A Time to “Squeeze More Juice” out of Risk Assets
Growth, Rates and Volatility Subdued; Watch for Upside Surprises as
Austerity Fades
Central Bank Policies Face Limitations; Sustainable Growth Demands
Structural Reforms
International Stocks Offer More Value than US Equities
NEW YORK--(BUSINESS WIRE)--
Risk assets such as stocks and corporate bonds have further to run in
2014 even as a global tide of easy money slows, according to the
BlackRock (NYSE: BLK) Investment Institute’s 2014 Investment
Outlook.
The Outlook, “Squeezing
Out More Juice,” considers key factors — such as the gradual exit
from quantitative easing in the United States, tentative signs of a
(weak) European recovery, Japan’s growth plan and China’s reform agenda
— and their potential to create upside surprises or unforeseen downside
risks.
"2014 is the year to squeeze more juice out of risk assets," said Ewen
Cameron Watt, Chief Investment Strategist of the BlackRock Investment
Institute (BII). "But investors should be ready to discard the fruit
when it starts running dry."
The BII introduces three investment scenarios for 2014 against a
backdrop of low nominal growth and monetary policy choices driving
markets. Low for Longer, the base case with a 55% probability,
features tepid economic growth and loose financial conditions.
The bull case (25%), Growth Breakout, has growth accelerating and
liquidity gradually tightening. The bear scenario (20%), Imbalances
Tip Over, highlights the many things that can go (very) wrong.
Is Monetary Policy the Panacea for all Ills?
Developed economies should accelerate in tandem for the first time since
2010, the BII noted. However, a key worry is that global central bank
policies geared toward stimulating growth might now be "pushing on a
string."
"Low nominal growth cannot be solved by monetary policy alone," the BII
said. "Monetary growth does not address skill mismatches, aging
populations, labor market red tape and protectionist policies. Central
banks can ease some of the pain — but ultimately policymakers must
deliver structural reforms to boost growth."
The Hunt For Effective Diversification Heats Up
Under BII's Low for Longer scenario, real rates and overall
volatility will stay subdued, and market momentum could easily propel
equities higher. However, a fundamental problem for stocks is that
prices, not earnings, are now driving returns.
"Investors have jumped on the momentum train, effectively betting
yesterday's strategy will win again tomorrow," the BII noted. "Rising
correlations between bonds and stocks are making well-diversified 'safe'
portfolios riskier than they appear."
As a corrective, the BII counsels investors to consider other
diversification tools, such as alternative investments, market neutral
funds and strategies for "hard" assets such as infrastructure. "The
illiquidity of some of these approaches appears a fair price for
uncorrelated returns in a low-growth world," the BII said.
In the US, Housing and Equities Markets Face Key Risks
In the US, growth will accelerate to around 2.5 percent, and then stay
there; the Federal Reserve will taper lightly but will keep rates low,
the BII projects. "Tapering aside, 2014 will still be the second-most
accommodative year in US monetary history, after 2013," the BII said.
Two markets challenged by policy change in the US are housing and
equities. "The taper-induced hike in mortgage rates slowed down home
sales and price gains — even though housing affordability remains near
its highest level in decades," the BII said. "What happens when the Fed
exits its quantitative easing program in earnest?"
In the equities markets, many investors are "reluctant longs," the BII
said, and US equities look expensive by most valuation metrics.
"Corporate profits are at a record share of output, with the wage share
at a low," the BII said. "This speaks to troubling trends of growing
inequality and weak wage growth — and brings into question how
sustainable these margins are. Compliant credit markets are funding
equity withdrawal — for now."
The BII expects that fixed income opportunities in 2014 will continue to
evolve away from a reliance on declining interest rates into an asset
class where returns are more driven by the relative value between
individual bonds.
International equities in many cases now offer more compelling value,
especially Japanese and European stocks, the BII said.
Europe Restrained by "Monetary Corset"
Fiscal austerity and aging populations will keep European growth
sluggish, with southern Europe continuing to groan under a heavy debt
load and struggling to regain competitiveness, the BII believes.
"Europe is stuck in a monetary corset," the BII said. "The European
Central Bank knows the Eurozone needs a weaker currency to export its
way out of debt and import some inflation, yet the euro is rising due to
a current account surplus and reduced financial risk. The likely result
is more monetary easing — despite German opposition."
The BII is "cautiously bullish" on European equities. Valuations are
relatively low, especially compared with US peers, and companies could
notch 8 to 10 percent earnings growth in 2014 based on new order trends.
One caution: European blue chips are highly geared toward emerging
market demand, the BII notes.
Japan’s “Three Arrows” for Growth Face Obstacles; China’s Reform
Efforts Could Spark Asian Bull Market
The BII describes itself as “split” on Japan’s future, with the
possibility of “either very good outcomes — or very bad ones.” Japan’s
recipe for growth, Abenomics, “might actually work,” the BII notes,
boosting the world’s third-largest economy, but there are real
impediments to the plan’s “three arrows:” monetary stimulus, fiscal
stimulus, and structural reforms.
Efforts to attain long-term fiscal health could be particularly
challenged. “Any attempts to chip away at Japan’s debt load could tip
the economy back into recession,” the BII said. “And if the economy
takes off and rates rise, spiraling debt servicing costs would break any
expansion and could even trigger a debt crisis.
“Our bottom line: There is juice left in the long Japanese
equities/short yen trade — but the risks are high.”
China’s reform blueprint – which includes freeing up interest rates,
liberalizing the RMB currency, and allowing land ownership in rural
areas, the biggest wealth transfer in history – appears encouraging, and
could set the stage for a multi-year bull market in Asian equities. “The
key is whether policymakers actually follow through on their promises --
volatility may be high until we see some evidence,” the BII said.
Bulls and bears agree Chinese GDP growth is slowing, the BII noted, and
the debate has shifted to how much further it will fall. “A little
slowdown is good, especially if it involves a rebalancing toward a
consumption-led economy,” the BII said.
According to the BII, the “dragon” is not likely to “crash land,” but
there are worries about credit growth. “History shows rapid credit
expansion usually ends in tears,” the BII said.
So What Do I Do With My Money?TM
Here is a summary of the BII’s investment recommendations for 2014:
Big Picture
-
Helicopter View: We generally prefer equities over bonds,
particularly in our base case Low for Longer scenario.
-
Risk in Safety: Equities and bonds are becoming more
correlated. This is making “safe” portfolios a lot more risky.
-
Alternative Menu: Infrastructure, real estate and other
alternatives are real diversifiers —and offer attractive yields in a
low-rate world.
-
Volatility on Sale: It is better to buy an umbrella before the
rain. Volatility is cheap and many assets are expensive.
Equities
-
Equity Value: Equities are not cheap — but they are not (yet)
in bubble territory. We generally favor Europe and Japan on valuation.
-
Yield Caution: US yield plays will wrestle with tighter
liquidity. Dividend growers still offer potential, as do non-US
dividend payers.
-
Emerging Idea: Our contrarian idea: Overweight emerging market
stocks vs. developed. Be selective and favor indirect exposures
(multinationals).
Fixed Income
-
Carry On: Many bonds still look expensive and risky (especially
government debt). Go for carry or yield in a barbell strategy.
-
Curve Plays: Low rates support short maturities. Tapering fears
have hammered many long-term bonds back to reasonable valuations.
-
Beware Traffic Jams: Easy to get into, tough to get out of.
Liquidity could dry up fast in some credit markets — when you need it
most.
The BlackRock Investment Institute 2014 Outlook can be found:
US: https://www2.blackrock.com/webcore/litService/search/getDocument.seam?venue=PUB_IND&source=GLOBAL&contentId=1111202181
INTERNATIONAL: https://www2.blackrock.com/webcore/litService/search/getDocument.seam?venue=PUB_IND&source=GLOBAL&contentId=1111202185
About BlackRock
BlackRock is a leader in investment management, risk management and
advisory services for institutional and retail clients worldwide. At
September 30, 2013, BlackRock’s AUM was $4.096 trillion. BlackRock helps
clients meet their goals and overcome challenges with a range of
products that include separate accounts, mutual funds, iShares®
(exchange-traded funds), and other pooled investment vehicles. BlackRock
also offers risk management, advisory and enterprise investment system
services to a broad base of institutional investors through BlackRock
Solutions®. Headquartered in New York City, as of September 30, 2013,
the firm had approximately 11,200 employees in 30 countries and a major
presence in key global markets, including North and South America,
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information, please visit the Company's website at www.blackrock.com.
About the BlackRock Investment Institute
The BlackRock Investment Institute leverages the firm’s expertise across
asset classes, client groups and regions. The Institute’s goal is to
produce information that makes BlackRock’s portfolio managers better
investors and helps deliver positive investment results for clients.
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Executive Director
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Lee Kempler
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Executive Editor
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Jack Reerink
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Chief Strategist
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Ewen Cameron Watt
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The opinions expressed are as of December 9, 2013 and may change as
subsequent conditions vary. The information and opinions contained in
this material are derived from proprietary and non-proprietary sources
deemed by BlackRock to be reliable, are not necessarily all inclusive
and are not guaranteed as to accuracy. There is no guarantee that any
forecasts made will come to pass. Reliance upon information in this
material is at the sole discretion of the reader. 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.
BlackRock® is a registered trademark of BlackRock, Inc. All other
trademarks are the property of their respective owners.
© 2013 BlackRock, Inc. All rights reserved.
BlackRock
Tara McDonnell, 212-810-5337
Tara.McDonnell@blackrock.com
Source: BlackRock