Nobody wants to say this but I will. The technology sector has gotten so big, so pervasive and powerful, that the stock market index creators had to break it up. Because the monopolist powers of these corporations off of the stock market and in the real world have not been checked by natural competitive forces or government intervention. The big names in tech get bigger and bigger every year, their influence extending in...
Martin Luther King Jr. conveyed some incredibly moving ideas and left us with a few extraordinary quotations during the course of his life and career. Below are my three favorites. -JB *** “If you can’t fly then run, if you can’t run then walk, if you can’t walk then crawl, but whatever you do you have to keep moving forward.” “As my sufferings mounted I soon realized that there were...
We see three key themes shaping economies and markets in 2018: Room to run, inflation comeback and reduced reward for risk.
The first focuses on our outlook for a steady expansion. The second calls for an inflation re-awakening in the U.S. and heralds monetary policy divergence. The third acknowledges 2017 will be a tough act to follow: Risk-taking may still pay off, but the rewards will likely be skinnier.
What are the investing implications? We cover a number in our 2018 Global Investment Outlook, and here are seven to consider.
Take risk in equities over credit
We believe investors can still be compensated for taking risk in 2018—but will receive lower rewards. We prefer to take risk in equities rather than credit, given tight credit spreads, low yields and a maturing cycle. Economic expansion supports both stocks and corporate debt, but equities offer greater upside than credit as the cycle matures, we believe. U.S. credit spreads against Treasuries are near their mid-2000s lows. Such tight spreads mean that even a small selloff can wipe out credit’s extra income over government bonds. We see credit offering coupon-like returns, making it a useful source of income potential. But when bonds trade near or over par, as they do today, there is little potential price upside. In contrast, a solid economic backdrop and increasing profitability should drive equity returns in 2018, even as we see earnings momentum weakening.
Consider Japanese stocks
What a year 2017 was—for corporate profitability. All major regions increased earnings at a clip faster than 10%, Thomson Reuters data show, the strongest growth since the post-crisis bounce. We expect more good things in 2018, but year-over-year increases will be harder to replicate. Still, we see the economic and earnings backdrop as positive for equities, with fuller valuations a potential drag, especially in the U.S. Equities in Japan, the only major region to see multiple contraction in 2017, look well positioned. Japan may be hard-pressed to repeat its surprisingly strong earnings showing in 2018, but steady global growth, robust trade and commodity price stability should be supportive.
Favor emerging market (EM) equities
EM equities had a tiger in their tank in 2017, ending years of underperformance versus developed peers. We believe they can run higher. We see the potential for EM stocks to again outperform in 2018 on rising profitability, higher valuations and investors returning to the asset class. Companies have reduced wasteful investments, and our math finds free-cash-flow yield for non-financials exceeds that of developed markets (DMs) for the first time since 2007. Return on equity has finally been improving and valuations have been rising. We see scope for more EM rerating in 2018, whereas the U.S. and Europe have much less headroom. Other reasons to like EMs: reform progress in key markets and plenty of capacity for investors to increase exposure after years of underweighting the asset class. We see the greatest opportunities in EM Asia but note positive progress in Brazil and Argentina, as discussed in Early innings for emerging markets from November 2017. We do not see moderate Federal Reserve tightening or U.S.-dollar gains harming the investment case, and we believe EM economies can withstand a moderate slowdown in China.
Prefer certain DM sectors including financials and technology
Financials would likely benefit from U.S. deregulation, and any yield curve steepening could boost lending margins. Meanwhile, even as technology was the top-performing sector globally last year, we see opportunity there, particularly in firms that are able to monetize their technology amid structural shifts. Overall, strong fundamentals make the tech sector favorable over the long term, in our view.
Diversify across factors
The momentum factor has historically outperformed in expansions, but we believe diversifying across factors can help cushion any dips. The momentum factor reigned in 2017, and our outlook for a steady, sustained expansion should support the momentum factor going forward. Momentum has historically outperformed the broader market over time, and periodic sharp reversals have typically been short-lived—except in cases of recession or financial crisis. But we also like the value factor, home to cheaper companies across sectors and could outperform in any momentum selloff, if the long history of negative correlation between the two factors is any guide.
Be selective in credit
We prefer an up-in-quality stance in credit amid tight spreads, low absolute yields and poor liquidity. Low growth and inflation expectations, coupled with insatiable global demand for income, have held down long-term yields across the world. We expect income-starved and safety-seeking investors to keep chasing relatively scarce G3 bonds—holding rates well below historical averages. The global search for yield has driven many fixed income investors into unfamiliar territory, leading them to embrace more credit risk and even venture beyond the bond markets—not just into dividend-paying equities but also into selling equity options. The risk inherent in these strategies rises disproportionately as credit spreads narrow, so we favor an up-in-quality stance and emphasize liquidity.
Prefer inflation-protected over nominal bonds, especially in the U.S.
We see inflation in the U.S. rising back to a 2% target—a turnaround from fears of near-zero inflation or even deflation two years ago. Rising inflation and lower valuations give inflation-protected bonds an edge over the nominal variety.
Read more details on our investment views in our full 2018 Global Investment Outlook and in the table below.
Asset class views
Views from a U.S.-dollar perspective over a three-month horizon
Investing involves risks, including possible loss of principal. International investing involves risks, including risks related to foreign currency, limited liquidity, less government regulation and the possibility of substantial volatility due to adverse political, economic or other developments. These risks may be heightened for investments in emerging markets. Fixed income risks include interest-rate and credit risk. Typically, when interest rates rise, there is a corresponding decline in bond values. Credit risk refers to the possibility that the bond issuer will not be able to make principal and interest payments. This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of January 2018 and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this post is at the sole discretion of the reader. ©2018 BlackRock, Inc. All rights reserved. BLACKROCK is a registered trademark of BlackRock, Inc., or its subsidiaries in the United States or elsewhere. All other marks are the property of their respective owners. 370041
I’m speechless after reading this article. You will be too. Everyone Is Getting Hilariously Rich and You’re Not (New York Times) ...
This week we moved into our new office space on Bryant Park in New York City. You can read about the details of how Newmark Knight Frank helped us at New York City Biz List. The phones are up, the internet is working and the furniture is dribbling in a little each day. Now we have to unpack These were the most read posts on the site this week, in case you missed it: ...
Twitter, Jacobs Engineering, Industrials & Citigroup from CNBC. ...
I think I know what we’re supposed to be doing in this world. When we see someone who is fighting to make their dream come true, against intolerable odds, we’re supposed to rush to the rescue. Get in the ring and start throwing punches right alongside that person. We’re supposed to help that person win the fight and make their dream come true, if we are able. People have done this for me. Lots of people....
Here’s something you may not have known – that massive protest in Iran was initially caused by a financial fraud that wiped out people’s savings when they thought the central bank had their back and it didn’t… via the Wall Street Journal: The call to protest came through a group channel on the smartphone app Telegram. Younes, a 42-year-old accountant at a saffron-importing company, like most ...
In other words, life happens. That’s why it’s important to meet with your financial planner to see if anything has changed, and if there’s anything that needs to be done to assist with those changes.
The reason it’s important to meet with your planner is that he or she can ask questions and propose situations that you might not even be aware of or think about. A recent example would be how the new tax law affects your situation. Another example would be a child that is going to college, a job change, death, divorce, or 2018 being the year you plan to retire.
A financial planner will be able to provide another set of eyes to your situation to perhaps think of things you may not have, or to potentially look at your situation objectively, without any personal bias you may have. An example being hanging onto an investment you fell in love with and don’t want to sell, but the prudent thing to do is to sell. Or, it may mean preventing you from a bad financial decision (bitcoin, or unnecessary debt).
However, life does move pretty fast. We get caught up with our careers, family, friends, among other things. Sometimes we tend to be reactive, rather than proactive. That is, we usually think about things only when they need to be taken care of, or after something has happened.
That’s why it’s good to periodically meet with your financial planner. And if you don’t have one, consider meeting with a few and finding one that works well with you and your situation. Even if you think you don’t need any help or your situation hasn’t changed, a financial planner may be able to see something you don’t. And if you’re concerned about a planner creating an artificial need or overselling you, find a fiduciary. They’re legally required to educate you and tell you whether or not you have an issue that needs to be addressed.
During the first four days of 2018, U.S. stocks rose 2.50% and the VIX Index, a measure of implied volatility, never closed above 10, very low by historical standards. For years, investors interpreted extreme low volatility readings as a warning sign; lately it has become the norm (see the accompanying chart). Whether this can continue depends less on external culprits such as the din out of Washington and more on the real economy and financial market conditions.
Back in August, I suggested that investors should tune out much of the sound and fury emanating from Washington. While financial markets are not immune to political strife, they have historically been more resilient than many imagine. Instead, what matters is whether political uncertainty translates into economic disruption. Thus far that has not happened, suggesting that the low volatility regime can continue.
Starting with the real economy, two things have historically impacted market volatility: the level and volatility of growth. Not surprisingly, sharp decelerations in growth or recessions are accompanied by more volatility. Today, neither appear likely.
Beyond the level of growth, the variation in growth also matters. Market volatility tends to be low when economic growth is steady. During the past 20 years, economic volatility, measured by my preferred measure, the Chicago Fed National Activity Index (CFNAI), explained 20% of the variation in the VIX Index. Today’s steady economy helps explain why financial market volatility has remained muted.
Beyond the real economy, the other big driver of market volatility is financial market conditions. Cheap and available money, evidenced by tight credit spreads, explains more than 50% of the variation in equity market volatility. Recently spreads have been declining from already low levels. Since last discussing volatility in August, high yield spreads have narrowed by another 35 basis points (bps, or .35% points). This is the other reason why a sub-10 VIX has become so commonplace.
Things to watch
For now it would appear that the low volatility regime is likely to remain in place. What might change that? Last week I suggested watching credit markets, which are often the first to react to changes in the environment. This leaves the question: What might disrupt credit markets? A precursor to any change is likely to take the form of either too much or too little growth.
On the latter, watch China. I expect the Chinese economy to gently decelerate during the course of the year. However, a quicker drop, perhaps to sub-6% growth, would be a problem.
The other potential disrupter is the opposite—too much growth, or more particularly an unexpected acceleration in U.S. inflation.
For now inflation remains tame, but work by the BlackRock Investment Institute suggests some mean reversion in U.S. core inflation during the course of the year. Some acceleration has already been reflected in the bond market; witness the recent rise in U.S. TIPS breakeven rates. However, should inflation start to move meaningfully above 2%, the low volatility regime is unlikely to survive.