Update Fall 2017

The 7th Inning Stretch

Key Points

U.S. stocks continue to grind higher, with little appearing able to knock them off
course. The possibility of a pullback always exists but a melt up is also emerging
as a real possibility.
Earnings tend to drive equity market direction, and the next few weeks should
help set the tone for market action for the rest of the year. Recent robust
economic data gives support to the potential for companies to meet and/or beat
estimates.
Global economic growth continues to improve, which should help support both
domestic and global stock markets.

Take me out to the ballgame

U.S. stock indices have continued to push to record highs, with little apparently able to
throw them off course. The grind higher has pushed through natural disasters, the Las
Vegas tragedy, domestic political failures, international political tensions, and missile
tests and threats from North Koreaan ample wall of worry for stocks to climb.

Were likely entering or already in the latter innings of this long-running bull market and
economic expansion, but as baseball fans know theres still a lot of game left after the
middle inningsincluding the possibility of extra innings. Although there is little of the
excess that would suggest recession risk is near, there are some signs the characteristics
of the economy and market may be changing. Bond yields have crept higher,
international markets have performed better, and cyclical sectors such as energy and
materials have outperformedall potential signs of the latter stages of a cycle. Weve
seen brief periods when these shifts have occurred before, but the strength and length
of the recent moves gives some reason to believe a change in character may be afoot.

So what should investors do if we are entering the latter innings? At this point, it is
critical to ensure strategic allocations are appropriate for an individuals specific risk
profile as well as long-term goals, and make adjustments as needed via tactical
rebalancing. There remains the possibility of a pullback, with any number of catalysts
possible. Attitudinal measures of investor sentiment are currently showing excess
optimism, which is typically a contrarian indicator. This has been a characteristic of most
of 2017, but of course we have yet to see a significant pullback. And while attitudinal
measures of sentiment appears overly optimistic, behavioral measures still show some
caution, with Evercore ISI noting that the net cumulative flows in stock continues to be
negative, indicating continued caution despite optimistic attitudes. A melt-up is also
emerging as a possibility should investors actions start to follow the attitudinal
sentiment indicators. Remember thoughas good as a melt-up might feel while
underway, they have historically not ended well.

Economy hitting solid doubles, while earnings are stepping to the plate
Another sign that we may be in the latter innings has been the recent acceleration in
economic data. Both of the Institute for Supply Managements (ISM) Surveys had
extremely strong readings, indicating accelerating growth. The manufacturing index hit
the highest level since 2004, while the leading new orders component also hit a very
robust level. The service side also looks strong, with the non-manufacturing index rising
to the best reading since 2005, while the new orders component jumped a very strong
5.9 points. Although services represent a much larger share of the U.S. economy, the
ISM Manufacturing Index has a higher correlation to the stock market historically.

The labor market also continues to look very healthy, despite the September labor
report showing jobs actually declined by 33,000. The market largely ignored the weak
jobs number, as the weakness was attributed to the impact from hurricanes, and instead
was comforted by the decline in the unemployment rate to 4.2%. More recently, jobless
claimsa key leading economic indicator-- have already started to unwind their
hurricane-induced weakness.

We are also finally seeing some indications that inflation is ticking higher. The price
component of both ISM surveys jumped, oil has moved higher, and wages are increasing
as the labor market tightens. Average hourly earnings (AHE), which are released with the
labor report, rose a surprising 2.9% year-over-year, up from an initially-reported 2.5%
from the prior month. An alternate measure of wage growththe Atlanta Feds Wage
Growth Tracker, which measures median wage growthis showing an even more robust
3.4% growth in wages.

We may get further insight into the inflation picture with the ramping up of earnings
season. Along with overall results, we may get some commentary on pricing power,
labor tightness, compensation expenses, and input cost trends. With valuations still
elevated, its in the markets best interest for earnings and revenues to continue to
outperform expectations. With recent economic data being fairly strong, it is reasonable
to expect the lowered bar of earnings expectations can be met or exceeded.

Fed as middle reliever, or closer?

The stage in which we currently sit is somewhat dependent on the Federal Reserve,
which has slowly started to normalize monetary policy by gradually lifting interest rates
and beginning to unwind its balance sheet. For now, the Fed is acting like a middle
reliever, who tries to keep the score where it is, by not making any drastic moves that
may upset investors. But, if some of those measures of inflation continue to rise, the Fed
could have to transition to a closer rolewho comes in to end the game. A more
aggressive Fed could pose a problem for equities, but for now the Feds methodical
approach to monetary policy tightening is keeping financial conditions loose and the bull
market intact

A brighter global picture

The global economic and earnings pictures also continue to brighten. After two years of
cutting 2017 and 2018 forecasts for global gross domestic product (GDP) growth,
economists have been lifting their outlook recently. The International Monetary Fund
(IMF) recently released its quarterly World Economic Outlook and upwardly revised its
forecasts for global growth in 2017 and 2018 to 3.6% and 3.7%, respectively. While the
upward revision was modest, the revision was very broad with most countries seeing a
boost.

One reason economists have been raising their forecasts is not just that the global
economy will likely improve, but also because economic growth has been consistently
exceeding their expectations this year for the first time since 2010. The global Citigroup
Economic Surprise Indexwhich is above zero when economic data is exceeding
economists forecastshas been positive on average so far this year, after being
negative for each of the past six years as actual data fell short of estimates.

Stronger and broader global economic growth has helped lift analysts consensus
forecast for global earnings per share over the coming year to new all-time highs.
A continued rise in global earnings should support further stock market gains.

Transformative Growth Leaders Strategy Update

This new strategy was implemented during the second quarter of 2016 and involves a
focused basket of stocks (roughly 15 or so) with the expectation these companies
underlying growth will be faster and superior to that of the overall economy and the
specific markets they operate in. These companies in some way have fashioned new
products and innovative offerings, spawned new industries and sparked change in
consumer and business habits and practices. Most of these companies are household
names, have dominant brands, are leaders in their respective markets and industries,
and in many ways are part of, and indeed have changed, our daily lives.

To manage risk, the Transformative Growth Leaders segment of the portfolio has no
more than a 10% overall allocation.

Since implementation of this stock portfolio, this basket of stocks has gained 26.5% in
value, nicely ahead of the broader market, as evidenced by the S&P 500, which has
generated a 20.2% return over the same time period. A performance table is listed
below:

Purchase 9/30/2017 Close Return%

Amazon $716.46 $961.35 34.2%
Apple $93.08 $154.12 65.6%
Costco Wholesale $139.71 $164.29 17.6%
Disney $97.80 $98.57 0.8%
Google (Alphabet) $704.98 $973.72 38.1%
Mastercard $89.25 $141.20 58.2%
Netflix $90.84 $181.35 99.6%
Nike $57.44 $51.85 -9.7%
Starbucks $55.92 $53.71 -4.0%
Tesla Motors $210.20 $341.10 62.3%
Under Armour $26.40 $16.48 -37.6%
Ulta Beauty $249.50 $226.06 -9.4%
Visa $74.25 $105.24 41.7%
Performance gains have been paced by Netflix, Apple and Tesla, each of which have
dominant technologies, innovative products and service offerings, and are rapidly
disrupting and introducing new ecosystems which are being well received and quickly
adopted by consumers and end users across various markets.

Future outlook letters will include performance updates on this basket of stocks, as well
as periodic in depth looks at specific companies in the portfolio.

Looking forward, while many uncertainties exist in the economy and markets, the fact
remains that the U.S. economy is still expanding, inflation and interest rates remain low
and numerous companies are still growing their earnings. Even in this challenged
environment, really strong market leaders continue to grow and increase earnings.

Amin Khakiani
October 18, 2017