May Market Commentary

The S&P 500 Index, after more than seven years, closed at a new all-time high on the last day of May. In fact, this year has seen almost all major U.S. indices record new highs, with the one exception being the NASDAQ which is still 48% below its 2000 peak. A rather interesting recent manager commentary pointed out four reasons the markets have had such a strong run. First, there has been abundant liquidity among private equity investors and corporate America which has led to an increase in mergers and acquisitions, dividend increases and share buybacks. Second, GDP is showing signs of improvement which has been helped by a resilient consumer, improvements in capital spending and a less intense decline in housing activity. Third, corporate earnings have continued to beat expectations. Nearly 65% of companies within the S&P 500 Index reported better than expected earnings. Altogether, earnings for these companies were 6% above expectations. Fourth, valuations are still reasonable as characterized by the S&P 500 Index’s P/E ratio and its earnings yield/bond yield ratio. Although these points explain much of the recent run-up in stock prices it is important to realize much of this information is already included in stock prices, therefore expectations regarding future returns should be somewhat tempered.

The S&P 500 returned 3.49% during May, underperforming the S&P SmallCap 600 Index’s 4.60% return. At the sector level of the S&P 500 Index, telecommunications and energy were the two best performing sectors, returning 9.65% and 7.18%, respectively. All sectors had positive returns, with utilities and consumer staples returning the least at 0.70% and 1.29% respectively. Value stocks outperformed growth stocks in the large-cap segments of the market. However, small-cap and mid-cap growth did outperform their value counterparts during the month.

International markets lagged the US markets during May. The MSCI EAFE Index returned 2.68% in local currency terms and 1.75% in dollar terms; growth stocks outperformed value stocks. Among developed markets Canada and Portugal posted the strongest gains, advancing by 8.37% and 6.01 %, respectively. Italy and Sweden had the poorest performance losing 2.78% and 1.55%, respectively. The MSCI EAFE Small Cap Index returned 0.51%, and Emerging Markets gained 4.95%. The BRIC (Brazil, Russia, India & China) Index also had strong performance, returning 4.76%.

In contrast to the equity markets, fixed income markets posted generally negative returns during the month. The yield on the 10 Year Treasury was up 27 basis points from the end of April, while the yield on the 2 Year Treasury was up 32 basis points. The Lehman Aggregate Bond Index lost 0.76% and the Lehman Government Bond Index lost 0.79%.. Mortgage-backed and municipal bonds also had negative performance, losing 0.57% and 0.44%, respectively. The high yield market outperformed most other fixed income sectors during the month, posting 0.71% return. International bonds had poor performance during May as the Lehman Global Aggregate Index ex U.S. lost 1.18%.

The Dow Jones-AIG Commodity Index was up 0.13% and real estate, as represented by the Dow Jones-Wilshire REIT Index, gained 0.05%.