CIO3: Markets in Perspective

As of June 30, 2015. Sources: U.S. Equity: Russell 3000® Index; Non-U.S. Equity: Russell Developed ex-U.S. Large Cap Index; Emerging Markets: Russell Emerging Markets Index; U.S. Bonds: Barclays U.S. Aggregate Bond Index; Global Real Estate Investment Trusts: FTSE EPRA/NAREIT Developed Real Estate Index; Commodities: Bloomberg Commodity Index Total Return; Hypothetical balanced portfolio: 30% U.S. Equity, 20% Non-U.S. Equity, 5% EM, 35% Bonds, 5% REITs, 5% Commodities. Indexes are unmanaged and cannot be invested in directly. Returns represent past performance, are not a guarantee of future performance, and are not indicative of any specific investment.

CIO3: Key Points on Global Market Themes

We’re excited to introduce Russell’s CIO3 content: from the asset class CIO perspective, the top three market themes affecting positioning and performance every quarter. Expect to see this incorporated into these monthly market posts going forward. All data below is as of June 30, 2015.

INVESTMENT STRATEGISTS

Erik Ristuben

Greek deal remains slippery

Prospects of a late June deal between Greece and its creditors fizzled, threatening a “Grexit." So far, economic contagion to broader financial markets has been relatively contained. After initially falling 5% the last weekend in June, eurozone equities stabilized and remain one of the top performing markets for the first half of 2015.¹ Bonds behaved themselves with the German 10-year government bond yield ending the quarter at 77 basis points.²

Better global economic data

The U.S. economy got off to a slow start in 2015 but second quarter data, including strong consumer and housing numbers, points to a broad-based reacceleration in economic activity. This improving macro backdrop supports our view that the most likely date for U.S. Federal Reserve (the Fed) interest rate hike is still September. The European recovery also remains healthy, with business surveys reaching a four-year high in June,³ driving government bond yields significantly higher over the quarter.

U.S. dollar modestly weakened

The U.S. dollar took a breather in the second quarter, slipping 3% against the other developed market currencies.⁴ Oil prices were able to hold onto gains in April and ended the quarter in positive territory.⁵

EQUITY

James Barber

Factor performance rewarded dynamic companies⁶

The pickup in U.S. economic growth coupled with an improved European outlook drove more dynamic parts of the market. Companies with strong recent positive sentiment, as well as small cap companies, continued to do well at the expense of those with more defensive characteristics. Value equities led marginally on an international basis while U.S. markets showed a slight preference for growth.

Mixed bag from a sector perspective⁷

A turbulent quarter left a mixed bag of results from a sector perspective. Utilities were the worst performing sector, mainly driven by rising interest rates. REITS, another interest rate sensitive sector, also struggled. Looking at other sectors: energy ended slightly down while financials, telecoms and healthcare were up.

Eurozone and China back in the spotlight⁸

With a “Grexit” looming, risk aversion coupled with speculation on potential consequences for the euro sent regional markets lower in local currency terms. This was mitigated by a stronger euro over the quarter. The red-hot Chinese A share market had a significant drawdown of 20% this quarter over concerns about the economy’s health. While a cut in interest rates by the People’s Bank of China is supportive, it does indicate that the economy is struggling to maintain momentum.

FIXED INCOME

Gerard Fitzpatrick

Government yields higher in developed markets

Yield curves steepened broadly across developed markets over the quarter, although with intra-period volatility as a result of a tantrum in German bund yields, ‘Grexit’ concerns and mixed U.S. economic data.⁹

Higher yielding sectors outperformed¹⁰

Higher credit risk sectors (emerging markets and high yield) outperformed globally as energy prices recovered modestly from lows. Investment grade corporate spreads widened across the U.S. and Europe amid elevated new issuance

U.S. dollar finished in the middle of the pack¹¹

Emerging market currencies were broadly lower, however steady oil prices favored currencies of oil-exporting countries, like Russia and Brazil. European currencies outperformed other currencies on continued economic improvement and with expectations for Fed interest rate hikes being delayed until September at the earliest.

ALTERNATIVES

Vic Leverett

Rising interest rates

An increase in U.S. 10 year Treasury rates was a drag on listed real estate, listed infrastructure sectors of electric and multi-utilities, as well as precious and industrial metal commodities. Tactical trading hedge fund managers were challenged by intra-period swings in global interest rates and currencies.¹²

Dispersion of global returns

The situation in Greece affected several hedge fund strategies.¹³ High yield bond spreads widened; a negative for event driven-credit. Global equity markets sold off; a negative for fundamental equity hedge and event driven equity strategies. And momentum/trends diminished; a negative for tactical trading – systematic strategies. Dispersion among regional performance affected REITs: for example, the U.S. lagged relative to Hong Kong and the UK. Whereas at the same time, for listed infrastructure, continental Europe and Japan led, while emerging markets and the UK lagged.¹⁴

Commodities prices range-bound

After gaining 25% in April, WTI (West Texas Intermediate), crude oil closed both May and June within $0.50 of April’s $59.47 close¹⁵. Range-bound prices of oil are driven by contrasting fundamental developments, as well as the gyrations of the U.S. dollar.

¹ Euro Stoxx 50 Index (euro)² Federal Republic of Germany economic data³ Markit flash eurozone Purchasing Managers’ Index (PMI)⁴ Source: U.S. Dollar Index (DXY), Thomson Reuters Datastream ⁵ Source: WTI crude oil spot price, Bloomberg data ⁶ Sources: Russell Global Large Cap® Value Index and Russell 2000® Growth Index ⁷ Sources: Russell 1000® Index Utilities sector, Russell Global Large Cap Index Real Estate sector, Russell 1000® Index Energy sector, Russell 1000® Index Financials sector, Russell 1000® Index Telecommunication Services sector and Russell 1000® Index Health Care sector. ⁸ Sources: Russell Europe® Index and Russell China Index® ⁹ Source: Government bond returns, Bloomberg data ¹⁰ Source: Barclays Emerging Markets Bond Index, Barclays U.S. Aggregate Bond Index ¹¹ Source: U.S. Dollar Index (DXY), Bloomberg data ¹² As observed across third party managers by Russell Investments ¹³ As observed across third party managers by Russell Investments ¹⁴ Sources: FTSE EPRA/NAREIT Developed Real Estate Index and S&P Global Listed Infrastructure Index ¹⁵ Source: Bloomberg data These views are subject to change at any time based upon market or other conditions and are current as of the date at the top of the page. The information, analysis, and opinions expressed herein are for general information only and are not intended to provide specific advice or recommendations for any individual or entity.Investing involves risk and principal loss is possible. In general, alternative investments involve a high degree of risk, including potential loss of principal; can be highly illiquid and can charge higher fees than other investments. Hedge strategies and private equity investments are not subject to the same regulator requirements as registered investment products. Hedge strategies often engage in leveraging and other speculative investment practices that may increase the risk of investment loss. The Russell 1000® Index measures the performance of the large-cap segment of the U.S. equity universe. It is a subset of the Russell 3000® Index and includes approximately 1000 of the largest securities based on a combination of their market cap and current index membership. The Russell 1000 represents approximately 92% of the U.S. market. The Russell 3000® Index: Measures the performance of the largest 3000 U.S. companies representing approximately 98% of the investable U.S. equity market. The Russell Developed ex-US Large Cap Index offers investors access to the large-cap segment of the developed equity universe, excluding securities classified in the US, representing approximately 40% of the global equity market. This index includes the largest securities in the Russell Developed ex-US Index. Russell Emerging Markets Index: Index measures the performance of the largest investable securities in emerging countries globally, based on market capitalization. The index covers 21% of the investable global market. Barclays U.S. Aggregate Bond Index: with income reinvested, generally representative of intermediate-term government bonds, investment-grade corporate debt securities and mortgage-backed securities. The Dow Jones – UBS Commodity Total Return Index^TM was renamed the Bloomberg Commodity Index, effective July 1, 2014. Bloomberg Commodity Index Total Return: Composed of futures contracts on physical commodities. Unlike equities, which typically entitle the holder to a continuing stake in a corporation, commodity futures contracts normally specify a certain date for the delivery of the underlying physical commodity. In order to avoid the delivery process and maintain a long futures position, nearby contracts must be sold and contracts that have not yet reached the delivery period must be purchased. This process is known as “rolling” a futures position. FTSE EPRA/NAREIT Developed Real Estate Index is a global market capitalization weighted index composed of listed real estate securities in the North American, European and Asian real estate markets. The Russell 2000 Growth Index measures the performance of the small-cap growth segment of the U.S. equity universe. It includes those Russell 2000 companies with higher price-to-value ratios and higher forecasted growth values. The Russell Global Index measures the performance of the global equity market based on all investable equity securities. The index includes approximately 10,000 securities in 63 countries and covers 98% of the investable global market. All securities in the Russell Global Index are classified according to size, region, country, and sector, as a result the Index can be segmented into more than 300 distinct benchmarks. The Russell Global Large Cap Index measures the performance of the largest securities in the Russell Global Index, based on market capitalization. The index includes approximately 3,000 securities and covers 86% of the investable global market. Barclays Emerging Market Bonds Index includes fixed-and floating-rate USD-denominated debt from emerging markets in the following regions: Americas, Europe, Middle East Africa, and Asia. For the index, an emerging market is defined as any country that has a long term foreign currency debt sovereign rating of Baa1/BBB+/BBB+ or below, using the middle rating of Moody’s, S&P, and Fich.