Look to 1990s for what to buy in 2015
by Trevor Greetham
The US-led global recovery looks set to continue into 2015 with disinflationary pressure keeping monetary policy loose and supporting a bull market in equities that has already seen America’s S&P 500 index triple from its March 2009 low.
The Federal Reserve will probably start normalising interest rates during the year but the inflation picture is unlikely to warrant the sort of aggressive action that would trigger a bear market.
If anything, problems elsewhere in the world could keep US policy looser for much longer. A lack of wage inflation points to the existence of slack in the developed economies while excess capacity and the structural slowdown in China are keeping commodity prices under downward pressure.
The environment recalls the 1990s, and I am following a strategy that would have worked well over that decade: bullish on US equities, cautious on the emerging markets and commodities and sceptical about Europe. The 1990s saw a prolonged period of disinflationary recovery with Japan playing the role of China today – a large industrial economy going ex-growth. Meanwhile, the fall of the Berlin Wall brought excess commodity-producing capacity from the Soviet bloc onto global markets.
Against expectations at the time US growth remained robust, the dollar was strong and Alan Greenspan’s Fed provided enough liquidity to drive Wall Street to stratospheric levels. Those who think equities are too expensive today should note that the darlings of the 1990s, technology and healthcare stocks, are once again leading the US market higher and the fundamentals in both sectors are good enough to encourage a further increase in valuation multiples if the bull market continues.
The US has been my favourite equity market for the last four years. A strengthening housing market and an end to fiscal tightening are underpinning a solid expansion. The trend in corporate earnings has been consistently strong relative to other regions, particularly Europe.
The Federal Reserve is likely to be the first of the major central banks to raise interest rates and this could trigger a period of volatility but, as long as the inflation picture remains benign, the equity markets will come to understand that the Fed will be easing off on the accelerator pedal and not slamming on the brakes. And a tighter Fed means dollar strength is likely to continue adding to returns for unhedged investors.
The picture elsewhere is mixed. The desynchronised nature of the global recovery will create opportunities.
With China slowing, commodity-reliant emerging markets and developed markets like Canada and Australia with large resource sectors are likely to see poor equity returns and currency weakness.
UK equities in a global context merit caution. The resource sector has a large weight and political uncertainty ahead of the general election is undermining the housingled recovery.
A resumption of public spending cuts early in the next parliament could herald a period of renewed economic weakness. Europe is in a bit of a muddle. Growth momentum has peaked and several countries have moved into outright deflation, and prices fell 0.2% across the euro area in December.
Since the unconventional measures do not seem to be effective, European Central Bank President Mario Draghi will push the ECB towards a decision to buy sovereign bonds, but many in Germany would see quantitative easing as a bail-out for profligate governments.
A period of market stress may be necessary before policy-makers overcome their reluctance. With eurosceptic political parties on the rise, time is not on Europe’s side. I am underweight European equities and short the euro. Outright money printing would make me less negative on the equity market if and when it begins.
Japan is the one place that feels very different compared to the 1990s and the stock market is a top pick. As a commodity importer, Japan benefits from China’s slowdown and its export sector is well placed for a US-led upturn.
The domestic economy is patchy but the authorities are set on doing whatever it takes to deliver strong and sustainable nominal growth in order to allow the economy to grow out of debt. To this end, the Bank of Japan has stepped up its money printing programme and Prime Minister Shinzo Abe has sensibly postponed the October 2015 sales tax rise. Progress on structural reforms is slow but calling snap elections gave him four more years.
Currency weakness is part of the plan, so a short yen position makes sense. I see equities continuing to offer the best opportunities for investors but that doesn’t mean to say there won’t be some tricky moments.
Hardly a year went by in the 1990s without a crisis somewhere in the world, most often in the emerging markets. Deflationary shocks from Europe or China have the power to unsettle the markets in 2015 but the Fed would adjust policy accordingly and the US recovery would rumble on. Ultimately it is inflation not deflation that will end this bull market and there are few signs of it today.
■ Trevor Greetham, a member of the Advisory Board, is Director of Asset Allocation of Fidelity Worldwide Investment. Back