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2018 Fall Newsletter — Third Quarter Review 10/11/2018

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“All at once, summer collapsed into fall.”
Oscar Wilde

Preparing for the Elements, Regardless of Season

Although we know that when Labor Day weekend arrives we’ll be saying good bye to summer, it always seems to take us by surprise. As the weather cools and we prepare for all what might be around the next ‘economic’ corner, we are pleased to announce two very important additions to our team that we believe improve our ability to serve you, regardless of the ‘weather’ that comes. We also expect to announce another significant add to our investment team within the next 60 days.

  1. Ed Moran, Chief Compliance Officer: Edward Moran has joined Cribstone Capital as Chief Compliance Officer and Advisor. Ed has made quite an impact in the Maine Investment arena, having served over the last eight years as the Director of Examinations & Licensing for the State of Maine Office of Securities. Prior to joining the State of Maine, Ed built a successful Financial Advisory and Planning business in Augusta. Ed ensures that Cribstone not only maintains the highest of compliance standards and coordination with the best practices and policies of the Securities and Exchange Commission, but helps us guard against external risk events like cyber-attacks and identity theft.
  2. Taylor Haselgard, Portfolio Manager: Cribstone is pleased to welcome Taylor to our Investment Team as Portfolio Manager. Following a successful engagement with the Crosby Company as a Financial Analyst, Taylor recommitted to furthering his capabilities and enrolled in Babson College’s MBA program, where he served a leader in Babson’s Student-led Portfolio. Taylor will serve on our Investment Team, and will also play an important role in administering and implementing Cribstone’s investment approach.

It is with mixed emotions that we announce that Micah Davis-Johnson has departed Cribstone. Micah was impactful in his three years with us, most notably for helping us migrate to our new portfolio management and reporting platform, Tamarac. We wish Micah the best in his future endeavors.

Stocks Cooling a Bit

Even though we knew that one day the dominance of the technology stocks, and, hence, stock market performance overall, may waiver, it seems to have happened quite suddenly. Sure, U.S. stocks are still in quite positive territory so far this year, with the S&P 500 up over 10% through the end of the third quarter, but the pace and source of performance in September moderated a bit. Consider this:

  • Market performance finally started to broaden out to include stocks other than those in the technology sector. Case in point: All year long we’ve watched tech stocks, particularly a small group of tech stocks like Apple, Amazon, Microsoft and Google, dominated market performance. That changed significantly last month. While year-to-date, the top ten contributors to performance were still all tech stocks, in September only three of the top ten were. Indeed, the top contributor in September was Exxon Mobil, with Boeing, Berkshire Hathaway and a few health care names filling out the mix.
  • In the month of September, technology was one of the worst performing sectors, falling 0.3% versus a 0.6% increase for the S&P 500.
  • We witnessed a shift in leadership from a more aggressive style of investing toward the defensive sectors. For example, as tech has faltered, the steady, high quality dividend paying sectors like consumer staples, healthcare and telecommunications took the lead, rising 1.0%, 2.9% and 4.3% respectively last month.
  • Finally, international stocks reversed course. After having lagged the U.S. all year and declining by 1.43%, International Developed Markets as measured by the MSCI EAFE index rose 0.87% in September, almost double the return of the US. Market.

Normal Weather Patterns or a Big Chill?

The question is whether or not this recent pause in the action is normal stock market behavior for this time of year or a harbinger of tougher times ahead. The fall is typically a weaker season for the stock market. Indeed, since 1950, the month of September has seen an average decline in the S&P 500 of 0.5%. One theory points to the fact that many mutual funds are on a September fiscal year end, and after coming back from summer vacation, their managers decide to sell losing positions before they close out the year.

Yet from a fundamental standpoint, the economic environment still presents a favorable backdrop to stocks. Expectations for earnings growth in the third and fourth quarters remain bullish thanks to economic indicators that are still quite healthy, such as employment and consumer confidence.

As we enter 2019, however, things may get a bit more challenging from an earnings standpoint. Expectations for earnings growth are significantly more muted, or more like single digit growth as opposed to the double-digit growth we enjoyed this year. Higher raw material prices as a result of new tariffs going in effect are already being cited as reasons why some companies expect earnings growth to slow in coming quarters.

Not only that, but higher interest rates may start taking a bite. As expected, the Federal Reserve hiked the federal funds rate at their September meeting for a third time this year to a range of 2.00-2.25%. At the same time, the Board indicated that they would raise rates again in December and three more times in 2019 if the current pace of economic activity and inflation persisted. That may ultimately impact consumer and businesses’ willingness to spend. Indeed, signs of softening have already appeared in the housing market.

Global Growth Frost Warnings

International equities have already been disappointing this year until just recently thanks to slowing economic growth and the impact of a stronger dollar. The MSCI All World ex-US Index, which tracks developed markets like Europe and Japan has declined 6.2% so far this year. Emerging markets are off more than 11%, and weakened along with commodities prices. Even though Europe’s growth is expected to continue, it will likely do so at a slower pace. After hitting a 2.3% rate in 2017, this year European Union growth is estimated at 2.1%, slowing again to 1.9% in 2019. Likewise, while China, the world’s second largest economy, still sets the pace, trending at a 6.5% growth rate this year, it also may moderate to more like 6.3% in the following two years, according to World Bank projections.

Rising Rates Have Chilled the Bond Market

We have posited for the better part of the last three years that interest rates would be on the rise. Well, the movement in rates took much longer to materialize than we expected, but it certainly has occurred in 2018 with vigor. The ten-year Treasury has moved from a low of yielding 1.37% in July 2016 to 3.19% as we write this. This year alone, the ten year has risen 0.72%. Our focus on shorter term bonds has materially helped this year as you recall, as interest rates rise, bond values fall.

While this year has been quite disjointed, with US Growth Stocks rising and seemingly most everything else falling, we believe strongly that maintaining a well-diversified portfolio has value, both in terms of managing risk and investing for opportunity. We look forward to introducing you to our new team members during your next visit, and to helping you navigate through what has been, and will likely continue to be, a very unique market environment.

In the meantime, please let us know if there’s anything else we can do to help.

Sincerely,

The Cribstone Team
 

Cribstone Capital Management (“CCM”) is an SEC registered investment advisor located in the State of Maine. The firm and its representatives are in compliance with the current registration and notice filing requirements imposed upon SEC registered investment advisors. CCM may only transact business in those states in which it is notice filed or qualifies for an exemption from notice filing requirements. For information pertaining to the registration status of the firm, please contact the SEC on its website at www.adviserinfo.sec.gov. A copy of the firm’s current written disclosure brochure discussing the firm’s business operation and fees is available from CCM upon request.

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