Quarterly Update

Q3 2022

Tom Galvin, Chief Investment Officer | October 2022

Market Update: Higher for Longer

Stay cautious for now; uncertainty remains elevated

Near term markets likely to remain volatile

Expect lower returns and higher volatility in financial markets

Declines may be setting up markets for better long term returns

Investors looking for relief from this year’s volatility found nothing but more misery in Q3 as markets continue to validate our higher for longer outlook. What began with a short-lived rally in equity prices and Treasury yields ended with the S&P 500 dropping to a new year-to-date low and Treasury yields surging to their highest levels in more than a decade. Declines in markets outside the US were worse still amid heightened geopolitical turmoil, aggressive policy tightening and the dollar’s steep ascent. Even commodity prices, a rare bright spot earlier in the year, fell due to flagging global demand.

With investors of all stripes finding little place to hide, 2022 continues to be one of the most challenging years in memory. It is highly unusual to see both stocks and bonds decline in tandem so dramatically. In fact, the traditional 60/40 portfolio mix of stocks and bonds, designed to offer a degree of downside protection in turbulent markets, has now posted its worst first three quarters of performance in more than 50 years. Yet, as painful as this current experience has been, history shows there is cause for optimism over the longer term. Investors will first, though, likely need to exercise some more patience.

As we look across the waning months of 2022 and into 2023, many factors that have crushed markets this year – persistently strong inflation, slowing growth and hawkish central banks – are likely to continue, at least in the near term. From our perch, the two biggest risks are that even more forceful tightening by the Fed might be required to dampen demand and rein in inflationary pressures, and that higher for longer interest rates cause problems in the financial system, which then seep into the real economy. As the recent breakdown of the UK Gilt market illustrates, policymakers face an increasingly difficult trade-off between combating inflation, supporting economic growth and maintaining financial stability.

There are many other things that can go wrong, Russia’s war with Ukraine is fueling a continuing crisis in global energy and food markets, with Europe likely already slipping into recession. Meanwhile, President Xi’s consolidation of power in China signals a coming period of growing conflict with the West, as well as the continuation of its zero-COVID policy and increasing governmental control over the private sector that has already caused serious damage to the world’s second-biggest economy. We are in a risky environment, and though the US may be insulated to some degree from external crisis and shocks, as we’ve been repeatedly reminded over the past two years, what happens halfway around the world can have significant reverberations here at home.

While the strong start to Q4 has been a welcome reprieve for investors, we are happy with the de-risking steps we’ve made in client portfolios and continue to maintain our cautious approach to asset allocation positioning. For now, markets don’t seem to be fully factoring in the extent of a potential slowdown ahead, nor the risks that geopolitical developments pose on inflation and the stress from policy tightening on the global financial system. Relief rallies are a common feature of bear markets, and as a more challenging outlook for the economy and corporate earnings is discounted by markets, we believe there is further scope for stocks to grind lower, even if government bond yields do not rise any further.

Still, not all is doom and gloom. Though US economic momentum is slowing, underlying fundamentals remain strong, which should keep any potential recession relatively mild by historical standards. While we do see some similarities today to the tech bubble burst in 2000 and the inflation-induced bear markets of the 1970s, the arguments against a harsher economic downturn and a more serious structural bear market development are strong. Relative to the eve of prior recessions, US banks remain well-capitalized, consumer and corporate balance sheets are healthy, and the labor market is tight, all of which should help mitigate against shock factors with negative feedback loops that can turn a shallow recession into something deeper.

If we are right about all this, then we are likely closer now to the end of the painful reset in asset prices than we are to the beginning. The current bear market is now nine months old, more than half as long as the cyclical post-war average for bear markets. There’s likely more volatility to come, and it’s not certain that we’ve seen the low for financial markets, but we think it is increasingly probable that the bruising start to 2022 has set the market up for somewhat better long-term performance. In the meanwhile, we think our focus on holding high quality and income producing US stocks and bond can provide client portfolios with relative stability until ongoing market turbulence subsides.

Since 1927, there have been six instances where the 60/40 portfolio mix has declined by 10% or more after nine months. While returns on average were more negative six months later, cumulative returns after one and three years were 9.8% and 25% respectively. Bonds may continue to struggle with rising rates in the months ahead, but as investor concerns shift to slowing growth, there is scope for yields to fall. Likewise, stocks may face additional downside as earnings expectations are revised down, but significant repricing has already occurred. Though it can be difficult, we think this is a good reminder for investors that it is important to focus not on where returns have been, but on where they could go in the quarters and years ahead.

Key Points

Stay cautious for now; uncertainty remains elevated

Near term markets likely to remain volatile

Expect lower returns and higher volatility in financial markets

Declines may be setting up markets for better long term returns

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Important Disclosures

Important Information

Any opinions, projections, forecasts and forward-looking statements presented herein are valid as of the date of this document and are subject to change.

The information presented does not involve the rendering of personalized investment, financial, legal or tax advice. This presentation is not an offer to buy or sell, or a solicitation of any offer to buy or sell any of the securities mentioned herein.

Certain statements contained herein may constitute projections, forecasts and other forward-looking statements, which do not reflect actual results and are based primarily upon a hypothetical set of assumptions applied to certain historical financial information. Certain information has been provided by third-party sources and, although believed to be reliable, it has not been independently verified and its accuracy or completeness cannot be guaranteed.

Concentrating assets in a particular industry, sector of the economy, or markets may increase volatility because the investment will be more susceptible to the impact of market, economic, regulatory, and other factors affecting that industry or sector compared with a more broadly diversified asset allocation.

Private investments often engage in leveraging and other speculative investment practices that may increase the risk of investment loss, can be highly illiquid, are not required to provide periodic pricing or valuation information to investors, and may involve complex tax structures and delays in distributing important tax information.

Alternative investments are speculative, entail substantial risks, offer limited or no liquidity, and are not suitable for all investors. These investments have limited transparency to the funds’ investments and may involve leverage which magnifies both losses and gains, including the risk of loss of the entire investment. Alternative investments have varying and lengthy lockup provisions. Please see the Offering Memorandum for more complete information regarding the Fund’s investment objectives, risks, fees and other expenses.

Investments in below-investment-grade debt securities, which are usually called “high-yield” or “junk bonds,” are typically in weaker financial health and such securities can be harder to value and sell, and their prices can be more volatile than more highly rated securities. While these securities generally have higher rates of interest, they also involve greater risk of default than do securities of a higher-quality rating.

There are inherent risks with equity investing. These risks include, but are not limited to, stock market, manager or investment style. Stock markets tend to move in cycles, with periods of rising prices and periods of falling prices. Investing in international markets carries risks such as currency fluctuation, regulatory risks, and economic and political instability. Emerging markets involve heightened risks related to the same factors, as well as increased volatility, lower trading volume and less liquidity. Emerging markets can have greater custodial and operational risks and less developed legal and accounting systems than developed markets.

There are inherent risks with fixed-income investing. These risks may include interest rate, call, credit, market, inflation, government policy, liquidity or junk bond. When interest rates rise, bond prices fall. This risk is heightened with investments in longer-duration fixed-income securities and during periods when prevailing interest rates are low or negative. The yields and market values of municipal securities may be more affected by changes in tax rates and policies than similar income-bearing taxable securities. Certain investors’ incomes may be subject to the Federal Alternative Minimum Tax (AMT), and taxable gains are also possible. Investments in below-investment-grade debt securities, which are usually called “high yield” or “junk bonds,” are typically in weaker financial health and such securities can be harder to value and sell, and their prices can be more volatile than more highly rated securities. While these securities generally have higher rates of interest, they also involve greater risk of default than do securities of a higher-quality rating.

All investing is subject to risk, including the possible loss of the money you invest. As with any investment strategy, there is no guarantee that investment objectives will be met, and investors may lose money. Diversification does not ensure a profit or protect against a loss in a declining market. Past performance is no guarantee of future performance.

Indices are unmanaged, and one cannot invest directly in an index. Index returns do not reflect a deduction for fees or expenses.

Alternative investments are speculative, entail substantial risks, offer limited or no liquidity and are not suitable for all investors. These investments have limited transparency to the funds’ investments and may involve leverage which magnifies both losses and gains, including the risk of loss of the entire investment. Alternative investments have varying and lengthy lockup provisions.

This material is available to advisory and sub-advised clients, as well as financial professionals working with City National Rochdale, a registered investment advisor and a wholly-owned subsidiary of City National Bank. City National Bank provides investment management services through its sub-advisory relationship with City National Rochdale.

Index Defintions

S&P 500 Index: The S&P 500 Index, or Standard & Poor’s 500 Index, is a market-capitalization-weighted index of 500 leading publicly traded companies in the U.S. It is not an exact list of the top 500 U.S. companies by market cap because there are other criteria that the index includes.

Bloomberg Barclays US Aggregate Bond Index (LBUSTRUU): The Bloomberg Aggregate Bond Index or “the Agg” is a broad-based fixed-income index used by bond traders and the managers of mutual funds and exchange-traded funds (ETFs) as a benchmark to measure their relative performance.

GT2 Govt, GT3 Govt, GT5 Govt, GT10 Govt, GT30 Govt: US Government Treasury Yields

DXY Index: The U.S. dollar index (USDX) is a measure of the value of the U.S. dollar relative to the value of a basket of curren-cies of the majority of the U.S.’s most significant trading partners.

Dow Jones U.S. Select Dividend Index (DJDVP): The Dow Jones U.S. Select Dividend Index looks to target 100 dividend-paying stocks screened for factors that include the dividend growth rate, the dividend payout ratio and the trading volume. The components are then weighted by the dividend yield.

P/E Ratio: The price-to-earnings ratio (P/E ratio) is the ratio for valuing a company that measures its current share price relative to its earnings per share (EPS).

The Commodity Research Bureau (CRB) Index acts as a representative indicator of today’s global commodity markets. It measures the aggregated price direction of various commodity sectors.

The MSCI indexes are market cap-weighted indexes, which means stocks are weighted according to their market capitalization — calculated as stock price multiplied by the total number of shares outstanding.

Quality Ranking: City National Rochdale Proprietary Quality Ran king is the weighted a verage sum of securities held in

the strategy versus the S&P 500 at the sector le vel using the below formula.

City National Rochdale Proprietary Quality Ranking formula: 40% Dupont Quality (return on equity adjusted b y debt levels), 15% Earnings Stability (v olatility of earnings), 15% Re venue Stability (volatility of revenue), 15% Cash Earnings Quality (cash flow vs. net income of compan y) 15% Balance Sheet Quality (fundamental strength of balance s heet).

*Source: City National Rochdale proprietary r anking system utilizing MSCI and FactSet data. **Rank is a perc entile

ranking approach whereby 100 is the highest possible score and 1 is the lowest. The Ci ty National Rochdale Core compares the weighted average holdings of the str ategy to the companies in the S&P 500 on a sector basis. As of September 30, 2022. City National Rochdale proprietary ranking system utilizing MSCI and FactSet data.

Rank is a percentile ranking approach whereby 100 is the highest possible score and 1 is the lowest. The City National Rochdale Core compares the weighted average holdings of the strategy to the companies in the S&P 500 on a sector basis. As of June 2022.

Bloomberg Barclays US Aggregate Bond Index: The Bloomberg Aggregate Bond Index or “the Agg” is a broad-based fixed-income index used by bond traders and the managers of mutual funds and exchange-traded funds (ETFs) as a benchmark to measure their relative performance.

The Case-Shiller Index, formally known as the S&P CoreLogic Case-Shiller U.S. National Home Price NSA Index, is an economic indicator that measures the change in value of U.S. single-family homes on a monthly basis.

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