September 5, 2013
The U.S. economy has been gradually improving, supported by a favorable employment outlook, low inflation, and the housing market recovery. This encouraging news is likely to favor companies with strong profiles. In the months ahead, we could see a transition "from a stimulus-driven to a market-driven U.S. economic environment as the Fed begins to ratchet down its asset purchase program...This changing dynamic should prove healthy over the long run," says New America Growth Fund Manager Daniel Martino. Investors could also benefit from the strong financial position of many companies. Dividend Growth Fund Manager Thomas Huber notes that "healthy balance sheets and good cash flow offer corporations some flexibility in the deployment of capital," which could include share repurchases and dividend payments. However, uncertainty over fiscal policy could weigh on the economy and the equity market. T. Rowe Price Chief Investment Officer and Equity Income Fund Manager Brian Rogers cautions that investor sentiment is likely to be affected by the debate in Washington this fall over a continuing budget resolution and an increase in the federal debt ceiling.
Innovation and improving regulatory environment should benefit certain sectors
"The technology industry continues to be defined by rapid change. We think this affords considerable investment opportunity across industry segments," says Science & Technology Fund Manager Ken Allen. Similarly, our health care and financial services experts point to encouraging trends. Health Sciences Fund Manager Taymour Tamaddon says that we are likely to see "pockets of exciting performance" due to "the introduction of highly innovative and effective medical products and businesses in the health care services area that provide quality outcomes in a cost-effective manner." Financial Services Fund Manager Eric Veiel observes that "regulatory headwinds are steadily diminishing as the new rules for the financials sector slowly get defined. That alone is a positive development because it removes ambiguity." While he believes that financial stocks could outperform the broader market in the second half of 2013, Mr. Veiel cautions that the magnitude of outperformance in the next six months, if it occurs, is likely to be smaller than their performance advantage over the last 18 months.
Solid fundamentals support emerging debt markets
International Bond Fund Co-managers Ian Kelson and Chris Rothery "expect some volatility in currency markets until U.S. monetary policy is further clarified." However, they continue seeking opportunities in "certain emerging markets currencies and bond markets as recent underperformance has resulted in some attractive valuations." While the rate of growth in many parts of the developing world has slowed, we are optimistic about the outlook for emerging markets bonds. Emerging Markets Bond Fund Manager Michael Conelius is encouraged that "credit fundamentals and economic growth potential in emerging markets countries are generally favorable relative to many highly indebted developed countries. We believe this will continue to drive secular capital flows into emerging debt markets in the long term and support bond prices."
Some near-term caution is advisable, but the long-term U.S. equity outlook remains positive
New Horizons Fund Manager Henry Ellenbogen concludes that "the runup in U.S. stocks over the past six months appears to have outpaced company fundamentals and the broader economic recovery, leaving the market susceptible to a pullback in the near term." Small-Cap Value Fund Manager Preston Athey agrees, noting that we should expect "a choppy market in the second half of the year, and probably one that offers more moderate gains than we have seen in recent months." In addition, Diversified Mid-Cap Growth Fund Co-managers Don Peters and Don Easley detect "enough speculative activity in the market that gives us some pause." However, they believe that equities remain attractive and that "the current environment continues to provide patient investors who are willing to take prudent risks with a great opportunity to invest in equities for long-term capital growth."
All funds are subject to market risk, including possible loss of principal. Investing overseas involves additional risks, including political risk and geographic risk.