Quarterly Market Performance Commentary
As the US begins to emerge from nearly 18 months of pandemic-induced hibernation, markets rallied for another positive quarter. Contrary to quarterly performance in 2020 and early 2021, the returns generated in Q2 2021 came with relatively minimal volatility (see Figure 1 Right). Market volatility was suppressed partly due to a favorable economic outlook from the Federal Reserve (“Fed”) and strong quarterly earnings reports(1). COVID-19 cases continued to decline globally as vaccination rates climbed in many countries around the world; however, a new threat to global economies emerged with the recent Delta variant. Developed and emerging countries, which have been slow to vaccinate, remain vulnerable to the virus.
Inflation has become a hot button issue again. Accelerated vaccination efforts allowed many businesses and consumers to resume normalcy, boosting demand and discretionary spending; however, the supply of goods and services is struggling to keep up. In June, the Consumer Price Index (an index measuring the price of a basket of consumer goods and services, often used to measure inflation) increased 5.4% from a year earlier, equating to the largest monthly gain since August 2008 (See Figure 2 below)(2). The Fed commented recent inflation exceeded expectations; however, they believe the latest increases are transitory and will level out to around 2% by 2022.
In Q2, US Unemployment dropped from 6.1% to 5.9%(3), as 1.7 million jobs were added to the labor market(4). States are beginning to retract the extended unemployment benefits granted by the 2020 CARES Act, likely adding to the flood of new job applicants. While unemployment rates have continued to decline from the near 15% we saw in April 2020, the US and many other countries around the world are still working toward closing the gap from pre pandemic unemployment rates.
Year to date, the S&P 500 Index has returned +15.25%, with performance largely being led by the Energy and Financials sectors returning +45.60% and +25.70% respectively. Additionally, the Russell 2000 Index (an index measuring 2,000 small domestic publicly traded companies) returned +17.54%, the MSCI EAFE Index (an index measuring global stocks) returned +8.83%, and the Barclays US Agg. Bond Index (an index measuring the domestic fixed income market) returned –1.60% YTD.
Domestic Equity and Fixed Income
US domestic equity markets performed strongly in Q2, with all sectors yielding positive returns so far this year (see YTD returns above). Looking back to the market fallout, where the S&P 500 declined by nearly -34% between February and March 2020, the market has rebounded tremendously, with the S&P 500 up by over +96% from the low last year. In Q2, large cap growth stocks led the way, with the Russell 1000 Growth Index (an index measuring large cap growth stocks) yielding almost +12% QTD(5). Market analysts account overall positive market performance to the vaccination rollout, reopening of the economy, and strong corporate earnings growth. However, supply chain bottlenecks and unprecedented fiscal and monetary policy produced upward pressure on prices and created investor concern during the quarter(6).
In the fixed income markets, the Barclays US Agg Bond Index, which is used as a measure of the investment-grade bond market, increased by +1.8% in the quarter. The Fed is projected to keep the target interest rate level between 0.00% and 0.25% through 2023. While the cost to borrow remains low, inflation is expected to rise over the coming months, and the Fed is expected to maintain an accommodative stance in monetary policy until inflation averages 2%.
Cryptocurrency in Retirement Plans
Cryptocurrencies like Bitcoin (“BTC”) and Ethereum (“ETH”) have garnered not only the attention of investors worldwide but also the attention of retirement plan sponsors. The recent advent of cryptocurrency begs the question of its appropriateness for inclusion in retirement plans. Given the volatile nature and inherent risk associated with cryptocurrency, it is crucial to evaluate these potential future investment options with thorough due diligence and ensure the investment’s objectives align with the stated goals in a plan’s Investment Policy Statement (“IPS”).
When selecting funds for a plan, the Department of Labor’s (“DOL”) latest guidance states that all investments must be chosen based on pecuniary factors, including but not limited to, the associated risk of the investment option(7). The alternative asset class, an asset class encompassing alternative assets like commodities, real estate, etc., has long been a part of retirement plan investment menus as a way to further diversify a portfolio as the asset class is relatively uncorrelated to the equity and fixed income markets. Cryptocurrencies are the latest addition to this asset class. Alternative investments are traditionally evaluated just like any other asset class: on factors such as historical performance, cost, and appropriateness of the fund to the participant base. The introduction of cryptocurrencies does not change this conversation, but rather opens the dialogue for further consideration. The recent bull run on BTC and ETH hasn’t gone unnoticed by participants (see Figure 3 left), but it’s important to consider the volatility, long-term performance, expense, and other factors of the investment as well.
As it stands today, no major retirement plan recordkeeper has built the infrastructure to support cryptocurrency in retirement plans. The DOL has not issued formal guidance on the inclusion of these investments in retirement plans either, though, given the popularity and demand of the asset class, it is likely to be addressed soon. If the DOL passes any form of guidance and recordkeepers begin to make cryptocurrencies available, Forest Capital will be evaluating the fiduciary implications and appropriateness of such addition in our clients’ retirement plans. The same prudent process must be given to this new fund type as is given to the other investments within a plan.
DOL Guidance on Cybersecurity
During this past quarter, the DOL released their first guidance on retirement plan cybersecurity for plan sponsors, advisors, and recordkeepers(8). With the recent trend towards remote work, cybersecurity has become a focal point for lawmakers to address the increased challenges of keeping personal data and information safe. The guidance came in three parts:
- Evaluating Service Providers: When selecting a plan service provider, the plan sponsor should consider cybersecurity policies implemented by the vendor. Having an understanding of the provider’s security standards, history of breaches, and cybersecurity insurance will help make an educated decision as to which vendor best fits the plan’s needs.
- Establishing a Cybersecurity Program: Plan service providers should have a formal, well-documented cybersecurity program with annual risk assessments and clear control procedures. Plan fiduciaries should be knowledgeable of their vendor’s cybersecurity program and monitor on an ongoing basis.
- Online Security Tips: For participants, the DOL provides guidance on cybersecurity best practices when managing their online accounts. The DOL recommends strong and unique passwords, incorporating dual authentication when available, and monitoring online accounts routinely to avoid and recognize fraud.
Many retirement plan recordkeepers have begun to ramp up their cybersecurity measures. If you are interested in learning more about what your plan vendor’s cybersecurity measures are, please contact your Relationship Manager or your FCM advisor.
A plan sponsor’s fiduciary responsibility to the retirement plan is important in strengthening the plan administration process. The DOL recommends plan sponsors stay up to date on their responsibilities by completing fiduciary training. Forest Capital Management hosted a fiduciary training session for all plan sponsors this quarter and a recording of this webinar has been made available to all FCM clients. If you would like a copy of this training or to schedule ancillary one-on-one fiduciary training, please contact Alex Clegg at firstname.lastname@example.org.
The topic of retirement is rarely a partisan issue as exemplified by the two bipartisan retirement bills introduced in Q2 2021. The Retirement Security & Savings Act and the Securing a Strong Retirement Act both aim to enhance retirement security for American Workers and build off the 2020 SECURE Act. The two bills are similar but contain minor differences in a few key areas. Below is a summary of the key provisions proposed in each bill(9).
Currently, the Retirement Security and Savings Act sits on the Senate Finance Committee’s agenda, while the Securing a Strong Retirement Act is with the House Ways and Means Committee. Both bills are expected to be voted on in their respective chambers by the end of 2021. Once the differences in the bills are reconciled, and they have support, a final version will be sent to President Biden for his signature.