Five years after being roiled by the onset of a financial crisis, the global investment environment appears to be approaching an inflection point. This view was discussed by T. Rowe Price investment professionals who shared their thoughts at the company’s annual Investment and Economic Outlook press briefing in New York City on December 3rd
The briefing’s overriding theme for 2014: Be careful. Many financial markets around the world have been in bull market territory since the nadir of the crisis in March 2009. U.S. stocks are up more than 160% off of their lows in 2009, while non-U.S. stocks are up more than 107%. For most of this time, markets have climbed a “wall of worry” and many investors stayed on the sidelines. Recently, however, money has begun to move into riskier asset classes. While attractive investing opportunities continue to exist in many global financial markets, T. Rowe Price believes that investors should temper their expectations as the strong performance in many of these markets over the last five years is unlikely to be matched during the next five years.
Investment and Economic Observations
The U.S. economy and many other economies around the world are poised to gain traction in 2014, albeit in a slower-growth mode than they enjoyed before the crisis began. Tapering from the U.S. Federal Reserve is coming in the next three to six months, and could lead to volatile conditions in global equity and fixed income markets. With unemployment still high in the U.S. and inflation pressures muted, the pace of monetary policy adjustment is likely to be gradual.
Alan Levenson, Chief Economist stated:“The economy should gain momentum next year, with housing construction likely to pick up. The impact of political uncertainty in Washington should be less than it was this year, once we get past the January sequestration talks and the focus turns to elections.”
Despite the bull market, equity valuations appear to be reasonable overall. On the international equity front, many developed markets are seeing improving fundamentals. Europe’s economic recovery is still in its early stages, which could give European stocks more room to run than their U.S. counterparts. In Japan, government reform efforts have the potential to pull the moribund economy from its chronic slump, but structural challenges remain, including ineffective corporate governance and dated labor and regulatory rules. In emerging markets, equity valuations appear to be inexpensive relative to historical norms.
Bill Stromberg, Head of Equityexpressed: “Confidence has been restored, but it is important to be vigilant as the U.S. bull market is aging. International investments, especially in emerging markets, represent the best long-term value from here in fixed income and equity.”
John Linehan, Head of U.S. Equity, shared a similar message, highlighting his doubts over the US market rally: “Moving forward, U.S. stocks are unlikely to match their recent strength. This bull market has lasted for 57 months so far, which is the average length of bull markets since 1930. On the plus side, corporate health remains strong and valuations are neutral. There are still attractive areas, such as companies that are benefiting from the reindustrialization of America. Market tailwinds and headwinds are now more balanced, so we believe it’s time to be cautious.” On the other hand Dean Tenerelli, portfolio manager of the T. Rowe Price European Stock Fund was more positive on his asset class”European equities are undervalued and the economies are recovering. Luxury goods companies, banks in consolidated markets, broadcasters, and Spanish utilities are a few examples of where we see opportunity.
Global fixed income markets are vulnerable to interest rate increases, but value can still be found in certain pockets, including emerging market debt. Credit fundamentals are trending up for many states and municipalities, leading to generally good conditions for U.S. municipal bonds. Moreover, revenues are increasing, due to economic improvement and tax rate hikes, while budget gaps are shrinking. T. Rowe Price favors revenue-backed municipal bonds, especially in areas such as public utilities, transportation authorities, and hospital systems, all of which have limited regional competition and essentially operate as monopolies.
Mike Gitlin, Head of Fixed Income thinks that “Opportunities still exist. The market for emerging market local bonds is relatively liquid and offers attractive risk/reward characteristics. Bank loans and high yield bonds have low expected default rates, strong credit fundamentals, and reasonable yields.”