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The winds of change blowing across the global equities landscape could prompt concerned investors to head for shelter. That would be a mistake in our view, since opportunity is not evaporating. Discerning investors will find that it is merely shifting.
The long-running bull market in the U.S. is struggling to maintain its momentum against a stronger dollar and weaker energy prices. The combination of the two has made broad-based gains harder to come by—we project S&P 500 earnings per share to grow by less than 1% for the year.
Beneath the headlines, emerging market (EM) fundamentals remain very much intact. Urbanization and the rise of the EM middle class will generate growth for years to come. For the time being, however, it does not seem as if secular strengths can overcome cyclical headwinds. China’s struggles and falling commodity prices have left EM commodity producers and manufacturers struggling when looming rate rises in the U.S. increase the threat of capital outflows and currency depreciation.
In the U.S., valuations are still reasonable. Individual corporations with strong balance sheets and access to attractive financing are sustaining their growth through mergers and acquisitions, and astute stock pickers can find solid investments.
In Europe, Grexit headlines should not divert attention from opportunity in the world’s most attractive equities markets today. The European rebound may have been a long time coming, but the ECB's aggressive quamitative easing seems to be having the desired effect. Coupled with negative deposit rates—the ECB is charging banks to hold their reserves for them instead of paying interest—the policy has stimulated bank lending.
Rising purchasing managers' indexes across the region, reliable gauges of future business expectations and intentions, provide evidence of a turnaround taking hold. The falling euro may have had a part in lifting business spirits. A year ago $100 in sales overseas would have translated to €73 in revenues. By the second quarter of this year, that same $100 would have converted into €90.
Not only do euro-based exporters look more attractive, but mortgage demand has boomed, a sign that consumers are beginning to share the business sector’s optimism. Domestically oriented cyclicals and consumer discretionary should fare well in a recovery. The financial sector looks especially interesting, as business and consumer lending revives. The institutions that have emerged stronger from the eurozone’s double-dip recession and a strenuous reform process may look to consolidate their gains and boost market share in a wave of M&A that would track the story we see unfolding in the U.S.
European equity markets reflect the real economy’s improving sentiment. Analysts’ earnings revisions have turned sharply upward, reversing the mirror image they have had with their American counterparts. As shown in the chart, for the past several years, European earnings revisions trailed those in the U.S. by a substantial margin. The trend has reversed in 2015 with European revisions moving up as those in the U.S. have slumped.
The "easy" stock gains coming out of the financial crisis may be harder to come by as the bull market ages in the U.S., but diligent investors can find ways to sustain growth. Stock picking in the U.S. can identify companies with the resources and foresight to consolidate their market share through M&A. And in Europe, recovery holds the potential for triggering the kind of stock rally recently experienced in the U.S.
International investing bears greater risk due to social, economic, regulatory and political instability in countries in "emerging markets." This makes emerging market securities more volatile and less liquid developed market securities. Changes in exchange rates and differences in accounting and taxation policies outside the U.S. can also affect returns.
Investments in bonds and other debt securities will change in value based on changes in interest rates. If rates rise, the value of these investments generally drops.
The prices of equity securities are sensitive to a wide range of factors, from economic to company-specific news, and can fluctuate rapidly and unpredictably, causing an investment to decrease in value.
Diversification does not guarantee investment returns and does not eliminate the risk of loss. Diversification among investment options and asset classes may help to reduce overall volatility.