Last summer I created a portfolio that in my belief would benefit from or in particular outperform set of benchmarks from an interest rate increase by the Federal Reserve. After 9 months I’ve decided to revisit and touch upon the current market environment.

 

An Ill-Advised Stone Cold Monetary Policy

This project was to test how a chosen portfolio will react to an increase in interest rate hikes and since none has come the projects timeline will have to change. The environment around the world has been one of perplexity. So obviously the portfolio is not poised to perform well in low-interest rate environments. The Federal Reserve has constantly been saying over the course of Janet Yellen, the Federal Reserve Chairwoman, tenure that the their are two data-driven economic stats that the “transparent” Federal Reserve uses to help determine changes in the federal funds rate. The Dual Mandate is what was passed in the 1970s for the Federal Reserve’s dual purposes:

Full employment

Inflation target at 2%

These two pieces of economic data were to be monitored carefully and were made known through the Federal Reserve’s meeting minutes and statements and Janet Yellen’s testimonies that an interest rate movement would be dependent on these two factors. I am well aware other factors come to play, especially other central banks monetary policies, but by emphasizing full employment (which according to a post by the Federal Reserve of Cleveland is around 5-6 percent unemployment) and an inflation target of 2% it has mislead the general public to perceive these two factors were the leading pieces of economic data to go by for an interest rate increase.

According to a U.S. Bureau of Labor Statistics news release, unemployment levels have steadily decreased to 5% and even below 5% at the end of 2015.

According to a U.S. Bureau of Labor Statistics news release, the Consumer Price Index (CPI) widely known as the best tracker of inflation, has risen over 2% starting the beginning of 2016.

If you were to isolate these two pieces of data for making interest rate decisions, the federal funds rate should have moved up in the start of 2016. It is when you take a look at two other factors that have the Federal Reserve in a troubled spot.

Financial Markets

Global Interest Rate Environment

The general financial market downturn in late January to start the year in 2016 I believe was a mistaken motive or factor that drove the Federal Reserve to hold off raising the federal funds rate. The cardinal rule in economics is to not make monetary policy decisions based on the general market movements. This I believe was broken and caused a loop reaction that does not fair well for general economy. This terrible decision-making has led to the situation we currently have; the market is looking to the federal reserve for guidance, while the federal reserve is basing its decisions off of the market (in part).

The global interest rate environment has been unprecedented in the levels of extremely low interest rates and the innovations of negative interest rates in countries like Denmark, Sweden, Switzerland, and Japan. This has caused a strengthened dollar against many global currencies that has caused multi-national corporations trouble turning revenues from multiple currencies back into U.S. dollars. By the devaluation of many nation’s currencies along with the complexities of quantitative easing and negative interest rates in the global market place, it has driven the Federal Reserve to rethink raising the federal funds rate.

While this has fixed-income markets, it can be argued that the low-interest rate environment has led to inflated equity prices.

Looking Forward

Before going over the portfolio’s performance, I’d like to write a few words on what is expected for the portfolio looking forward.

This portfolio was passively managed. Meaning that after the weighting was set, there was no change in the portfolio’s weights. The portfolio will be reevaluated in the summer regarding weighting of the portfolio.

While this has been a medium-term project and my time-horizon was mistaken, I still am in firm belief that this project is still relevant. It may be a farther horizon date than previously stated, but will be updating from time-to-time on this project. Once the project hits a year old, there will be an update along with what is expected moving forward.

9-Month Performance

Here is how the portfolio has performed over the 9-month period:

 

Company	% Of Portfolio	Performance*
Regional Financial Corp.	12%	-9%
East West Bancorp, Inc.	12%	-14%
The Allstate Corporation	3%	-3%
Commerce Bancshares, Inc.	6%	-1%
Prudential Financial, Inc.	6%	-11%
Marsh & McLennan Companies, Inc.	23%	6%
M&T Bank Corporation	35%	-9%
BB&T Corporation	3%	-12%

TOTAL PORTFOLIO 9-MONTH PERFORMANCE: -6%

*Dividends not included

Performance vs. Benchmarks

As stated in the Interest Rate Project, there are 3 benchmarks that this portfolio will be put against.

S&P 500

Leading Regional Bank ETF

Leading Regional Bank Mutual Fund

Here is the performance of the portfolio against the chosen benchmarks.

Portfolio	Time Period	Return**
Alleyway Investing Portfolio	July 20th – April 22nd	-6%
iShares U.S. Regional Bank ETF (IAT)	July 20th – April 22nd	-9%
John Hancock Regional Bank A (FRBAX)	July 20th – April 22nd	-6%
S&P 500	July 20th – April 22nd	-2%

**Dividends not included

It is understandable for this project to underperform the S&P 500 on measures that the low-interest rate environment, but outperformed the chosen regional bank ETF, and tied the chosen mutual fund, (but if include the mutual fund fees the chosen portfolio probably outperformed this benchmark as well).

For any questions, comments, concerns please email alleywayinvesting@gmail.com for more information.