Russell Investments has released its Annual Global Outlook from its global team of investment strategists, who offer their investment insights and economic forecast for 2014, as well as in-depth looks at key components of the global market.
The team expects that the G-3 economies are headed toward synchronized, albeit moderate growth in 2014, with the likelihood of low returns bearing down in an environment where credit spreads have narrowed, equity markets are trading at fairly full valuations and global bond yields have room to rise.
Go deeper with GlobalData
Access deeper industry intelligence
Experience unmatched clarity with a single platform that combines unique data, AI, and human expertise.
Jeff Hussey, global chief investment officer, Russell, said: "The prospect of lower returns does not make us pessimistic. What we do see though is a challenge for investors when it comes to achieving a desired rate of return at a level of risk they can survive. There are still opportunities for good returns but we believe realizing them will require the full arsenal of a multi-asset investing strategy including a sharpened focus on managing downside risk and an actively managed, globally diversified multi-asset portfolio."
In terms of asset classes, the team expects global equities to outperform cash and fixed income throughout 2014, but amid the specter of two risk scenarios. On the part of global equity markets, there is the risk of speculative overdrive if confidence in the economic outlook takes hold and markets overshoot, as has happened in the past.
Alternatively, with what the strategists believe are equity markets currently ‘priced for perfection’ after the big gains of 2013, a large portion of these gains could dissipate if growth disappoints and investors worry that monetary policy has reached its limits.
Andrew Pease, global head of Investment Strategy, Russell, said: "We may be headed towards a low-return world, but this is not a ‘set and forget it’ year. In this climate, we feel top-down active management becomes more important because market over- and undershoots could provide opportunities for astute investors."
US Tariffs are shifting - will you react or anticipate?
Don’t let policy changes catch you off guard. Stay proactive with real-time data and expert analysis.
By GlobalDataUS: Emphasis on validation over appreciation
Russell’s investment strategists believe much of the current high value in equities stems from anticipation of better economic growth next year. In 2013, stock performance reflected the anticipation of positive growth for the following year, so continued gains are contingent on those expectations being validated.
Russell’s Chief Economist Mike Dueker projects US economic growth of 2.9% over 2014, monthly job gains that average 230,000 per month and modest inflation of 1.9%. In addition, the team anticipates a modestly positive price appreciation for US equities of around 5% during 2014, depending on actual corporate performance.
Eurozone: Skating on thin ice
Deflationary forces are building and the greatest concerns for 2014, according to Russell’s strategists, are the weak condition of banks and their toxic connection to sovereigns as well as the negative impact on growth driven by lack of credit. That said, they believe reflationary polices will have the upper hand, with the European Central Bank (ECB) playing an important role in this respect and likely introducing another rate cut and new long-term refinancing operation (LTRO).
Eurozone growth of between 0.5% and 1.0% is expected, alongside a gradual and modest recovery in demand, combined with less austerity and continued strength in trade across the region. Notably, while valuations are still attractive relative to other regions, the Eurozone is not considered by the team as safe enough to simply "buy and hold." In light of a confluence of conditions including weak banks, divergence related socio-political risk, high debt levels and lagging structural reforms, investors should keep a close eye on developments and adjust allocations accordingly.
Asia-Pacific: Strong internal growth dynamics in China and Japan
The economic prospects for the Asia-Pacific economies appear solid to the strategists, and they believe the region is well-positioned to leverage a global recovery, particularly, any uplift in global trade. The strategists see both China and Japan pursuing credible economic reform processes that, while not without risks, are running as they expected. The team does not see material risk to their 2014 GDP growth expectations of 7% to 8% in China while in the case of Japan, expectations for growth of 1.6% look undemanding in light of the strong momentum in the Japanese economy.
Overall, Russell’s strategists consider the risks to the Asian growth story in 2014 as "low" – in contrast to Europe’s "moderate" risk rating. Key watch points include Japan’s bond market and policy actions tied to tax reform as well as potential challenges to the Chinese credit markets from rising rates and questions over loan quality.
Global equities: A rising tide that may lift most boats
On the heels of a year with significant returns and material misevaluation opportunities between global equities, 2014 is expected to deliver more modest returns and higher correlation between developed equity markets with regional business cycles, as well as a level of synchronization in growth forecasts unseen since the global financial crisis.
In the United States, the strategists expect that modest earnings growth for large-cap equity markets in the range of 4% to 5% coupled with equity dividend forecasts near 1.7% will likely place a premium on timing risk-on/risk-off choices. The strategists believe the best outcomes can be expected from a portfolio that utilizes prudent downside risk protection, married with informed active allocation both between regional equities and perhaps more importantly in 2014 within those regional markets, including allocations with respect to cap tier, style, and equity risk factors.
Doug Gordon, Senior Investment Strategist at Russell, said: "In last year’s Outlook, we stated that investors would be forced higher up the risk curve. While we got that direction right, the magnitude outpaced expectations with the Russell Global Index on track for gains of around 20% and global fixed income likely to deliver a small negative return. In 2014, the forces behind this squeeze play – ultra-expansionary monetary policy, low risk-free returns, and a low-inflation environment – are still there, but now we add the dynamics of less attractive valuations and QE unwinding."
Global Fixed Income: Tactical value of cash increases
The team expects that heightened volatility in 2014, combined with more modest trend rates of return for risk assets, will allow cash to play a key role in portfolio management despite its discouraging headline zero rate of return. This expectation is premised on prudent conservation of cash weightings, providing investors with opportunistic deployment after inevitable sell-offs have occurred.
US government bond yields are expected to continue to move higher, albeit modestly, to 3.2% by year’s end. Continued accommodative monetary policy combined with low inflation likely will keep rates down, though the onset of QE tapering is likely to contribute to volatility and provide a tactical buying opportunity.
For the Eurozone and Japan, recovery is trailing the US cycle. In Europe, the strategists anticipate that larger deflationary pressures will keep bond yields low in the core countries relative to the US, and the expected return is forecast to be 1% to 2%. In Japan, the growing traction for reflationary economic policies makes the country’s sovereign bond market a probable high risk.
Short duration exposures likely offer attractive risk-return alternatives compared to longer term sovereign bonds and to equities. While not considered expensive, investment grade corporate bonds are by no means viewed as a bargain especially as current spreads are unlikely to tighten. However, despite little room for capital appreciation, investment grade corporate bonds are likely to provide a good short duration alternative to government bonds, particularly as the short duration of high yield corporate bonds is beneficial in the rising interest rate environment.
Currency: US dollar should hold its own amid rising global growth and low inflation
Russell’s strategists believe the US dollar should hold its own against other major currencies in 2014, with the help of relatively strong economic growth in the United States, along with a lesser degree of political uncertainty relative to other parts of the world. Peripheral Eurozone countries still have to address the large gap between long-term government borrowing costs and nominal Gross Domestic Product (GDP) rates, while in Asia, Japan struggles to raise nominal GDP growth to 3%, while simultaneously instituting consumption-based tax reform that could be disruptive in the short-term.
Real Assets: Listed infrastructure favored
While overall, the strategists expect real assets to benefit from the synchronized uptick in the global economy, the positive impact will not affect all real asset classes similarly. Listed infrastructure and real estate investment trusts (REITs) appear especially well-positioned, with the hunt for yield bolstering both.
In contrast, commodities are not expected to reap the rewards of economic improvements due to a surge of new energy and industrial metals supply and decreased demand from China.
