Large-cap U.S. stocks generated modest returns in the third quarter, while mid- and small-cap U.S. shares fell. Non-U.S. developed market stocks lost considerable ground in U.S. dollar terms as the greenback rapidly strengthened against most other currencies. Asian stocks did not decline as much as European shares. Within the broad MSCI Europe, Australasia, and Far East Index, small-cap stocks lagged large-cap shares. The broad U.S. bond market was nearly unchanged, while euro-denominated government bonds posted steep losses in terms of the dollar despite generating solid returns for eurozone investors. Emerging markets debt prices fell, with bonds denominated in local currencies experiencing the steepest losses in dollar terms.
The Global Allocation Fund returned −1.71% in the quarter compared with −2.04% for the Morningstar Global Allocation Index. For the 12 months ended September 30, 2014, the fund returned 8.29% versus 8.44% for the Morningstar Global Allocation Index. The fund's 1-year and Since Inception (05/28/2013) average annual total returns were 8.29% and 7.54%, respectively, as of September 30, 2014. The fund's expense ratio was 2.03% as of its fiscal year ended October 31, 2013.
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With the ability to position the portfolio according to our views on economic and market conditions, we reduced the stock allocation to a neutral position relative to bonds. We now see less expected upside support for equities from expansion of price/earnings multiples or margins. We are overweight to non-U.S. equities, including emerging markets, because of their more attractive valuations relative to U.S. stocks. In fixed income, we reduced our overweight to emerging markets debt in favor of U.S. investment-grade bonds amid the elevated headline risk for some developing countries as well as ongoing U.S. dollar strength. The fund includes a position in a hedge fund of funds that seeks to improve risk-adjusted returns; this allocation helped the fund's returns relative to the benchmark during the quarter.
Diminishing fiscal headwinds, improving private sector demand, and moderate job growth should continue to support U.S. economic activity. On the other hand, growth momentum has moderated in Europe and Japan, and we anticipate that high debt loads, elevated unemployment, and deflation worries will likely remain obstacles to a rebound in Europe. We expect the considerable disparity in the strength of individual emerging markets economies to continue, as countries with large current account deficits are the most vulnerable to slowdowns. We anticipate modest returns from bonds, which are still vulnerable to an increase in interest rates.