Reduced debt burden is key to sustained bull run in global equities
Do not let the past “lost decade” turn you off investing in foreign equity markets. Despite the recovery in global share prices over the past year, some asset managers remain confident that prices will continue to rise in the decade ahead.
Equities in the United States had their worst performance over the decade to the end of last year, with the Standard & Poor’s (S&P) 500 index posting minus 3.6 percent a year.
Rand investors who invested in the Morgan Stanley Capital World index from 2000 to 2009 made a measly two percent a year, or an after-inflation return of minus four percent a year, Peter Brooke, the head of the Macro Strategy Investments (MSI) boutique at Old Mutual Investment Group South Africa (Omigsa), says.
But if you want returns that are better than the blander ones we are told to expect from local asset classes, you may need to look past recent history to what the future may hold for offshore markets.
The recovery in global equity markets over the past year has made some asset managers cautious, because they believe shares are either at their correct levels or too expensive. Some managers who invest in what they regard as undervalued shares are putting funds in cash rather than buying shares at their current levels.
Investec and Omigsa’s MSI boutique, however, remain confident about the long-term returns from offshore equities. Max King, a strategist and portfolio manager for Investec, says there is a good chance that last year’s rally will evolve into a sustained multi-year bull market.
King says the issue of who will buy bonds to finance the budget deficits in the developed world is a sword of Damocles hanging over the developed world’s equity markets. If the issue is not resolved, markets are likely to be dull, but they should not be down.
There have been recent examples of governments, notably those of Canada and Sweden, acting successfully to reduce massive deficits, and similar actions would be very bullish for equity markets and positive for long-term economic growth.
King says that since 1871 equity markets in the developed world have been through several flat periods, each of which has been followed by multiyear bull markets.
Developed markets have now been dull for 10 years and the S&P 500 index can still rise 40 percent without breaking out to new highs, he says. “History suggests that this would be the start, not the end, of a long-term upward trend.”
Global equities do not look cheap based on historical earnings, but profits are rising strongly and forecasts are being upgraded, King says. On this basis, markets are good value, but a resolution of the problem of high fiscal deficits may be necessary if this is to be translated into higher equity ratings.
King says Investec expects that emerging markets will continue to modestly out-perform developed markets, because economic growth is likely to be higher in these countries, emerging markets remain undervalued and the quality of the companies operating in these markets has increased significantly.
Brooke says offshore investors will get a better return from equities than bonds and cash, reversing the trend of the past decade. These global market returns will be boosted by the expected gradual depreciation of the rand.
He says many market commentators are concerned about short-term market risks, such as those posed by governments defaulting on their debt, central bank stimulus packages failing and monetary policy errors – for example, withdrawing easy money too quickly.
But Brooke says these risks, as well as those presented by diseases, wars and disasters, will cause market cycles that have occurred before and will occur again, but they will not derail the longer-term trend. Investors would do well to ignore much of this noise.