The US economy remains the most influential globally and most of the world’s equity markets are correlated to it either directly or indirectly. This means that all investors need to be aware of what is happening in the American economy as well as in their domestic markets.
Although the US waited until December to raise interest rates, economic data in previous months had already given them enough evidence to back this up – unemployment data continued to surprise in October and November indicating that rising wage pressure was likely to follow.
The valuation on the US market is more expensive than the average and this is especially pronounced looking at the Shiller cyclically adjusted price-to-earnings ratio. Some powerful positives for US market valuations are now reversing, such as the ending of QE and a turn in the interest rate cycle. The strength of the US market has been based on an increase in earnings coming from company buy backs rather than revenue growth, another trend which may reverse.
There are some who argue that there is an unconvincing handover to self-assisted growth in the US. Even the US has had to contend with unexpected problems over the past 12 months – the decline in the energy price has resulted in a significant slowdown in that sector and a resultant fall off in capex amongst resource orientated businesses. While this is good for the consumer over the long term, so far corporate capex outside the resources sector has not strengthened sufficiently to make up for the decline in resource oriented capex in 2015.
As is usual, there are plenty of economic doomsters that feel we are about to see the start of a US bear market. One of the factors behind this is that we have had a long bull run, and indeed the market upturn that commenced in 2009 has been one of the longest in history. This once again needs to be viewed within context: the 2009 upturn followed on from one of the most savage bear markets in history, a period now termed as the Great Recession, so from this a longer, but more subdued recovery was always a possibility.
This is occurring at a time of concern about global growth although in all likelihood these growth concerns are over done as they were in January of this year. Recent economic data from the US, especially on the labour market, has in the main continued to be strong, with perhaps some softening in manufacturing after US Dollar strength. The base case scenario is for markets to recover their poise as investors realise growth concerns have been overdone. To make new highs markets need to see stronger evidence of profits growth from US companies, the prospects for which will become clearer in 2016.
Fund selection in this sector is driven by the fact that it has historically been a challenge to make strong returns ahead of the market. In acknowledging this, we could consider an index fund for broad market exposure or look for funds that have shown strong returns over a number of economic cycles. For larger investments, or where the client has more specialist requirements, then funds with higher active share or a style bias could be added to provide additional diversification.
Ken Rayner is director at RSMR.