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Home My WebLink About07. 2nd Quarter 2016 OPEB Report7. ' H IGHMARK® CAPITAL MANAGEMENT July 27, 2016 Thea Vassallo Finance Manager Central Contra Costa Sanitary District 5019 Imhoff Place Martinez, CA 94553-4392 RE: 2nd Quarter 2016 OPEB Report Dear Thea, 2016 has provided heightened levels of volatility, and we have not even made it to the U.S. elections yet. In the first quarter of the year, investors were greeted by the sell-off in equity markets in response to the Federal Reserve's first rate hike in over 7 years. The S&P500 declined roughly -12% from peak to trough through the first six weeks of the year. Markets rallied in mid-February, upon signals provided by the Federal Reserve Chair Janet Yellen that interest rates were not likely to be increased by more than one or two hikes throughout the calendar year. Domestic equity markets continued their upward trajectory throughout the remainder of the second quarter, until British voters elected to secede from the European Union on June 24th. Technically, the vote was non-binding, but the so-called "Brexit" from the EU is widely expected to become a reality. In the immediate aftermath, the swirling uncertainty caused the British Pound to fall to a 30 -year low versus the U.S. Dollar, global stock markets to sell off, U.S. Treasury and gold prices to soar on the 'safe haven trade', and Prime Minister David Cameron to announce his resignation. The timetable for Britain's exit could potentially last several years, and it is reasonable to expect the EU to take a punitive stance to discourage similar "exit" movements in other countries. Conversely, the UK will likely aim for minimal economic disruption by seeking to retain as many trade benefits as possible, while shedding the financial and political costs of EU membership. To prevent post-Brexit uncertainty from becoming an overwhelming headwind to financial markets, global central banks will most likely continue accommodative monetary policies. However after years of pushing policy tools to the max in a protracted effort to avoid deflation, many question whether enough global monetary ammunition remains to counter the new concerns Brexit raises. In the wake of the first quarter's final adjusted annual GDP growth rate of 1.1%, most of the economic data releases in the second quarter were supportive of a reasonable rebound in economic activity. Consumer confidence, as measured by the Conference Board, hit an eight-month high of 98.0 in June. Oil continued its rally off lows set in January as supply side adjustments caused the West Texas Intermediate futures contract to climb to $48.33 at quarter's end. The U.S. manufacturing sector began to show some signs of improvement as the ISM manufacturing index hit a 16 -month high of 53.2 in June. The one area of concern was related to employment, where the 11,000 employment gain estimate in May was the lowest reading since the third quarter of 2010. Countering this data point was the initial estimate reading from June where the jobs number posted a gain of 287,000. The three-month average of 147,000 jobs gives light to an economy showing signs of modest growth, as the economy nears full employment. Performance Review The Central Contra Costa Sanitary District OPEB Plan registered a 1.96% return in the second quarter. Both equities (+1.65%) and fixed income (+2.37%) supported returns in the quarter. The fixed income return of 2.37%, slightly outperformed the Barclays US Aggregate Bond Index benchmark return of 2.21%. The allocation to the Vanguard Short Term Corporate Bond Fund (+1.30%) was a slight negative during the quarter. However, our investment in the Pimco High Yield Bond Fund (+3.3%) aided returns. It should be noted that we exited this position in the middle of June, thus we did not garner the entire benefit of the 3.3% return. The high yield sector has rallied considerably, as oil prices have rebounded. Over 15% of the high yield fixed income benchmark is comprised of energy related issues. With oil rebounding in price, much of the default concerns that were prevalent at the beginning of the year, have subsided. We have decided to take profits from our high yield exposure and moved the proceeds into our REIT investment allocation. Our core fixed income investment managers provided mixed results. The Nationwide HighMark Bond Fund posted a solid quarter, returning 2.6%. However, the Pimco Total Return underperformed the benchmark, returning 2.1%. In light of recent disappointing quarterly results, we re -allocated half of the Pimco allocation, and awarded this to a new manager in the platform, the Prudential Total Return Fund. This transaction took place in the middle of June. The equity segment return of 1.65% provided mixed results. On the one hand, we benefitted by our tactical shift of overweighting value vs. growth within all domestic equity segments. Additionally, our international equity investments also outperformed the MSCI-EAFE benchmark target due to the performance of the MFS International Growth Fund (+0.55%) and from our allocation to the Schroder Emerging Market Fund (+2.32%). A final positive area of performance contribution came from the REIT sector. In October of 2015, we initiated a small position in REITs, with an investment in the Nuveen Real Estate Securities Fund. While our current position is relatively small at 1.5%, it was the top performing segment for the Plan in the second quarter, returning 6.5%. REIT performance has been supported by strong earnings and cash flow fundamentals. Employment trends have also provided gains to many cyclically exposed REIT sectors. An additional supportive element to REITs has been the low interest rate environment, that makes the high dividend pay -out yields of REITs attractive to yield starved investors. Finally, a short-term catalyst for the sector has been the designation of REITs as the 11th official GIC sector within the S&P 500 Index. This designation will take place in August of this year, and will result in index related funds being forced to purchase the corresponding REIT allocation within various index related fund investments. In this manner, there will be positive cash flow investments into REITs, although some investment dollars have already moved into REITs in anticipation of this change to the index. One area however that continues to offer disappointing results is the domestic Targe cap equity segment. In the quarter, only one of our five managers (Loomis Sayles Value Fund +3.17%) outperformed the S&P500. Large cap equity managers, as measured by the Russell Investments have struggled year to date in terms of outperforming relevant benchmarks. Year to date 14% of large cap growth managers, and 24% of large cap value managers have exceeded their relevant benchmark targets. For value managers, the disappointing performance of financial related issues, which make up over 30% of the Russell 1000 Value Index, is one commonly offered excuse by managers regarding underperformance. Banks have offered disappointing returns this year, as many investors had anticipated the Fed to be more aggressive in raising interest rates. A rising interest rate environment is supportive of banking margins/profits. With the Fed still on hold after the December hike, the stock performance of banking issues has lagged. An additional negative for value managers has been the reluctance to chase perceived overvalued investments in the utility (+21.2% year to date) and telecommunications sector (+21.8% year to date). Both of these segments have rallied nicely, as telecommunication stocks and utilities both offer investors above average dividend yields, and in this low yielding environment, investors have bid up these issues. Yet, as the prices of these stocks rise, they become less attractive to value oriented investors. For our large cap growth managers (Harbor Capital Appreciation -1.31 %, T. Rowe Price Growth Fund -0.65%) the decline in technology related stocks, specifically Apple (-11.7% and Alphabet/Google -7%) have been sizable detractors for the funds. Many growth oriented managers have tended to overweight their positions in these two companies, and that has had a negative impact on returns. Strategy Positioning We ended the quarter with a target allocation to equities at 48.5%, bonds 47.5%, and cash at 4%. We added .5% to REITs in the quarter. As mentioned previously, we eliminated our high yield fixed income allocation in the quarter, and we placed the proceeds in our REIT investment and as well in cash/money market. „AHIGHMARK8 CAPITAL MANAGEMENT PARS: Central Contra Costa Sanitary District Second Quarter 2016 Presented by Andrew Brown, CFA CCCSD Asset Allocation Total Assets: $42,654,176 Period Ending 6-30-16 2Q16 Return: 1.96% 1 Year Return: 0.53% Inception -to -Date Return: 9.77% Inception Date. 4-1-2009 Fixed Income $20,039,811 46.98% Cash $1,530,273 3.59% Investment Summary Since Inception Beginning Value Contributions Withdrawals Gain (Loss) Interest and Dividends Net Accrued Income Ending Market Value Equity $21,084,093 49.43% $ 566,683.26 39,790,825.30 -8,879,980.09 3,562,108.54 7,614,561.58 44,624.04 $ 42,698,822.63* * Ending Market Value differs from total market value on page 3 due to differences in reporting methodology. The above ending market value is reported as of trade date and includes accruals. The Asset Allocation total market value is reported as of settlement date. J HIGHMARK' CAPITAL MANAGEMENT PARS: Central Contra Costa Sanitary District 2 ASSET ALLOCATION - Central Contra Costa Sanitary District As of Second Quarter 2016 Current Asset Allocation Investment Vehicle Equity Large Cap Core Large Cap Value Large Cap Growth Mid Cap Core Mid Cap Value Small Cap Value Small Cap Growth International Core International Value International Growth Emerging Markets Real Estate Fixed Income Short -Term Intermediate -Term High Yield Cash TOTAL J H IGHMARKe CAPITAL MANAGEMENT 49.43% 5.60% SMGIX 5.76% DODGX 5.73% LSGIX 3.36% HACAX 3.37% PRUFX 2.62% IWR 1.01% IWS 5.65% NSVAX 3.50% PRJIX 4.08% NWHMX 2.27% DODFX 2.27% MQGIX 2.71% SEMNX 1.50% FARCX 46.98% 7.59% VFSUX 19.68% NWJIX 9.86% PTTRX 9.85% PTRQX 0.00% PHIYX 3.59% 3.59% FPZXX 100.00% Range: 40%-60% Columbia Contrarian Core CI Z Dodge & Cox Stock Fund Loomis Sayles Value Fund Harbor Capital Appreciation Instl T. Rowe Price Growth Stock Fund I iShares Russell Mid -Cap ETF iShares Russell MidCap Value Fund Columbia Small Cap Value Fund II T. Rowe Price New Horizons Fund I Nationwide Bailard Intl Equities I Dodge & Cox International Stock Fund MFS International Growth Fund Schroder Emerging Market Equity Nuveen Real Estate Securities I Range: 40%-60% Vanguard Short -Term Corp Adm Fund Nationwide HighMark Bond Fund Inst PIMCO Total Return Instl Fund Prudential Total Return Bond Q PIMCO High Yield Instl Range: 0%-20% Money Market PARS: Central Contra Costa Sanitary District 21,084,093 2,390,543 2,455,751 2,442,478 1,434, 590 1,435, 897 1,118,698 430,065 2,410,312 1,493, 276 1,741,877 967,607 967,409 1,156, 753 638,836 20, 039, 811 3,237,287 8,394, 946 4,203,603 4,202,600 1,376 1,530,273 1,530,273 $42,654,176 3 Sector Selected Period Performance PARS/CENTRAL CONTRA COSTA SANT PRHCP Account 6746030600 Period Ending: 06/30/2016 Year Inception to Date to Date 3 Months (6 Months) 1 Year 3 Years 5 Years (87 Months) Cash Equivalents .07 .14 .17 .07 .05 .11 IMoneyNet, Inc. Taxable 03 05 06 .03 .03 .04 Total Fixed Income BC US Aggregate Bd Index Total Equities Large Cap Funds S&P 500 Composite Index Mid Cap Funds Russell Midcap Index Small Cap Funds Russell 2000 Index REIT Funds Wilshire REIT Index 2.37 4.84 4.71 3.44 3.54 5.33 2.21 5.31 6.00 4.06 3.76 4 68 1.65 .35 -4.05 7.64 8.05 14.23 1.27 -.74 -2.00 10.03 10.41 14.97 2.46 3.84 3.99 11.66 12.10 16.73 3.66 5.45 -2.57 7.73 8.27 3.18 5.50 .56 10.80 10.90 18.92 3.28 2.30 -2.86 9.88 10.76 18.92 3.79 2.22 -6.73 7.09 8.35 16.41 6.55 10.84 5.60 11.09 22.82 13.63 12.48 24.84 International Equities -.09 -1.41 -10.26 1.18 -.76 8.52 MSCI EAFE Index -1.46 -4.42 -10.16 2.06 1.68 9.11 MSCI EM Free Index .66 6.41 -12.06 -1.56 -3.78 8.01 Total Managed Portfolio 1.96 2.42 .53 5.42 5.79 9.77 Account Inception: 4/2009 Returns are gross -of -fees unless otherwise noted. Returns for periods over one year are annualized. The information presented has been obtained from sources believed to be accurate and reliable. Past performance is not indicative of future returns. Securities are not FDIC insured, have no bank guarantee, and may lose value. H IGHMARKe CAPITAL MANAGEMENT PARS: Central Contra Costa Sanitary District 4 PARS/CENTRAL CONTRA COSTA SANITARY DISTRICT For Period Ending June 30, 2016 Fund Name Columbia Contrarian Core Z Dodge & Cox Stock Harbor Capital Appreciation Instl Loomis Sayles Value Fund T. Rowe Price Growth Stock Fund I Idx: S&P 500 Inception (7/13) (8/14) (7/11) 3 -Month Return 1.65 1.70 -1.31 3.17 -0.65 2.46 Rank 60 71 88 44 77 YTD Return 2.28 0.70 - 6.73 1.46 - 5.94 3.84 Rank 51 83 93 75 90 1 -Year Return 2.29 -5.09 -4.67 -3.45 -2.59 3.99 3 -Year Rank Return Rank 33 11.95 6 83 8.28 48 76 12.71 16 74 7.95 54 55 12.46 19 -- 11.66 -- 5 -Yea r Return 12.45 10.44 10.95 9.92 12.08 12.10 Rank 5 29 30 41 11 MID CAP EQUITY FUNDS iShares Russell Mid -Cap Value iShares Russell Mid -Cap Idx: Russell Mid Cap (3/16) (3/16) 4.68 3.12 3.18 8.73 5.40 5.50 3.03 0.39 0.56 10.75 10.61 10.80 11.47 10.73 10.90 SMALL CAP EQUITY FUNDS Columbia Small Cap Value II Z Idx: Russell 2000 Value T. Rowe Price New Horizons Fund 1 Idx: Russell 2000 Growth 2.12 4.31 5.18 3.24 52 22 2.79 6.08 0.92 -1.59 70 34 -4.27 -2.58 -2.10 -10.75 48 7.72 28 - 6.36 -- 12 11.63 2 - 7.74 - 8.75 8.15 13.05 8.51 28 INTERNATIONAL EQUITY FUNDS Dodge & Cox International Stock Nationwide Ballard Intl Equities I MFS International Growth 1 Idx: MSCI EAFE Schroder Emerging Market Equity Idx: MSCI Emerging Markets Data Source: Morningstar, SEI Investments -1.20 -2.00 0.55 -1.46 (11/12) 2.32 0.66 55 75 30 46 -4.91 - 3.92 2.10 -4.42 5.42 6.41 75 62 6 55 -18.86 -8.75 -3.01 -10.16 -10.58 -12.06 97 0.37 79 31 4.40 7 16 3.21 47 - 2.06 -- 56 -1.38 51 -- -1.56 - 1.02 2.49 16 2.47 46 1.68 - -3.12 46 -3.78 - 52 Retums less than one year are not annualized. Past performance is not indicative of future returns. The information presented has been obtained from sources believed accurate and reliable. Securities are not FDIC insured, have no bank guarantee and may lose value. HIGHMARKe CAPITAL MANAGEMENT PARS: Central Contra Costa Sanitary District 5 PARS/CENTRAL CONTRA COSTA SANITARY DISTRICT For Period Ending June 30, 2016 REIT EQUITY FUNDS 3 -Month YTD 1 -Year 3 -Year 5 -Year Fund Name Inception Return Rank Return Rank Return Rank Return Rank Return Rank Nuveen Real Estate Secs Y (10/15) 6.49 18 11.56 29 23.03 14 13.48 23 12.19 16 Idx: Wilshire REIT Index 5.60 -- 11.09 - 22.82 -- 13.63 - 12.48 - Pimco Total Retum Inst.! 2.07 72 3.90 85 4.31 65 3.48 61 3.71 49 Prudential Total Retum Bond Q (5/16) 3.25 4 6.57 4 6.56 3 5.28 2 5.21 2 Vanguard Short -Term Investment -Grade Adm 1.30 21 3.09 11 3.26 3 2.55 5 2.42 13 Nationwide HighMark Bond Fund Inst 2.60 29 6.06 8 5.67 19 4.01 28 4.01 31 BarCap US Aggregate Bond 2.21 - 5.31 -- 6.00 - 4.06 - 3.76 - PIMCO High Yield Instl (11/14) 3.32 76 6.12 62 1.92 13 4.18 16 5.39 22 Credit Suisse HY 9.41 7.92 - -1.67 2.54 - 5.17 - Data Source: Morningstar, SEI Investments Returns less than one year are not annualized. Past performance is not indicative of future retums. The information presented has been obtained from sources believed accurate and reliable. Securities are not FDIC insured, have no bank guarantee and may lose value. AillHIGHMARK° CAPITAL MANAGEMENT PARS: Central Contra Costa Sanitary District 6