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Economic Update

Second Quarter 2018

DoubleLine Macro-Asset Allocation Team

Sam Garza, Portfolio Manager

Fei He, Quantitative Analyst

Ryan Kimmel, Analyst

2

Economic Update

Economic Update 6/30/18

In the second quarter of 2018, global

trade came to the forefront as the

potential for a trade war escalated.

President Trump threatened China

with additional tariffs and China

responded by ceasing trade

negotiation talks. At the same time

the European Union announced

retaliatory tariffs against the U.S. in

response to President Trump’s

decision to impose tariffs on imported

steel and aluminum products.

Meanwhile, a NAFTA deal remained

far from settled.1 The escalation of

protectionist measures along with the

rising U.S. Dollar (USD) weighed on

international equities in the latter half

of the second quarter, particularly

Emerging Markets (EM) which were

down 7.9%, as measured by Morgan

Stanley Capital International (MSCI)

EM Index. U.S. equities outperformed

international equities during the

quarter with the S&P 500 gaining 3.4%

versus the MSCI World ex-U.S. losing

0.4%. Small cap equities, which could

potentially benefit from a

globalization backlash, performed well

during the quarter returning 7.8%, as

measured by the Russell 2000 Index.

In Europe, risk assets came under

pressure as Italy formed a coalition

government between the League and

Five Star parties. The populist parties,

rooted in Euroscepticism and anti-

immigration, shook the Italian

government bond market, with the

spread between the 10 year Italian

government bonds and the German

Second Quarter 2018 Review

1. NAFTA = North American Free Trade Agreement

Source: Bloomberg, DoubleLine Please see appendix for index definitions.

Figure 2: Performance of S&P 500 Sectors As of June 30, 2018

13.5%

8.2%

7.1%6.3%

3.7% 3.4% 3.1% 2.6%

-0.9% -1.5%

-3.2% -3.2%

6.8%

11.5%10.9%

0.6% 0.3%

2.6%1.8%

-3.1%

-8.4% -8.6%

-4.1%-4.7%

-10%

-5%

0%

5%

10%

15%2Q 2018

YTD

Figure 1: Performance of Asset Classes As of June 30, 2018

Source: Bloomberg, DoubleLine *Returns in U.S. Dollars. Please see appendix for index definitions.

3.4%

7.8%

0.7%

-2.5%-1.8%

-0.2%

-7.9%

0.1%

-1.0%

1.0%

-3.7%

5.0%

-5.2% -4.0%

-9.0%

13.1%

-5.4%

-2.4%

2.6%

7.7%

-0.2%

-3.5% -3.3%

0.5%

-6.6%

-1.1%

-3.3%

0.2%

-5.5%

2.5%

-2.7%

1.8%

-7.3%

21.6%

-4.5%

-10.5%

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%2Q 2018

YTD

Equities Fixed Income Foreign Exchange Commodities

3

Economic Update


Bunds widening to the highest level

since 2013.

European equities, as measured by

the Eurostoxx 50 Index,

underperformed the broader market

with the Index down 1.8% in USD

during the quarter.

The rising USD was another important

market driver during the quarter. The

U. S. Dollar Index (DXY) was up 5%

during the quarter, the largest

quarterly rise since President Trump

was elected. The USD was supported

by a number of factors including the

outperformance of U.S. economic

growth versus the rest of the

developed world, a relatively more

hawkish Federal Reserve (Fed), and

extreme short positioning in the USD

at the beginning of the quarter. The

sharp appreciation of the USD

wreaked havoc on a number of asset

classes. For example, EM fixed

income declined with spreads

widening to its widest level since the

fourth quarter 2016. EM currencies

came under significant pressure with

the JP Morgan EM Currency basket

down 9.0% during the quarter. Some

of the biggest declines were seen in

the Brazilian Real -14.7%, Turkish Lira

-13.9%, and South African Rand

-13.7%.

Within U.S. equities, Energy stocks

were the top performing sector

during the quarter with the Energy

component of the S&P 500 rising

13.5%. Energy stocks benefitted from

higher crude prices. WTI reached the

highest level since November 2014 on

the back of supply disruptions in

Venezuela and Iran, as well as

declining crude oil inventories.2

Performance across asset classes and

sectors can be seen in Figures 1 & 2.

The risk of trade wars should remain

a primary focus in the coming

months. While our base case is not a

full blown trade war, we admit the

situation is very fluid and respect the

potential for a political miscalculation.

A trade war would have a material

negative impact on global economic

activity. The negative feedback loop -

originating from declining market

sentiment and rising volatility in

financial markets - could lead to a

significant pullback in global risk

markets and potentially a global

economic recession. At present, we

have seen no material deceleration in

the economic indicators we monitor,

particularly domestic indicators. In

fact, both U.S. business and consumer

sentiment surveys are still near multi-

cycle highs, as can be seen in Figure 3.

We will be monitoring these

confidence measures closely over the

next few months for any signs of

deterioration.

The path of the USD will be important

for a variety of asset classes over the

coming quarters. If the USD continues

to appreciate, then EM equities and

fixed income will likely feel the

pressure. To the contrary, our base

case is that the USD will resume its

2. WTI = West Texas Intermediate

Figure 3: Measures of Business and Consumer Sentiment October 31, 2002 to June 30, 2018

Source: Bloomberg, DoubleLine Please see appendix for index definition.

-4

-3

-2

-1

0

1

2

3

Oct

-02

May

-03

Dec

-03

Jul-

04

Feb

-05

Sep

-05

Ap

r-0

6

No

v-0

6

Jun

-07

Jan

-08

Au

g-0

8

Mar

-09

Oct

-09

May

-10

Dec

-10

Jul-

11

Feb

-12

Sep

-12

Ap

r-1

3

No

v-1

3

Jun

-14

Jan

-15

Au

g-1

5

Mar

-16

Oct

-16

May

-17

Dec

-17

z-sc

ore

Recession

Consumer Confidence

CEO Confidence

Home Builders Confidence

Small Business Optimism

Average

Outlook

4

Economic Update


downtrend which began in 2017. We

believe many of the macro drivers

that supported the USD over the last

few months will begin to normalize

over the coming months. In the first

half of the year, U.S. economic growth

accelerated while other developed

countries witnessed growth

deceleration during the period. As

seen in Figure 4, U.S. relative

economic growth performance versus

Group of 10 countries, as measured by

the Citi Economic Data Change

Indices, tended to lead the DXY.3 As

the positive impacts from tax reform

roll off, and the headwinds from rising

USD and borrowing rates combined

with increased risk of trade war begin

to percolate into the market, we could

see U.S. economic outperformance

begin to moderate. That would be a

headwind to the USD. The USD has

benefitted from the divergence in

monetary policy between the Fed and

other developed countries’ central

banks. The Fed has been tightening

monetary policy since it announced

tapering late 2013. Using the Wu-Xia

shadow rate, which accounts for

quantitative easing to measure the

effective policy rate during zero lower

bound periods, as a proxy for policy

rates, we can see that both the

magnitude and duration of the current

tightening cycle are larger than

previous hiking cycles (Figure 5).4 We

could be near the end of the current

Fed hiking cycle. In fact the market is

beginning to price the end of the

hiking cycle. Fed fund futures indicate

Figure 4: U.S. Citi Economic Data Change vs Group of 10 Citi Economic Data Change and DXY

July 5, 2013 to June 29, 2018

Source: Bloomberg, DoubleLine *RHS = Right Hand Side. Please see appendix for index definitions.

78

83

88

93

98

103

-250

-200

-150

-100

-50

0

50

100

150

200

250

DX

Y In

dex

Cit

i Dat

a C

han

ge

U.S. G-10

DXY (RHS)*

3. The Citi Economic Data Change Indices measure data releases relative to their 1-year history. A positive reading means that data releases have been stronger than their 1-year average, and a negative reading means that data releases have been worse than their 1-year average. 4. The Wu-Xia shadow rate model is not bounded by the zero lower bound and can be used as a proxy to measure the extent of monetary policy when the zero lower bound has been reached and unconventional monetary policies have been deployed. Examples include the Federal Reserve’s large-scale asset purchase program and forward guidance.

Figure 5: Change in Effective Fed Funds During Hiking Cycles* As of June 30, 2018

Source: Bloomberg, DoubleLine *2014-2018 Hiking cycle proxied by the Wu-Xia Shadow Rate

-5

-4

-3

-2

-1

0

1

2

3

4

5

6

-40 -35 -30 -25 -20 -15 -10 -5 0 5 10 15 20 25 30 35 40 45 50

Pe

rce

nt

Ch

ange

Months Around Fed Tightening

1994-1995

1999-2000

2004-2006

2014-2018 (Wu-Xia)

2015-2018 Fed Actual

5

Economic Update


the market does not expect rate hikes

between 18 to 30 months out (Figure

6). In contrast, other developed

central banks will begin their

tightening cycle as the European

Central Bank (ECB) is expected to

begin hiking rates next year. This

central bank policy convergence could

be a headwind for USD. In addition,

the short USD positioning seen at the

beginning of the quarter has been

cleared out and is currently net long

USD (Figure 7).

A weaker USD should benefit EM

equities and fixed income. As seen in

Figures 8 and 9, EM equities and fixed

income performance are negatively

correlated to the USD. We continue to

look for opportunities in EM during

the third quarter. A key risk to EM is

the threat of a reversal of the decade

long globalization trend. If U.S.-China

protectionism escalates then

allocations to EM will have to be

reconsidered.

We remain neutral on government

bonds and duration over the near-

term. The fundamental backdrop for

government bonds is not constructive,

given the increased deficit spending

and bond issuance, declining foreign

demand, and rising inflation.

However, the extreme short

positioning, as seen in Figure 10,

increases the likelihood of a short

squeeze and the threat of a trade war

could increase demand for U.S.

Treasuries (UST) in a risk-off

environment.

Figure 6: Fed Rate Hikes 18 - 30 Months Out Implied by Fed Fund Futures As of June 30, 2018

Source: Bloomberg, DoubleLine

0

0.5

1

1.5

2

2.5

3

3.5

4

4.5

5

Nu

mb

er o

f H

ikes

Figure 7: U.S. Dollar Commodity Futures Trading Commission Net Positioning As of June 30, 2018


-500,000

-400,000

-300,000

-200,000

-100,000

0

100,000

200,000

300,000

400,000

500,000

Co

ntr

acts

USD CFTC Net Long Positions indicated by positive regionsUSD CFTC Net Short Positions indicated by negative regions

6

Economic Update


Within credit we still prefer structured

products over corporate credit.

Structured products, in aggregate,

have lower duration than the

corporate sector and principle

amortization can be reinvested at

higher rates. Floating rate instruments

such as Bank Loans and Collateralized

Loan Obligations are also attractive as

LIBOR rates continue to rise.5

We remain constructive on

Commodities and prefer Commodity-

related equities, such as Energy

stocks. As we highlighted in the past,

commodities tend to outperform

other asset classes in the late-stage of

economic cycles and perform well in

rising inflation regimes.

We think the performance of financial

markets will be contingent on the U.S.

-China trade dynamic in the second

half of 2018. Much is at stake. The

Trump Administration appears to be

playing a game of chicken with China,

in which it believes China will flinch

first. It is not clear that China will back

down. If not it would be a major

miscalculation by the Trump

Administration. We believe this

potential outcome is

underappreciated by market

participants. Assuming no trade war,

the USD should weaken which should

create a buying opportunity in EM

debt and equities. Late-cycle dynamics

indicate that Commodities could

outperform other asset classes over

the coming months. We have geared

our portfolios to benefit from our

Figure 8: S&P 500 vs MSCI EM Ratio and DXY July 1, 2013 to June 29, 2018



Figure 9: JP Morgan EMBI Spread and DXY July 1, 2013 to June 29, 2018

5. LIBOR = London Interbank-Offered Rate

75

80

85

90

95

100

105

1.5

1.7

1.9

2.1

2.3

2.5

2.7

2.9

DX

Y In

dex

Rat

io

S&P 500/MSCI EM Ratio

DXY (RHS)

75

80

85

90

95

100

105

250

300

350

400

450

500

550

DX

Y In

dex

Spre

ad

JP Morgan EMBI Spread

DXY (RHS)

7

Economic Update


constructive Commodity view. It is less

clear how Government bonds perform

over the near-term and we maintain a

neutral stance on the asset class. We

will wait for a break higher in yields

before tactically reducing duration.

While the economic indicators we

monitor signal no sign of an economic

recession over the next few quarters,

a trade war could have severe

negative impacts on sentiment and

financial markets and could usher in a

recession. We will continue to

monitor real time indicators of

sentiment and will stand ready to act

if our base case view of potential

trade war changes. Stay nimble in the

second half of 2018. Good luck!

-600,000

-400,000

-200,000

0

200,000

400,000

600,000

Co

ntr

acts

10-Year UST Net Long Positions indicated by positive regions10-Year UST Net Short Positions indicated by negative regions

Figure 10: 10-Year UST Net Positioning July 3, 2007 to June 26, 2018


8

Author Biographies


Ryan Kimmel

Analyst, Macro-Asset Allocation

Ryan Kimmel is an Analyst for DoubleLine Capital’s Multi-Asset Growth Strategy. Mr. Kimmel joined Dou-

bleLine in 2012. Prior to DoubleLine, Mr. Kimmel was a Proprietary Trader at The Gelber Group, trading

currencies for the Foreign Currency Group. Before Gelber, Mr. Kimmel was an Investment Banking An-

alyst in Morgan Stanley’s Mergers and Acquisitions Group. Mr. Kimmel holds a BA in Business Economics

from the University of California, Los Angeles and holds an MBA from the Anderson School of Manage-

ment at the University of California, Los Angeles.

Samuel M. Garza

Portfolio Manager, Macro-Asset Allocation

Mr. Garza joined DoubleLine in 2009. Prior to DoubleLine, Mr. Garza was a Senior Vice President at TCW

since 2000 where he held several positions over the years ending with his last promotion to Senior Vice

President in 2005. Prior to TCW, Mr. Garza worked at Union Bank of California in the Commercial Bank-

ing Group where he was involved with corporate loan underwriting. Mr. Garza holds a BA in Business

Economics from the University of California, Santa Barbara and an MBA from the Anderson School of

Management at the University of California, Los Angeles.

Fei He, CFA

Quantitative Analyst, Macro-Asset Allocation

Mr. He joined DoubleLine’s Macro-Asset Allocation team in 2014 as a quantitative analyst. Prior to join-

ing the firm, he worked at PIMCO for three and half years as a quantitative research analyst where he

began in client analytics, advising clients on strategic asset allocation and later moved to emerging mar-

kets and commodities. Mr. He began his career at Absolute Return Capital Advisors as a portfolio/

research associate. He has published papers, including the Financial Analysts Journal. Mr. He holds an

MS in Financial Engineering from UCLA Anderson School of Management and a PhD in Molecular &

Medical Pharmacology from UCLA David Geffen School of Medicine. He graduated from Tsinghua Uni-

versity in Beijing with a BS in Biological Sciences & Biotechnology and is a CFA charterholder.

9

Definitions


“CEO Confidence” - Conference Board’s CEO Confidence Survey - An index based on a survey that collects responses from approximately 100 CEOs from various indus-tries regarding attitudes and expectations for the economy and their respective industries.

Citi Economic Data Change Index - The Citi Economic Data Change Indices measure economic data releases relative to their 1-year history. A positive reading means that data releases have been stronger than their 1-year average, and a negative reading means that data releases have been worse than their 1-year average.

“Consumer Confidence” - Conference Board’s Consumer Confidence Index - An index that measures the degree of optimism that consumers feel and future expecta-tions about the overall economy.

Duration - A measure of the sensitivity of the price of a fixed income investment to a change in interest rates, expressed as a number o f years.

“Emerging Markets” - Morgan Stanley Capital International Emerging Markets Index (MXEF) - A float-adjusted market capitalization index designed to measure equity market performance in global emerging markets. The index consists of 26 emerging economies, including but not limited to, Argentina, Brazil, China, India, Poland, Thai-land, Turkey, and Venezuela.

“EM Sovereign” - Bloomberg Barclays Emerging Markets Sovereign Index - A hard currency EM index that includes fixed and floating-rate U.S. dollar-denominated debt issued by sovereign EM issuers.

“EMFX” - JP Morgan Emerging Markets Currency Index - This index tracks debt issued in local currencies in emerging markets governments.

Eurostoxx 50 Index - A stock index of Eurozone stocks designed by STOXX, an index provider owned by Deutsche Borse Group and SIX group, with the g oal of provid-ing a blue-chip representation of Supersector leaders in the Eurozone.

Group of 10 - Made up of eleven industrial countries (Belgium, Canada, France, Germany, Italy, Japan, the Netherlands, Sweden, Switzerland, the United Kingdom and the United States) which consult and co-operate on economic, monetary and financial matters. “Home Builders Confidence” - National Association of Home Builders Market Index - The index tracks sentiment among participants in the housing industry. A reading above 50 indicates more builders view conditions as good than poor.

JP Morgan Emerging Markets Bond Global Diversified Index (EMBI) -This index is uniquely-weighted version of the EMBI Global. It limits the weights of those index countries with larger debt stocks by only including specified portions of these countries’ eligible current face amounts of debt outstanding. The countries covered in the EMBI Global Diversified are identical to those covered by EMBI Global.

Morgan Stanley Capital International All Country World Index (MSCI ACWI) - A market-capitalization-weighted index designed to provide a broad measure of stock performance throughout the world, including both developed and emerging markets.

Morgan Stanley Capital International All Country World Index ex U.S. (MSCI ACWI ex U.S.) - A market-capitalization-weighted index that captures large and mid cap representation across 22 of 23 Developed Market countries (excluding the U.S.) and 24 Emerging Market countries. The Index covers approximately 85% of the global equity opportunity set outside the U.S.

Morgan Stanley Capital International Emerging Markets Index (MSCI EM) - A free float-adjusted market capitalization index that is designed to measure equity market performance of emerging markets. As of May 27, 2010 the MSCI Emerging Markets Index consisted of 21 emerging market economies.

Nikkei 225 Index - A price-weighted index comprised of Japan's top 225 blue-chip companies on the Tokyo Stock Exchange. The Nikkei is equivalent to the Dow Jones Industrial Average Index in the U.S.

Russell 2000 Index - A subset of the Russell 3000 Index representing approximately10% of the total market capitalization and measuring the performance of the small-cap segment of the U.S. equity universe.

“Small Business Optimism” - National Federation of Independent Business (NFIB) Small Business Optimism Index - The small business optimism index is compiled from a survey that is conducted each month by the National Federation of Independent Business (NFIB) of its members. The index is a composite of 10 seasonally adjusted components based on the following questions: plans to increase employment, plans to make capital outlays, plans to increase inventories, expect economy to improve, expect real sales higher, current inventory, current job openings, expected credit conditions, now a good time to expand, and earnings trend.

Spread - The difference between yields on differing debt instruments, calculated by deducting the yield of one instrument from another. The higher the yield spread, the greater the difference between the yields offered by each instrument. The spread can be measured between debt instruments of differing maturities, credit ratings and risk.

Standard & Poor’s U.S. 500 Index (S&P 500) - A capitalized-weighted index of 500 stocks chosen for market size, liquidity and industry grouping, among other factors. This index is designed to be a leading indicator of U.S. equities and is meant to reflect the risk/return characteristics of the large cap universe.

“U.S. Corporate IG” - Bloomberg Barclays U.S. Aggregate Corporate Index - An index that measures the investment grade, U.S. dollar-denominated, fixed-rate taxable bond market, including Treasuries, government-related and corporate securities.

“U.S. Corporate HY” - Bloomberg Barclays U.S. Corporate High Yield Index - An index that measures the U.S. dollar-denominated, high yield, fixed-rate corporate bond market.

“U.S. Treasuries” - Bloomberg Barclays U.S. Treasury Index - An index that measures U.S. dollar-denominated, fixed-rate, nominal debt issued by the U.S. Treasury

U.S. Dollar Index (DXY) - DXY is the U.S. Dollar Index (USDX) indicates the general value of the U.S. Dollar. Average exchange rates between the US dollar and six major world currencies.

Z-Score - A statistical tool that utilizes corporate income and balance sheet values to predict the probability of corporate defaults and as an indicator of the status of financial distress for firms.

An investment cannot be made directly in an index.

10

Disclaimers


Important Information Regarding This Report

Issue selection processes and tools illustrated throughout this presentation are samples and may be modified periodically. Such charts are not the only tools used by the

investment teams, are extremely sophisticated, may not always produce the intended results and are not intended for use by non-professionals.

DoubleLine has no obligation to provide revised assessments in the event of changed circumstances. While we have gathered this information from sources believed to

be reliable, DoubleLine cannot guarantee the accuracy of the information provided. Securities discussed are not recommendations and are presented as examples of

issue selection or portfolio management processes. They have been picked for comparison or illustration purposes only. No security presented within is either offered for

sale or purchase. DoubleLine reserves the right to change its investment perspective and outlook, as well as portfolio construction, without notice as market conditions

dictate or as additional information becomes available. This material may include statements that constitute “forward-looking statements” under the U.S. securities laws.

Forward-looking statements include, among other things, projections, estimates, and information about possible or future results related to a client’s account, or market

or regulatory developments.

Ratings shown for various indices reflect the average for the indices. Such ratings and indices are created independently of DoubleLine and are subject to change without

notice.

Important Information Regarding Risk Factors

Investment strategies may not achieve the desired results due to implementation lag, other timing factors, portfolio management decision-making, economic or market

conditions or other unanticipated factors. The views and forecasts expressed in this material are as of the date indicated, are subject to change without notice, may not

come to pass and do not represent a recommendation or offer of any particular security, strategy, or investment. Past performance (whether of DoubleLine or any index

illustrated in this presentation) is no guarantee of future results. You cannot invest in an index.

Important Information Regarding DoubleLine

In preparing the client reports (and in managing the portfolios), DoubleLine and its vendors price separate account portfolio securities using various sources, including

independent pricing services and fair value processes such as benchmarking.

To receive a complimentary copy of DoubleLine’s current Form ADV (which contains important additional disclosure information), a copy of the DoubleLine’s proxy voting

policies and procedures, or to obtain additional information on DoubleLine’s proxy voting decisions, please contact DoubleLine’s Client Services.

Important Information Regarding DoubleLine’s Investment Style

DoubleLine seeks to maximize investment results consistent with our interpretation of client guidelines and investment mandate. While DoubleLine seeks to maximize

returns for our clients consistent with guidelines, DoubleLine cannot guarantee that DoubleLine will outperform a client's specified benchmark. Additionally, the nature

of portfolio diversification implies that certain holdings and sectors in a client's portfolio may be rising in price while others are falling; or, that some issues and sectors

are outperforming while others are underperforming. Such out or underperformance can be the result of many factors, such as but not limited to duration/interest rate

exposure, yield curve exposure, bond sector exposure, or news or rumors specific to a single name.

DoubleLine is an active manager and will adjust the composition of client’s portfolios consistent with our investment team’s judgment concerning market conditions and

any particular security. The construction of DoubleLine portfolios may differ substantially from the construction of any of a variety of bond market indices. As such, a

DoubleLine portfolio has the potential to underperform or outperform a bond market index. Since markets can remain inefficiently priced for long periods, DoubleLine’s

performance is properly assessed over a full multi-year market cycle.

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Clients are requested to carefully review all portfolio holdings and strategies, including by comparing the custodial statement to any statements received from

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guideline enabling language is subject to interpretation and DoubleLine strongly encourages clients to express any contrasting interpretation as soon as practical. Clients

are also requested to notify DoubleLine of any updates to Client’s organization, such as (but not limited to) adding affiliates (including broker dealer affiliates), issuing

additional securities, name changes, mergers or other alterations to Client’s legal structure.

DoubleLine® is a registered trademark of DoubleLine Capital LP.

© 2018 DoubleLine Capital LP

doubleline multi-asset growth economic update · economic update economic update 6/30/18 in the...

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