A growing population is necessary for economic growth. According to the Population Research Institute (PRI) European countries combined had 10% of the world’s population in 1985. By 2025 that percentage is expected to decline to just 6%. Current birth rates are about 25% below where they need to be just to replace the existing population. A large influx of immigrants into Europe from Africa/Middle East and Asia is helping to mitigate this decline, but at this time, it is uncertain to be enough to counter the trends of the past 30 years.

While population decline is a longer concern, the political dysfunction within the EU is a real and present problem. I have highlighted just a few of the problems facing the EU today. Pressure is mounting on Germany to come to the rescue once again with large public spending projects or to support the European Central Bank’s own quantitative easing program. Germans, for now, do not appear to be receptive to taking on more debt to finance such projects. Even if the Germans do change course and support some version of quantitative easing, I believe the EU will continue to postpone meaningful fiscal policy choices (cut government spending) and limp along. Better growth opportunities, in my view, will continue to be found here in the United States.

LOOKING AHEAD

Earnings season is still underway. With 70% of reporting companies exceeding profit forecasts, I would anticipate this trend to continue and help stocks.

The first case of Ebola reported in New York is certainly a cause for concern, but I believe for now this threat of an Ebola-driven sell-off has declined. As Ebola continues to challenge Africa, I believe that the medical community will improve its tactics for dealing with this deadly disease and reduce the threat there and here.

Among the key economic reports due out this week, the first estimate of 3rd quarter GDP will be released on Thursday morning. Consensus is expecting a 3.0% growth rate, and if this number is met or exceeded, I believe it will calm many investor nerves. Additionally, on Wednesday afternoon the Federal Reserve will report on its current meeting. The Federal Funds rate is expected to remain at the 0% range. Investors will be focused on the language regarding the timing of future increases in this rate. The Federal Reserve is also expected to announce the end of bond purchases officially ending this round of quantitative easing. Initial jobless claims will be announced on Thursday morning, and consensus is calling for initial claims of 280,000. This would be another positive for the markets and reflect an improving employment situation. The final report that I want to draw your attention to is the Personal Income and Outlays report of Friday morning. Consensus expects income to remain steady at 0.3% and outlays to also remain steady at 0.5%. These numbers are very important because increasing income and spending bodes well for future growth.

The mid-term elections are just nine days away. While it is difficult to determine the market impact of election results, they may certainly have some influence.

Overall the economy is slowly and steadily improving, and the likelihood of sharp correction is, in my opinion, unlikely in the near term.

If you have any questions or comments, please reach out to me.





Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of subindices, measuring both sectors and stock-size segments, are calculated for each country and region.

MARKET UPDATE AND COMMENTARY
October 12, 2014


October is off to a tough start. I have no doubt most of you are aware of last week’s volatility so I will not spend time discussing what you already know, rather I want to spend the bulk of this update discussing what led to the selloff, risks, and what my technical indicators are suggesting.

First, a quick market recap.

The Dow Jones Industrial Average (DJIA) fell 466 points (-2.7%) last week closing Friday at 16,544. The size of the daily swings were among the largest of the year. Monday was the “quiet” day with the DJIA losing -18 points. Beginning Tuesday the DJIA swings were off and running losing -273 points, followed by a 275 point gain on Wednesday (best one day gain of the year), a -335 point drop on Thursday (the worst one day loss of the year), and a -115 point drop on Friday. For the year, the DJIA is now down 33 points (-0.2%). Looking at the other major indexes I track the S&P 500 fell -3.1 % last week, the Russell 2000 gave back -4.6%, and the NASDAQ lost 4.4%. For the year the S&P 500 is up 3.1%, the Russell 2000 is down -9.5%, and the NASDAQ is up 2.4%.

Looking at the major economic sectors, Real Estate, Utilities, and Consumer Staples posted positive returns last week likely helped by falling interest rates and the defensive nature of those sectors. Energy, Industrials, Materials, and Technology were the weakest performing sectors losing over 4% each. For the year, Real Estate, Health Care, and Utilities have all posted double-digit gains to lead all sectors; while Energy, Industrials, and Consumer Discretionary are the weakest sectors losing between -2% and -4%.

International markets were all down as well. The European-based STOXX 600 index fell -4%, the worst of the major international indexes I follow. The best performing region last week was the Emerging Markets Region losing just under -0.6%. The broad MSCI EAFE international index fell -2.4% for the week. For the year, the MSCI EAFE index is down -6.6%, the STOXX 600 is off -2.0%, the Emerging Markets Region is up 1.6%, the Asia/Pacific Region is down -2.8%, and the Americas Region is up 1.3%.

The bond market rallied as stocks sold off. The Barclays US Aggregate Bond index gained 0.7% and is up 5.1% for the year. The US 10-year Treasury yield fell 14.5 basis points (a basis point is 0.01%--like a penny to a dollar) to close Friday at 2.29%. This 10-year yield is at its lowest since June 19, 2013. Long-duration bonds, the most interest rate sensitive category, performed well, while credit sensitive bonds like high yield underperformed.

The Dow Jones UBS Commodity index gained 0.2% last week on the strength of gold (+2.4%). WTI Oil continued its slide to close Friday at $85.82 (-4.4%) on weaker global demand and strength of the US Dollar. Natural Gas also fell last week losing -4.5%, while most agricultural commodities managed a slight gain. Falling oil prices are contributing to the weakness in the Energy sector, but will help the average family as gas prices fall.

WHAT’S BEHIND THE SELLOFF?

The consensus within the financial media attributes the current weakness in equity markets to fears of a global slowdown. Most of the attention is on Europe which appears to be heading into another recession. Germany’s 2nd Quarter GDP contracted -0.2%. European Central Bank (ECB) head Mario Draghi’s comments in which he said he was not optimistic about future European growth without structural reform has not helped investor sentiment. Extremely low 10-year government bond rates in the Euro Zone suggest that bond investors share his sentiment. The German 10-year Bund closed Friday at 0.89% and France’s 10-year bond settled at 1.25%. Fears of deflation are resurfacing and Draghi is expected to seek significant infrastructure spending by Germany and other European nations early next week.

I am losing confidence in Europe. The Euro has tied European nations together as never before, but the politicians in the major economies have proven incapable of passing key structural reforms in labor laws and taxation policies necessary, in my view, to get Europe growing again. Draghi gave European politicians time to implement policy changes back in July 2012 when he told the world that he would do everything necessary to save the Euro. Unfortunately, nothing has changed. Time, in my opinion, is running out. I believe another European recession is inevitable and this in turn will affect global economies.

There are several immediate effects here at home. First, the US Dollar has surged relative to the Euro. This hurts US exports to Europe because goods and services now cost almost 10% more than they did three months ago. Second, the Federal Reserve has signaled that it may have to put off raising rates in the US longer than planned over fears that US growth will suffer from a global economic slowdown. Third, if Draghi implements a more aggressive quantitative easing (QE) program in Europe, the value of the Euro is likely to continue falling just as QE here led to a weakening US Dollar. This is not a recipe for global growth, however, I believe some of the negatives will be mitigated here because of cheaper imports, lower commodity prices, and a desire by foreigners to continue investing in the US.

Adding to European concerns, we’ve had confirmation of the first US transmission of the Ebola virus in Dallas. I believe that if the Ebola virus spreads here and in Europe, global economies (not to mention the human toll) will suffer. I sincerely hope the Center of Disease Control’s assurances that they can contain this virus are true, however, if they are wrong, I cannot see how such a catastrophe will not impact the global economy. I am not overreacting at this time, but I am remaining extremely vigilant on this issue.

Finally, the geopolitical situation remains tenuous. Setbacks continue in Middle East, China and Russia appear undeterred, and the absence of North Korea’s premier over the past several months is raising concerns about North Korean stability.

I realize that I have set forth a pessimistic view of the world, but that is where we are today. The markets have taken notice and I believe these are the circumstances contributing to the current short-term weakness in the markets.

While it is easy to focus on all the negative headlines, I want to remind you of the positives. First, the US economy continues to grow. Key economic indicators reflect this strength, however, investors have ignored these facts and sold stocks. Second, my important long-term technical indicators continue to favor stocks. Third, with the recent selloff, most stock categories have reached very oversold levels. In past selloffs, stocks rarely remained at such oversold levels for long before they rallied. While every situation is different, I consider this an important factor. US companies remain strong and I believe they will be able to weather the current weakness, and if the global economy weakens as some predict, I believe the Federal Reserve will have no choice but to hold off raising rates—a positive for markets in the short-term.

LOOKING AHEAD

I will be watching small cap stocks closely. I believe stability will first appear in this sold off market segment. While I have repeatedly said that higher interest rates represent a strengthening economy, the prospect of delayed rate hikes by the Federal Reserve will be welcomed by most investors.

I also believe that higher interest rates will signal a strengthening economy. If the 10-year and 30-year US Treasury yields start climbing again, the equity markets may follow. Remember, the Federal Reserve does not set longer rates so this observation is not inconsistent with my view that the Fed may hold short rates steady for a longer time.

We will be entering earnings season soon. Corporate profitability is critical to stemming the current slide in stock prices. I will be watching earnings announcements very closely.

Among the key economic reports due out next week, the September Retail Sales report will be published on Wednesday. Consensus is expecting a slight pullback of -0.1% compared to August. I believe any upside report will be well received. Weekly Jobless Claims will be announced on Thursday and this is always a closely watched report. Consensus expects 290,000 new claims which would continue reflect an improving employment situation.

Small cap stocks (Russell 2000) have corrected over 10% from their earlier high this year. Technology stocks (NASDAQ Composite) are off 7.2% from their high in September, and large cap stocks (S&P 500) are off 5.6% from their high. A mild correction at this point.

I fully expect volatility to continue with so many uncertainties facing investors. Volatility is unpleasant, but a natural condition in stock markets. However, I will continue watching my technical indicators for any serious breakdown and I will let you know if and when that happens.

If you have any questions or comments, please reach out to me.





Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of subindices, measuring both sectors and stock-size segments, are calculated for each country and region.

MARKET UPDATE AND COMMENTARY
September 28, 2014

I told myself that I was not going to do it, but I just can’t help myself: there are now just 88 days till Christmas! You may be asking yourselves why on earth is Paul bringing up the onset of the holiday season? I have two reasons. First, I am a very slow shopper so I need to start thinking about gifts now if I am going to meet the holiday deadline. Second, and what really matters, is that we are now three-quarters of the way through 2014 and rapidly closing in on 2015. I would like to offer a few thoughts about where we are and where we might be going over the next few months. Before I do, I will quickly summarize September’s actions.

September has two trading days left and the S&P 500 must rally 21 points (1%) to close out the month positive. For the year, however, the S&P 500 is up a respectable 7.3%. The Dow Jones Industrial Average (DJIA) is positive by 0.1% but lags the S&P 500 with a gain of just 3.2% for the year. The technology-heavy NASDAQ exchange is down 1.5% in September but is up 8.0% for the year. Smaller company stocks as measured by the Russell 2000 have had a tough month and year with this index falling 4.7% in September and losing 3.8% for the year.

Interest rate sensitive sectors have underperformed in September as interest rates have made their largest monthly increase in 2014. The US 10-year Treasury Yield has climbed 19 basis points (0.19%) to close Friday at 2.53%. The Real Estate and Utilities sectors have lost about 6% and 4% respectively for the month. The Energy sector has also been hit hard losing a little more than 6% as energy prices continue to pull back. Only Health Care and Consumer Staples have managed to post a positive month so far.

International regions are having a tough month as well. The Emerging Markets region has fallen 5.0% in September followed by the Asia/Pacific region with a 3.7% drop while the Developed Markets region is down 2.8% in September. For the year, the Emerging Markets region is up 4.3%, the Asia/Pacific region is up 1.7%, and the Developed Markets Region is up 2.4%.

The second estimate of the 2nd quarter Gross Domestic Product (GDP) was released on Friday showing an upward revision in real GDP from 4.2% to 4.6%--welcomed, but expected news. The GDP Price Deflator (a measure of inflation) remained unchanged at an annual rate of 2.1% continuing to give the Federal Reserve more latitude on when they may start raising interest rates.

THE YEAR SO FAR

Increasing geopolitical instability has been the overarching theme in the news this year. Ukraine fighting to retain its sovereignty from an expansionist Russia, the rise of ISIS and the increasing military involvement by the US in the Iraq/Syria region, and a more aggressive China are, in my opinion, the most significant challenges facing the US and investors today. Quietly, Argentina and Venezuela are suffering severe economic setbacks led by very socialistic governments, and Brazil finds itself in the midst of its own economic challenges. In addition to geopolitical concerns, investors remain fixated on parsing every word the Federal Reserve utters about the future of monetary policy.

The US economy has continued its “plow horse” growth. After a weather-related setback in the first quarter of the year, the economy rebounded in the second quarter keeping pace with an overall growth rate of just around 2.5%. Corporate profits remain at record levels. The GDP report released on Friday showed that non-financial US corporate profits rose 11.9% and the overall percentage of profits to GDP is at its highest since the early 1950’s. At the same time, European and Asian economies are stagnant or slowing down.

This economic divergence between the United States and the rest of the world has the attention of international investors. Demand for the US Dollar has risen dramatically (foreign investors must convert their home currency into US Dollars to invest here). The Euro has fallen 9.4% to the US Dollar since May 8th and the US Dollar index has increased 8.5% over the same period. This is a seismic shift in terms of currency changes and I believe related, in a positive way, to the rise in interest rates. Let me explain.

While the Federal Reserve controls very short-term interest rates, the market sets longer rates. As Scott Grannis summed it up well this week in his blog, “10-year (Treasury) yields are largely driven by the market’s expectations for economic growth and inflation.” Watching the benchmark 10-year Treasury yield, rising rates indicates a positive growth outlook given the tempered rate of inflation. At the same time the European Central Bank (ECB) is getting ready to launch their own quantitative easing (QE) program to fight sagging economic growth in Europe while the Fed must address raising rates in response to stronger economic growth here. The Federal Reserve, I believe, will be forced to raise rates in response to these changes.

While I believe US markets are the place to be, this does not mean that going forward investors do not face some headwinds, we most certainly do. A rise in interest rates may result in a revaluation of interest rate sensitive stocks such as we have begun to see in the utility and real estate sectors. Additionally, demand for these same stocks may lessen as more conservative investors shift some of their investments back into higher yielding bonds. Greater supply implies lower prices.

So far in 2014 there has been a shift away from small-capitalization stocks. These stocks have underperformed large cap companies by nearly 10% on average. As the theory goes, when investors become nervous about the markets in general, small caps are sold first. I understand this theory, but I am tempered by the knowledge that this has happened several times over the past few years only to see the “riskier” part of the stock market rebound swiftly. As I said in my last Update and Commentary, if you are uncomfortable with your stock exposure, look to the small and mid-cap holdings to raise cash.

Going forward, I believe we will continue to see higher volatility and possible short-term disruptions in stock prices. I am firmly committed to overweighting US stocks over international stocks and bonds. The US economy, for many reasons, has the ability to adapt to the challenges that may lie ahead. US companies are extremely well run and have strong balance sheets. If Washington addresses some of the fiscal policies holding back our economy, we will see this plow horse economy start to gain momentum. Finally, the Federal Reserve must continue to manage monetary policy effectively. I believe the secular bull market will continue to run over the next year or two.


LOOKING AHEAD

September has been a lackluster month for stocks. If the month ended this past Friday, it would be the third weakest month (measured by the S&P 500) and one of four negative months for the year. January and July were worse.

Rising rates have put pressure on many bond sectors with high yield and extended duration among the weakest performers. This may continue if rates keep rising in the last quarter of the year.

The DorseyWright & Associates Money Market sector score currently stands at 1.65 (out of 6.00) up from 1.48 at the end of August. This sector’s overall ranking remains at 128 out of 134, and while this is a trend I generally do not like to see, I am not overly concerned with the sector ranking unchanged at 128.

The September Employment Situation report will be published on Friday. This monthly jobs report is closely watched by investors worried about an early increase in interest rates by the Federal Reserve. The August report surprised investors with a job increase of just 142,000, but consensus is expecting the August number to be adjusted significantly upward and for the September non-farm payroll to show an increase of 215,000 jobs. While the jobs report is very important to investors, it is hard to predict how investors will react to either an upside or downside surprise given the many Federal Reserve cross currents impacting investor decisions.

If you have any questions or comments, please reach out to me.





Paul L. Merritt, MBA, C(k)P®, AIF®, CRPC®
Principal
NTrust Wealth Management

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable; however, NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.
Emerging market investments involve higher risks than investments from developed countries and involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political, or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future. The Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities, which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. The CBOE Volatility Index - more commonly referred to as "VIX" - is an up-to-the-minute market estimate of expected volatility that is calculated by using real-time S&P 500® Index (SPX) option bid/ask quotes. VIX uses nearby and second nearby options with at least 8 days left to expiration and then weights them to yield a constant, 30-day measure of the expected volatility of the S&P 500 Index.
TIPS are U.S. government securities designed to protect investors and the future value of their fixed-income investments from the adverse effects of inflation. Using the Consumer Price Index (CPI) as a guide, the value of the bond's principal is adjusted upward to keep pace with inflation. Increase in real interest rates can cause the price of inflation-protected debt securities to decrease. Interest payments on inflation-protected debt securities can be unpredictable.
The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Currencies and futures generally are volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors’ expectations concerning interest rates, currency exchange rates and global or regional political, economic or financial events and situations.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors and is a capitalization-weighted index meaning the larger companies have a larger weighting of the index. The S&P 500 Equal Weighted Index is determined by giving each company in the index an equal weighting to each of the 500 companies that comprise the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Russell 2000 Index Is comprised of the 2000 smallest companies of the Russell 3000 Index, which is comprised of the 3000 biggest companies in the US. The NASDAQ Composite Index (NASDAQ) is an index representing the securities traded on the NASDAQ stock market and is comprised of over 3000 issues. It has a heavy bias towards technology and growth stocks. The STOXX® Europe 600 is derived from the STOXX Europe Total Market Index (TMI) and is a subset of the STOXX Global 1800 Index. With a fixed number of 600 components, the STOXX Europe 600 represents large, mid, and small capitalization countries of the European region. The Dow Jones Global ex-US index represents 77 countries and covers more than 98% of the world's market capitalization. A full complement of subindices, measuring both sectors and stock-size segments, are calculated for each country and region.