May 2010 Market and Performance Update

Summary: 

• Global equity and fixed-income markets fell as sovereign debt concerns intensified. 
• Although the European Union (EU) and the International Monetary Fund (IMF) announced a definitive bailout plan, this failed to alleviate broader concerns about government bond defaults in peripheral Europe. 
• Economic reports from the U.S., France and Germany were largely positive.

May was characterized by continued anxiety surrounding the Greek sovereign debt crisis. Although many global economic indicators continued to support the view that recovery has taken hold, worries that troubles in Greece could spread to other European countries and possibly stall worldwide growth remained. Markets were highly volatile owing to increased negative sentiment as well as the “Flash Crash” of 6 May, when the Dow Jones Industrial Average of large-company U.S. stocks dropped 1,000 points during the afternoon before recovering a majority of the decline by the end of the day.

For the month of May, the Dow Jones Industrial Index fell 7.56%, while the S&P 500 Index declined 7.99% and the NASDAQ Composite Index dropped 8.16%. The MSCI AC World Index ($) fell 9.37% for the month, as investor risk appetite disappeared due to concerns about the sustainability of global economic recovery amid high levels of government debt. The Barclays Capital Global Aggregate Bond Index ($) fell 1.56% for the month. Global high-yield bonds and emerging-market debt fell due to increased investor demand for assets considered to be safer.

Stocks

Concerns persisted that the growing debt crisis in Greece and other European nations would stall eurozone economic recovery and begin to negatively affect other European nations with high levels of debt. European leaders and the IMF introduced a bailout plan for Greece totaling $146 billion, in exchange for increased fiscal tightening on the part of the Greek government, but investors remained unconvinced that similar situations in other debt-laden European countries would be prevented. Because ongoing debt problems will likely hurt prospects for global economic recovery, the U.S. and the U.K. central banks have continued to keep their accommodative policies in place and will likely do so for some time to come.

From a sector perspective, performance was negative across the MSCI AC World Index, as investors signaled their frustration by avoiding riskier assets in favor of more defensive assets. For the month, top performers were Consumer Staples, Telecommunications and Healthcare, while Energy, Financials and Materials lagged the broader market. The Energy sector was particularly hard-hit, as the Deepwater Horizon accident in the Gulf of Mexico resulted in a massive oil spill, creating an environmental disaster eclipsing that of the Exxon Valdez spill off the Alaskan coast in 1989.

The Chicago Board Options Exchange Volatility Index (VIX), a measure of implied volatility in S&P 500 Index options that is also known as the “fear index,” began the month at around 22 but then rose to over 32 at the end of the month, amid increased nervousness about possible sovereign debt defaults in peripheral Europe, proposed financial regulation, and heightened tensions in Iran, North Korea and South Korea.

Bonds

Performance in the global fixed-income markets was negative, and the month was marked by a massive flight to quality, as investors moved away from riskier assets like credit, high-yield bonds and emerging-market debt. Investors demanded shorter-maturity German, U.K. and U.S. government bonds, as speculation circulated about the effects of the sovereign debt crisis on the stability of the EU. In aggregate, U.S. and European bonds outperformed Asian Pacific bonds. The London Interbank Offer Rates (Libor) showed levels of caution had increased, as rates that banks charge each other for three-month loans rose to a ten-month high.

U.S. investment-grade corporate bonds struggled as investors fled to safe havens like Treasuries. Meanwhile, the European Central Bank (ECB) worked to mitigate fears in the sovereign debt markets by purchasing Greek debt, as well as government bonds issued by Portugal, Spain, Italy and Ireland. At the end of the month, credit-ratings agency Fitch Ratings downgraded Spain’s sovereign debt to AA+ from AAA, which put additional pressure on the euro.

Economy

Economic data was mostly positive, although measures of consumer sentiment were much more subdued and the labor market showed signs of continued weakness. U.S. industrial production increased over the month of April, and manufacturing had its fastest expansion since June 2004 over the same time period, according to the Institute for Supply Management. Consumer sentiment has shown signs of improvement in the U.S., as consumer confidence increased slightly and retail sales were better than expected. Expectations remained that inflation would not be an issue in the near term, which was reflected by decreases in both the Consumer Price Index and the Producer Price Index.

Oil prices fell for the month, with WTI Cushing crude oil prices ending at around $74.00 per barrel. The U.S. dollar dramatically strengthened on the flight to safety, ending the month at $1.45 per British pound and $1.23 per euro. However, the dollar was weaker versus Japanese currency, ending at around 91 yen.

Portfolio Review

Investors’ risk aversion and highly volatile markets created a mostly challenging environment for the Funds. SEI’s large-cap equity Funds were helped by an emphasis on high-quality stocks, which fared better than the broader market. In small-cap equity, the Funds were helped by robust stock selection across a variety of sectors. In international equity, emerging-markets exposure was beneficial, as these countries continued to lead global economic recovery.

Although bond markets fared better than equity markets, riskier fixed-income assets were still punished for the month. In core fixed income, allocations to non-agency mortgage-backed securities hurt performance as investors looked for assets considered to be safer. In high-yield bonds, collateralized loan obligations were helpful, as these securities tend to lag their underlying collateral in terms of performance when there are sharp changes in market direction. In emerging-market debt, security selection in Brazil hindered performance due to an overheating economy and a belief that its currency could be overvalued.

Contributors 

• Underweight to Energy in Large Cap Equity – as well as avoiding certain names in the sector that significantly underperformed 
• Underweight to Spain in International Equity – the country was one of the worst-performing for the month 
• Security selection in High Yield Bonds – especially in the Technology and Insurance sectors

Detractors 

• Weak selection in Emerging Market Equity – particularly in India and Korea 
• Allocation to corporate bonds in Core Fixed Income – this sector was hurt as investors avoided riskier assets 
• Overweight to Russia in Emerging Market Debt – falling oil prices were problematic for these bonds

Manager Positioning and Opportunities

SEI’s portfolio managers remain focused on finding managers that provide consistent returns over time. For large-cap equity, our Funds’ underlying investment managers remained positioned in high-quality companies with solid growth characteristics, as they believe these companies should continue to benefit as the recovery takes hold. In small-cap equity, managers remain underweight to Healthcare and Financials, while the largest overweight is in Information Technology. In non-U.S. equity, the managers are overweight to Information Technology and Consumer Discretionary while maintaining underweight positions in Financials and Utilities.

Our investment-grade fixed-income managers still see opportunities in corporate bonds and non-agency mortgage-backed securities. High-yield managers have maintained an allocation to bank loans due to their more defensive positioning and event-driven opportunities. In emerging-markets debt, managers are seeing the current market environment as a buying opportunity.

Our View

In SEI’s view, the global economy should continue to improve, but growth will not be uniform across all regions as each country’s government and central bank decides how to balance fiscal austerity with encouraging growth. Emerging markets are the clear leaders so far, and better economic activity has been reported for the U.S. and core countries in Europe, namely France and Germany. Asian markets performed well last year but are struggling in the near term as central banks are implementing tighter controls on lending in order to cool down rapid economic growth. The debt crisis in peripheral Europe continues to weigh on investor sentiment, as the euro continues its sharp decline and market participants wonder about the lasting impact of this situation on broad global economic growth. If this situation is prolonged, it will likely affect U.S. growth and the financial health of global banks.

We continue to hold a positive view toward equities, and we believe developed-markets equity looks more attractive than emerging-markets equity from a pricing perspective. Opportunities in investment-grade and high-yield bonds remain strong, but these market segments should remain volatile until a more definitive solution is found regarding debt woes in peripheral Europe. All in all, SEI’s long-term outlook for growth is positive, although setbacks along the way are expected. In general, we continue to have a favorable outlook, particularly toward high-quality assets in both the fixed-income and equity markets.

Global indexes and investing terminology

This material is for educational purposes only and is not meant to be investment advice. The reader should consult with his/her financial advisor for more information. This material represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results.

To determine if the Fund(s) are an appropriate investment for you, carefully consider the investment objectives, risk factors and charges and expenses before investing. This and other information can be found in the Fund's prospectus, which can be obtained by calling 1-800-DIAL-SEI. Read it carefully before investing.

SEI Investments Management Corporation (SIMC) is the adviser to the SEI Funds, which are distributed by SEI Investments Distribution Co (SIDCO). SIMC and SIDCO are wholly owned subsidiaries of SEI Investments Company. Diversification may not protect against market risk. Current and future portfolio holdings are subject to risks as well.

In addition to the normal risks associated with equity investing, international investments may involve risk of capital loss from unfavorable fluctuation in currency values, from differences in generally accepted accounting principles, or from economic or political instability in other nations. Narrowly focused investments and smaller companies typically exhibit higher volatility. REIT investments are subject to changes in economic conditions, credit risk and interest rate fluctuations. Bonds and bond funds will decrease in value as interest rates rise. High yield bonds involve greater risks of default or downgrade and are more volatile than investment grade securities, due to the speculative nature of their investments

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