July 23, 2013
|Ray Mills, portfolio manager of the Overseas Stock Fund|
Global equity markets soared in the early months of 2013, especially in the developed world. Then there were sharp reversals in May and June after U.S. Federal Reserve Chairman Ben Bernanke suggested the Fed could begin tapering its economic stimulus efforts later in the year. What comes next? In a recent interview Mills discusses the recent environment and current outlook for global markets.
Shortly after Bernanke's comments, interest rates rose across the globe. Mills says this was certainly a catalyst for the decline in global equity markets, but he questions whether rates should have risen as much as they did. Another pressure on international stocks was the effect of a strengthening U.S. dollar. This made the U.S. more attractive relative to other countries, because it is perceived as a safer and more profitable market in which to invest. However, there is a limit to that effect, since a stronger dollar also makes overseas exporters more competitive. Rising debt in China, and a credit crunch as the central bank cut down on speculative lending, also weighed on markets.
Effects of the slowing Chinese economy have rippled across the globe. In recent years, China has been a huge purchaser of resources as consumption grew. The slowdown will affect emerging markets where growth is driven by sales of natural resources, as well as developed markets looking to China as a way to export their way out of recession.
In Japan, Prime Minister Abe has made it a top priority to improve the economy and end deflation. As the U.S. is winding down its monetary stimulus, Japan is ramping up. Mills notes that progress has been made, but it remains to be seen if efforts will be successful in the medium and long term. As one of the world's most rapidly aging societies, Japan will need to find a way to reverse demographic trends, like easing immigration or lowering barriers for women in the workplace.
After a lengthy period of outperformance, emerging markets stocks fell in the first half of 2013 and have now lagged developed markets since the fall of 2010. In China, investors have expressed concern about leadership's efforts to rein in credit expansion. Riots in Brazil, demonstrations in Turkey, and mining industry clashes in South Africa have all hampered growth in their respective countries.
Mills says there are still opportunities in emerging markets, but there's no historical correlation between economic growth and market appreciation. Long-term trends, like consumer aspirations and a growing middle class, are still favorable. One way to take advantage of these is to invest in developed market companies that can leverage emerging market economic growth and increased consumption. Additionally, the declines in emerging markets mean there are some direct investment opportunities thanks to lower valuations.
In the near term, Mills says there are two main risks for international investors. First, central bank stimulus has been extraordinary. So far, outcomes have been favorable and the stimulus was probably needed. However, as we've seen in the reactions to Federal Reserve announcements, unwinding those efforts will be tricky. The second risk is China, since it is crucial to the world economy. If there were a financial or social crisis there, it would pose a challenge to global equity markets.
The good news is that an improving U.S. economy and housing recovery is good for global equities. Additionally, Mills says that companies are simply being run better than they were in the past in Europe, Australia, and other areas. Valuations in Europe and emerging markets are attractive. Mills notes, though, that investors need to consider investments at the stock level, as there is not consistency across the board among companies in any market or segment.
The views are as of June 27, 2013 and may have changed since that time. This information is provided for informational purposes only and is not intended to reflect a current or past recommendation, or investment advice of any kind. Opinions and commentary do not take into account the investment objectives or financial situation of any particular investor or class of investor. Investors will need to consider their own circumstances before making an investment decision.
Stocks and sectors may not perform in line with the managers' expectations. All funds are subject to market risk, including possible loss of principal. Funds that invest overseas generally carry more risk than funds that invest strictly in U.S. assets, due to factors such as currency risk, geographic risk and emerging markets risk. Diversification cannot assure a profit or protect against loss in a declining market.