Corporate earnings have been falling in the US, and the Federal Reserve is expected to raise interest rates in the near future, sparking investor concerns about the potential impact on the S&P 500. But this is no time for investors to rid of their US equities, which are set to re-assert their leadership among global stock markets in the second half of 2015, says Dominic Rossi, Global Chief Investment Officer, Equities, Fidelity Worldwide Investment.
“Investors have two main concerns about the prospects for the US equity markets – earnings and valuations – but neither of these is likely to bring an end to the six-year-old bull market yet”, says Rossi. “I expect earnings growth to recover as 2015 progresses, continuing into next year.”
“The main culprit for the recent fall in earnings was the country’s large energy sector, where profitability was badly affected by the 2014 oil price collapse,” he notes. “However, the benefits of these lower energy prices on the wider economy will only emerge in the second half of the year, led by higher consumer spending on discretionary and staple items.”
Moreover, dollar strength has weighed on earnings of companies with sizeable businesses abroad, for which profits are recorded in foreign currencies and therefore drop as the dollar rises. “If the dollar continued to strengthen throughout the year, we would see further earnings adjustments, but I think this trend has now run its course,” says Rossi.
US Equity Valuations Not Overly Stretched
“I am not concerned that US equity market valuations are overly stretched,” says Rossi. “Healthy dividend yields and earnings growth will enable equity markets to make further progress, as equity valuations are not expensive compared to other asset classes. What’s more, interest rates are low and will remain so, both in nominal and real terms. This will be the case even when the Fed starts normalising rates, as rate hikes will be small and very gradual.”
Outlook for Asia Hinges on Reform Programmes
“The situation for China is rather different: growth is weakening, and there is likely to be more monetary easing,” says Rossi. “While Chinese economic data has disappointed in the first half of the year as the market went through a pronounced soft patch, this is likely to prove temporary and I believe that the Chinese authorities will be successful in engineering a soft landing for their economy.”
“The market outlook of China and many other Asian countries hinges on further strides along the crucial reform path. We expect that economies like China, India and Indonesia will be able to deliver their reform programmes to rebalance their economies away from export-dependent growth towards a domestic consumption-led model. The ongoing steps in existing programmes will ensure continuous progress and broad acceptance of the changes involved, which will put longer-term economic growth prospects on a sounder footing.”
What This Means for Investors
“In a world of excess savings that keeps yields low, tomorrow returns are brought forward to today, so investors should focus principally on long-duration assets that provide real returns. This argues for buy-and-hold equity and real estate strategies that allow for the reinvestment of dividend and rental income distributions,” he concludes.
