L a n e A s s e t M a n age m e n t

May 21, 2018

Stock Market Commentary

Market Summary
Since my last Commentary in late January, the S&P 500 experienced a
10% correction, recovered somewhat before a second 8% correction
and then a slow subsequent recovery. In other words, relative to the
run-up that preceded the end of January, U.S. equities have shown con-
siderable volatility despite record corporate earnings and the pros-
pects for détente with North Korea. It’s hard to know exactly why the
markets are unsettled but a couple of theories are that a) strong earn-
ings had already been reflected in equity prices along with more mod-
erate future prospects and b) trade talk uncertainty.
Since January, a few economic U.S. events worth noting are (see se-
lected charts on next page):
 The unemployment rate fell to 3.9%, a level not seen since the be-
ginning of 2001; the labor force participation rate (LFPR) for those
25-64 years old bumped up from 81.7% to 84.4% though the LFPR
is down about 3% since 2000
 The first estimate of Q1 real GDP growth rate vs. the same quar-
ter last year improved to 2.9% from 2.6% last quarter
 Inflation-adjusted average hourly earnings remain basically stag-
nant but a gain on a nominal basis
 Small business confidence remains near a record high though it
has slipped in recent months
 The latest year-over-year increase in retail sales was 4.7%, up
slightly from the prior period
 The Conference Board Consumer Confidence Index, though fal-
ling back slightly, remains near a level not seen since 2001.

The charts on the following pages use mostly exchange-traded funds (ETFs) rather than market indexes since indexes cannot be invested in directly nor do they typically reflect the to-
tal return that comes from reinvested dividends. The ETFs are chosen to be as close as possible to the performance of the indexes while representing a realistic investment opportu-
nity. Prospectuses for these ETFs can be found with an internet search on their symbol. Past performance is no guarantee of future results.
L a n e A s s e t M a n age m e n t Page 2
Stock Market Commentary
 L a n e A s s e t M a n age m e n t Page 3
Market Valuation

Market Valuation
The primary concern for investors, outside of “Black Swan” events
such as war or other catastrophe, is market overvaluation leading to a
major correction as it has in prior years. Despite the recent volatility,
there’s no doubt that the U.S. market remains overvalued by historical
standards as shown in top chart on the right.
On the bottom chart, the 10-year subsequent nominal total return of
the S&P 500 is shown in relation to the average market valuation of
the top chart. For example, with the market valuation that existed 10
years ago, the subsequent 10 year return was 9.74%. The point here is
that since 10 years ago, the market valuation has basically exploded
suggesting that subsequent 10-year returns will be even lower than the
9.7%. Note that these indicators ARE NOT USEFUL as short-term
signals of market direction.
In a confirming note, Research Associates recently came out with
their updated 10-year forecast in which the nominal 10-year return for
U.S. large cap equities is 2.7%, including an assumption of 1.3% infla-
tion. While that inflation assumption may seem low to some, even if it
is doubled, that only brings the nominal 10-year U.S. large cap equity
expected return to 4%. Meanwhile, Research Affiliates sees the 10-
year expected nominal return for global (including U.S.) equities as
4.9% driven by an expected 10-year return for EAFE markets of 7%
and emerging markets of 8.4%. The expected return for non-U.S. equi-
ties is a reversal in relation to the return for U.S. equities in the last 10
years. In other words, a catch-up is expected.
** *** **
 L a n e A s s e t M a n age m e n t Page 4
Recession Risk

I believe the recession risk is low for at

least the next two quarters. One reason
for that is the position of the yield curve
as shown here. The yield curve, the dif-
ference between the constant maturity
10-year and the 2-year U.S.Treasury
bond yield rates, while moving in a
threatening direction, is some distance
away from the inverted curve position
that has immediately preceded the last 5
recessions.

Here’s another chart suggesting the risk

of recession remains low. Here, the red
dots indicate the position of the PMI
Composite Index one quarter prior to
the onset of a recession. Typically, that
dot is at or below a reading of 50 on the
PMI Index. Since we are a good distance
above 50 at the moment, here is another
reason why I believe the risk of an immi-
nent recession is low.
 L a n e A s s e t M a n age m e n t Page 5
Market Valuation

Finally, here is a tool I use as an alert to the potential of a major market correction. I call this my Portfolio Protection Strategy and it works like
this. First, I chart the monthly price movement of the S&P 500 index on a logarithmic scale (this shows the price increases in percentage
terms). Then, I overlay a 7-month (“fast”) moving average and a 15-month (“slow”) moving average. This overlay indicates when price is rising
or falling. A similar device is at the bottom of the chart to show the momentum of the price movement.
While technical analysis is perfect, the red arrows show when the fast moving average crosses over the slow average. Each time this happened
and a similar crossover occurred on the momentum indicator, a major market corrections occurred, especially the last two times.
I see this chart as a way to avoid a large market correction, while smaller and even moderate corrections of 10% or more can occur without the
crossover triggers happening as it did at the end of 2015/early 2016. When that happens, it would be prudent to take at least some risk off the
table as we wouldn’t know at that point in time whether a larger correction is about to occur. While we experienced a 10% correction in Janu-
ary, a rapid recovery followed.
 L a n e A s s e t M a n age m e n t Page 6
Market Outlook for 2018

Market Outlook
Here is a summary of what I said back in January with updates in red:
 U.S. equities will perform well on the heels of strong corporate earnings — following a strong January, the S&P 500 appears to be strug-
gling with a return of about 2% to the date of this writing
 Emerging market equities, especially Asia, will outperform the U.S. — so far, that view is “premature” as both EM and Asia are lagging
the U.S.
 Equities will outperform bonds — by over 7% YTD
 Investment grade bonds will struggle to match their 2017 (generous) return of 7%, and may even go negative — down about 5% YTD
 If a market correction occurs, it will be relatively short-lived and probably not exceed 10%, plus or minus — that’s exactly what happened
in January/February
 If the Fed tightens too aggressively, a significant hiccup is likely to occur — we’re safe so far
 Analysts will be carefully watching recession indicators — I am, too
 November midterm elections will not change the picture much, regardless of how they turn out — too early to tell
 All bets are off if war breaks out somewhere.
For a deeper dive, here are some additional thoughts (heavily aided by the many publicly available analyst resources):
For the U.S.
 U.S. GDP growth in 2018 will remain sub-3% (within a small range of error) — so far, right on
 The unemployment rate will continue to drift downwards — so far, right on
 “Full” employment will drive wage growth but real (inflation adjusted) wage growth will be remain low — so far, right on
For the U.S. (cont.)
 EPS growth will be in the neighborhood of 10% — Q1 was over 20%
 Rising interest rates may dampen equity growth but not so much as to offset its outperformance relative to bonds — true enough
 L a n e A s s e t M a n age m e n t Page 7
Market Outlook for 2018

 A weakened dollar and global growth will drive U.S. exports so long as disruptive trade policies are not adopted — the dollar has been
strengthening which may be contributing to concerns about developing export growth
 Recession risk will grow but will be avoided during 2018 and raise the stakes for 2019 and 2020 with implications for the next presidential
election — so far, so good, though this can’t last forever
 Corporate indebtedness, nearing 100% of GDP and well above its previous record of 91%, will come into sharp focus as interest rates rise
(earnings generated by tax relief will need to be used to pay down this debt before it becomes a significant issue) — this problem is not
getting any better

 Record levels of margin debt could exacerbate a stock market down turn — so far, no bullets fired
 The nearly 22% gain for the S&P 500 in 2017 and the 15.7% annualized gain over the last 5 years is very unlikely to be repeated over the
next 5-ish years with some analysts seeing single digit or negative returns once the business cycle completes sometime in the next few
years — That’s certainly the way it looks right now; see page 3
 L a n e A s s e t M a n age m e n t Page 8
Market Outlook for 2018

For International Markets

Emerging Markets
 When it comes to international equity markets, it looks like emerging markets, especially Asia, are poised for the best outcome in 2018,
perhaps even better than the S&P 500. While Goldman Sachs sees the greatest absolute growth in India and China, Brazil is seen as hav-
ing the greatest relative growth — We’re still waiting for this outcome across the board
 The individual countries looking strongest at the beginning of 2018 include India and China where, according to Goldman Sachs, the
highest rates of real GDP growth are anticipated for 2018 and 2019 — this is yet to materialize
Eurozone
 Like emerging market equities, however, Eurozone equities seem poised to outperform the S&P 500 again in 2018 — “no decision”
so far
Fixed Income
 Fixed income securities will be under pressure in 2018 as interest rates and expected inflation are rising in the U.S. and elsewhere —
correct, so far
 The best options for fixed income will be convertible bonds, shorter duration straight bonds, and floating rate securities — again, correct,
so far.
A final word
While I and most analysts I read do not anticipate a recession in 2018 (the risks increase for 2019 and 2020 as the business cycle peaks) and
stretched valuations make the equity market vulnerable, especially in the U.S. There are three ways for investors to approach this:
 Reduce equity exposure now and wait for the correction,
 Ignore the potential and commit to riding it through with the belief that it will be relatively short-lived, or
 Pay careful attention to your most reliable indicators and invest/divest tactically.
Each one of these options remains valid and the choice depends on one’s risk tolerance, belief in the future, and confidence in the investment
tools and advice at hand.
** *** **
 L a n e A s s e t M a n age m e n t Page 9
S&P 500 Total Return

Since my last update (literally, within days of the update), the S&P 500 (SPY) experienced its long-awaited
10% correction followed by a brief near recovery and seems to have since drifted to the lower bound of the
price channel which, if it remained there, would not be a bad thing as it would confirm the channel in place
since March 2016 and continue to move in a northeasterly direction at an annualized pace of about 19%.
(If the channel is measured from June 2010 — 8 years instead of 2+ — the annualized pace of growth would
be about 14%.) Reinforcing that view, at least in the short term on a technical basis, is the improving momentum indicator (MACD) at the bot-
tom of the chart. (Please note the earlier comments about the long term market forecast from Research Affiliates and others.)
That said, a troubling feature of the chart is the declining volume since the spike at the beginning of March. This lack of investor conviction —
and action on the part of the buy-the-dippers — suggests limited support for equities and the potential for an additional correction should trou-
bling economic or geopolitical news emerge.

SPY is an exchange-traded fund designed to match the experience of the S&P 500 index adjusted for dividend reinvestment. Its prospectus can be found online. Past performance is no
guarantee of future results.
 L a n e A s s e t M a n age m e n t Page 10
All-world (ex U.S.)

The picture for international equities (ex U.S.) represented here by the Vanguard ETF VEU, looks much
the same as for the S&P 500 with annualized growth since March 2016 of about 18.5% but a lower-than-
SPY growth over the last 8 years of about 7.5%. Technically, the growth implications for international eq-
uities is much the same as for U.S. equities with the proviso that international equities experience signifi-
cantly higher volatility.
In general, over the last several years, emerging markets have outperformed the broader international index though that pattern has been bro-
ken over the last several months with the improvement in the value of the dollar making dollar-denominated emerging market debt more ex-
pensive to pay back. For Eurozone equities, the situation is more mixed and more volatile but, on the whole, relatively consistent with the
broader index. On the other hand, large cap Asian equities have been consistently outperforming the broader index with occasional breaks such
as one we are now having since April.

VEU is an exchange-traded fund designed to match the experience of the FTSE All-world (ex U.S.) Index. Its prospectus can be found online. Past performance is no guarantee of
future results.
 L a n e A s s e t M a n age m e n t Page 11
Asset Allocation and Relative Performance

Asset allocation is the mechanism investors use to enhance gains and reduce volatility over the long term. One useful tool I’ve
found for establishing and revising asset allocation comes from observing the relative performance of major asset sectors (and
within sectors, as well). Unless one is out of the market altogether, the allocation decision can help investors reduce exposure to
underperforming assets and increase exposure to those that are over performing. The chart below shows the relative performance
of the S&P 500 (SPY) to the Vanguard All-world (ex U.S.) index fund (VEU).
The pattern that has existed more or less since the beginning of 2016 remains intact with periods of outperformance by U.S. equities and peri-
ods of outperformance by international equities. A separate analysis shows that a portfolio of 50% SPY and 50% VEU has slightly underper-
formed SPY with about the same amount of volatility. Since the beginning of 2010, U.S. equities have decidedly outperformed with slightly
lower volatility.
To me, a broad exposure to international equities is probably not worth it, while a region or country specific exposure, especially to Asia, may in-
deed be worthwhile.

SPY and VEU are exchange-traded funds designed to match the experience of the S&P 500, (with dividends) and the FTSE All-world (ex US) index, respectively. Their prospectuses can be
found online. Past performance is no guarantee of future results.
 L a n e A s s e t M a n age m e n t Page 12
Income Investing

Investment grade (IG) corporate bonds, represented below by the exchange-traded fund LQD, have per-
formed as expected, namely, deteriorated in a world of rising interest rates and inflation expectations.
The key point here is that both experienced and anticipated interest rates are on the move (up) and that
has pushed the value of IG bonds down by nearly 5% so far this year. Interestingly, though not shown, is
that high yield (HY) corporate bonds have suffered far less this year pointing to a narrowing of the pre-
mium yield for HY bonds and, implicitly, an increasing reach for yield among investors.

LQD is an ETF designed to match the experience of the iBoxx Investment Grade Corporate Bond Index. Prospectuses can be found online. Past performance is no guarantee of
 L a n e A s s e t M a n age m e n t Page 13

Asset Allocation and Relative Performance

The trend and momentum of relative strength in the S&P 500 to investment grade corporate bonds remains positive though
volatile. While the technical outlook favors equities, especially with the breakout above the latest support/resistance level, we
need to be cautious on account of the continuing stretched valuations for equities. From an asset allocation perspective, a tilt
toward equities would appear to be appropriate today consistent with the investor’s risk tolerance bearing in mind the increas-
ing risk for both equities and fixed income.

SPY and LQD are exchange-traded funds designed to match the experience of the S&P 500, (with dividends) and the iBoxx Investment Grade Corporate Bond Index, respectively. Their
prospectuses can be found online. Past performance is no guarantee of future results.
Page 14 L an e A ss et M an ag em ent
Disclosures
Edward Lane is a CERTIFIED FINANCIAL PLANNER™. Lane Asset Management is
a Registered Investment Advisor with the States of MA, (pending) NY, CT and
NJ. Advisory services are only offered to clients or prospective clients where
Lane Asset Management and its representatives are properly licensed or ex-
empted. No advice may be rendered by Lane Asset Management unless a cli-
ent service agreement is in place.
Investing involves risk including loss of principal. Investing in international and
emerging markets may entail additional risks such as currency fluctuation and
political instability. Investing in small-cap stocks includes specific risks such as
greater volatility and potentially less liquidity. Small-cap stocks may be subject
to higher degree of risk than more established companies’ securities. The illiq-
uidity of the small-cap market may adversely affect the value of these invest-
ments.
Investors should consider the investment objectives, risks, and charges and ex-
penses of mutual funds and exchange-traded funds carefully for a full back-
ground on the possibility that a more suitable securities transaction may exist.
The prospectus contains this and other information. A prospectus for all
funds is available from Lane Asset Management or your financial advisor and
should be read carefully before investing.
Note that indexes cannot be invested in directly and their performance may
or may not correspond to securities intended to represent these sectors.
Investors should carefully review their financial situation, making sure their
cash flow needs for the next 3-5 years are secure with a margin for error. Be-
yond that, the degree of risk taken in a portfolio should be commensurate
with one’s overall risk tolerance and financial objectives.
The charts and comments are only the author’s view of market activity and
aren’t recommendations to buy or sell any security. Market sectors and re-
lated exchanged-traded and closed-end funds are selected based on his opin-
ion as to their usefulness in providing the viewer a comprehensive summary of
market conditions for the featured period. Chart annotations aren’t predictive of
any future market action rather they only demonstrate the author’s opinion as to
a range of possibilities going forward. All material presented herein is believed to
be reliable but its accuracy cannot be guaranteed. The information contained
herein (including historical prices or values) has been obtained from sources that
Lane Asset Management (LAM) considers to be reliable; however, LAM makes no
representation as to, or accepts any responsibility or liability for, the accuracy or
completeness of the information contained herein or any decision made or action
taken by you or any third party in reliance upon the data. Some results are de-
rived using historical estimations from available data. Investment recommenda-
tions may change without notice and readers are urged to check with tax advisors
before making any investment decisions. Opinions expressed in these reports may
change without prior notice. This memorandum is based on information available
to the public. No representation is made that it is accurate or complete. This
memorandum is not an offer to buy or sell or a solicitation of an offer to buy or
sell the securities mentioned. The investments discussed or recommended in this
report may be unsuitable for investors depending on their specific investment ob-
jectives and financial position. The price or value of the investments to which this
report relates, either directly or indirectly, may fall or rise against the interest of
investors. All prices and yields contained in this report are subject to change with-
out notice. This information is intended for illustrative purposes only. PAST PER-
FORMANCE DOES NOT GUARANTEE FUTURE RESULTS.
Periodically, I will prepare a Commentary focusing on a specific investment issue.
Please let me know if there is one of interest to you. As always, I appreciate your
feedback and look forward to addressing any questions you may have. You can find
me at:
www.LaneAssetManagement.com
Edward.Lane@LaneAssetManagement.com
Edward Lane, ASA, CFP®
Lane Asset Management
Stockbridge, MA