By Matt L. Peden, CFA, Vice President, Investment Officer

As a continuation from last year, 2011 began with investors focusing on the momentum of global economic growth that was taking place on the heels of massive accommodative monetary policies and rapidly growing emerging market economies. Unpredictably, the spotlight quickly shifted during the first quarter to massive natural disasters and geopolitical events, leaving investors contemplating over the potential impact of these events on future economic growth and the capital markets. Questions remained as to whether or not the political unrest in the Middle East would spread to other countries, especially major oil producers. Political unrest in that part of the world always increases anxiety over rising oil prices and the potential “tax impact” it has on consumers’ spending power. Additionally, ongoing sovereign credit concerns in peripheral European countries continued to surface, applying pressure to that region’s financial system. No one can argue these events did not elevate downside risks to the global economy; however, it does appear that investors tilted the scale toward optimism as the capital markets remained remarkably resilient and investors that maintained exposure to riskier assets such as equities and high yield bonds were handsomely rewarded. The broad domestic bond market, as measured by the Barclays Capital Bond Index (“Aggregate Bond Index”), posted a quarterly return of 0.42%, compared to the U.S. stock market which generated a return of 5.92%, as measured by the S&P 500^® Index.

In the midst of the aforementioned events, the base view for the macroeconomic landscape remained guardedly positive. Mostly positive economic data, combined with accommodative monetary policy and fiscal policies, appeared to ease concerns over a double-dip recession in the U.S. Inflation appeared to remain in control, with the exception of increasing energy and food prices. The cautiously optimistic environment led to a rise in U.S. Treasury yields across the yield curve. Rising interest rates resulted in a bearish environment for the U.S. Treasury sector, which generally underperformed other bond sectors that benefited from higher yields and spread compression. The broad U.S. Treasury sector posted a quarterly return of (0.16%), with long-maturity U.S. Treasuries being the worst performers. The Federal Reserve (“Fed”) maintained its funds rate at 0% - 0.25% during the quarter, but its tone was more “hawkish” towards monetary policy, leaving pundits wondering if the Fed would hike rates sooner than originally anticipated. The quarter ended with the 10-year and 30-year U.S. Treasury yielding 3.47% and 4.51%, respectively.

Despite rising interest rates, the broad bond market posted a modest positive return during the quarter due to the performance of higher risk (relative to U.S. Treasuries) sectors. Within the Aggregate Bond Index, the investment grade corporate bond sector was one of the top performers, generating a quarterly return of 0.86%. The sector benefited from spread narrowing and improving corporate fundamentals as well as strong investor demand. Investment grade corporate bond spreads approached pre-crisis historical averages, but continued to provide attractive yield pick-up compared to U.S. Treasuries.

Given the “risk trade” was rewarded, it is not surprising that the high yield bond sector (defined as below investment grade corporate bonds) was the top performing sector during the quarter, generating a return 3.88%. This sector continued to benefit from improving corporate fundamentals and declining default rates. The fact that these securities are generally less interest rate sensitive further fueled investor demand. Emerging market debt (debt issued by emerging market entities) posted a quarterly return of 0.74%, positively impacted by solid growth and fundamental characteristics. Unlike their nominal counterparts, U.S. TIPS posted a strong, positive return of 2.08% during the period, as concerns over future inflation increased.

You should carefully consider the investment objectives, risks, charges and expenses of GuideStone Funds before investing. For a copy of the prospectus with this and other information about the funds, please call 1-888-98-GUIDE (1-888-984-8433) or download a prospectus. You should read the prospectus carefully before investing.

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All indices are unmanaged and not available for direct investment. Index performance assumes no taxes, transaction costs, fees or expenses. This update is prepared for general information only and it is not to be reproduced.

GuideStone Funds shares are distributed by BNY Mellon Distributors Inc., a registered broker-dealer and underwriter of the funds, 760 Moore Road, King of Prussia, PA 19406. GuideStone Capital Management, a controlled affiliate of GuideStone Financial Resources, serves as the investment adviser to GuideStone Funds.