The global economy is recovering due to better economic policies and fewer political uncertainties, says Geoff Lewis, senior Asia strategist at Manulife Asset Management. These factors, combined with low inflation and decent growth, will create a conducive environment for equities to perform.
“Globally, there are signs of general or synchronised improvement — something we have not seen for some time. The Purchasing Managers’ Index (an indicator of the manufacturing sector’s economic health) in Japan, major European economies and the US indicate an improvement in economic activity in every case, as does the PMI for the services sector,” says Lewis.
“So, in combination with other key activity guides such as the OECD Composite Leading Indicator, which covers all of the Organisation for Economic Cooperation and Development economies plus the six largest emerging market (EM) economies, we can see that they moved upwards from the beginning of last year.”
Lewis says the recent recovery in oil prices (since the collapse two years ago) has helped bolster confidence. “Although oil prices are recovering, it does not mean we will see a boom in energy investments. But the recovery in the second half of last year means that we are no longer in negative energy investment shock. That is why investor confidence has become increasingly positive since last autumn.”
These indicators, he believes, show an improvement in underlying trends and point towards slightly better economic growth this year. The International Monetary Fund forecasts a global economic growth of 3.4%, a modest improvement from 3.1% last year.
However, Lewis does not think this is the start of a really strong upturn. And this is a good thing, he says, because the US is close to full employment and could see the return of strong inflation pressure.
“The global composite PMI is now at 52.7 — a 2½-year high. Putting all these together, the data tells me that the global economic momentum is set to improve in the next six months,” he says.
“We expect 2.5% to 3% growth and 1.5% to 2% inflation for the global economy. The chance of a US recession this year is less than 10%. If the risk of a recession is 30% or higher, then it is something you really need to take into account in your planning. But if it is 20% or less, it is just a risk that one needs to be aware of.
“So, unless there are some major unforeseen shocks, such as instability in the Middle East or the return of really high oil prices, the global economy is on an improving path.”
Good time to invest in fixed income
It is a good time to invest in EM fixed income for the long term due to the improving fundamentals, says Lewis. Fixed-income assets in these markets are experiencing a positive yield curve due to the normalisation of monetary policy compared with their developed market peers.
“Global investors are still looking for yield. We can find more attractive investment opportunities in EMs that have positive interest rates and healthy inflation rates,” he says.
He adds that there are good opportunities in fixed income this year even if the valuations of many developed market sovereign bonds are stretched. He believes that 3% could well be the ceiling for the 10-year US Treasury yield this year. It is currently at 2.46%, according to Bloomberg data.
“Moreover, some volatility in yields is actually good as it brings opportunities to the active fixed-income manager to add value from a tactical positioning point of view,” says Lewis.
From an equities perspective, it makes sense to look for investment opportunities in parts of the developed and emerging markets, he says. “The US is more advanced in its cycle. Its interest rates are rising ahead of the other regions. But it still has a good economic story, even though valuations are looking somewhat expensive relative to history and the other regions.”
“On a 12-month basis, we are neutral on the US stock market. For Europe, we will be tactically underweight ahead of the upcoming elections in the Netherlands and France in March and April respectively,” says Lewis.
“But the European economy is recovering. It has suffered two recessions since 2008 — first, during the global financial crisis, followed by the European debt crisis in 2010. It has taken a long time, but it is finally getting better and offers opportunities to bottom-up equity managers such as Manulife.”
Lewis is cautious about Asian countries that are dependant on exports such as South Korea and Taiwan. He prefers economies that have a strong domestic growth story such as India and Indonesia.
“We think the travel, leisure and healthcare sectors in China have decent value. We are also placing bets on cyclical industries such as cement and coal,” he says.
Lewis advises investors to be realistic in their return assumptions over the next 12 months, to stay invested and diversify across asset classes. He also says they should not make big bets or time the markets.
“Although the global economy is improving, I think it is important that investors adopt realistic expectations and lower their expectations on returns in this low nominal growth world we live in,” says Lewis.
“They should no longer be expecting double-digit returns from equities. Over the next five years, we expect to see 2% to 3% returns in the fixed-income space and 5% to 6% in equities. So, the returns from a balanced portfolio of bonds and equities may be no more than 3.5% to 4%.”
In these conditions, investors may want to consider adding a multi-asset fund and an unconstrained bond fund as core holdings in their portfolio, he says. Then, they can leave it to a professional fund manager to navigate a fairly challenging year.
“This reduces the likelihood of making costly errors, as empirical research shows that individual investors do not do very well in difficult markets. They sell at the wrong time and then buy at the wrong time. So, a good strategy is to let a fund manager you trust make those decisions,” says Lewis.
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