Focus and Banking & Finance

Market’s positive outlook should prompt scrutiny

Now might be the time to divest some holdings for better diversification.

February 21, 2014
| By Pat Evans |
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Investors need to realize that even though markets have surged, underlying economic indicators such as corporate profits, employment and growth have not kept pace. Courtesy Thinkstock

The stock market hit all time highs recently and the outlook is promising, but in the constant gamble of investing, no one can be sure what is going to happen next.

Despite a slight 5 percent drop in January, Greg Flick, a financial advisor with Edward Jones, expects the market to continue to grow this year.

“The markets ebb and flow a lot,” Flick said. “It usually takes a few steps forward, then a step back. In 2013, there were a few 5 percent dips to catch its breath.

“It’s not fully back, but close to positive in 2014. But that’s not to say there won’t be any potholes.”

Michael Cembalest, JP Morgan’s chairman of market and investment, put together Outlook 2014 “The Great Race” to forecast the 2014 market. The report reviews “the uncertain landscape of 2012 and the increased stability and quick moving markets of 2013” and how those will keep pace.

“Even as markets surged, corporate profits, employment and economic growth have struggled to keep pace,” wrote Mary Callahan Erdoes, CEO of JP Morgan Asset Management.

According to the report, 2013 was a standard year following the Great Recession of 2008 as the market grew at a pace quicker than the GDP and profits grew. Included in that surge were indicators of “pre-crisis levels”:

  • Speculative long equity/short bond positions on the Chicago Futures Exchange
  • The volatility of U.S. and European equities
  • California home and condo sales executed within six months of purchase
  • Investment grade and high yield corporate bond yields
  • Discount rates applied by purchasers of U.S. and European commercial properties

Flick said 2013 was a good year in the market despite several potentially catastrophic roadblocks, such as the sequestration and government shutdown.

“It was good for several reasons,” Flick said. “There was improving economic growth, good fundamentals, improving profits, and money was flowing back into equity after a net drain the previous five years.”

Low Central Bank policy rates helped accelerate the rise — and likely won’t change much in 2014 — but won’t drive the market higher. Returns from a JP Morgan manufacturing survey show industry executives expect a profit rebound of up to 10 percent. The surveys from Europe indicate a rebound, albeit much less sharp.

Business surveys showed a gradual return to normal on a global level as the market recovers from the global recession in 2008-09 and European debt crisis in 2011. The report notes Europe will do better in 2014, but there still are concerns for the long-term future because of sub-trend growth.

With investors re-embracing efforts by Europe and Japan to try some new policies, developed market equity caught up to the U.S./emerging markets portfolios, and JP Morgan expects more of the same this year.

“We expect the markets car to slow down from its break-neck pace as the economic vehicles catch up, and for 2014 to be a year of more modest appreciation in equity, credit and real estate markets,” the report reads. “If so, investors would benefit in 2014 from maintaining many of the portfolio allocations that have been working since the global recession ended in 2009.”

Investors should take a step back and re-evaluate their position in the market, Flick said. There are great values in the market, but not the bargains there were in 2009, he said.

“When times are good, people tend to take more risks than they should,” he said. “They should continually step back and evaluate their risk position so they can be OK through good times and more challenging times.”

Those good times should continue this year, especially if support from the federal government continues.

“It would be great to be able to say that the U.S. economy is doing well enough for monetary policy to get back to normal, but this is not the case,” the report reads. “Zero percent real wage growth and a large cohort of involuntarily unemployed people are still problems for the Fed.”

Expect the government’s fueling to slow a tad in 2014, but JP Morgan still believes the United States will lead the market in growth in 2014 as it improves from 2013’s austerity. According to the report, 2013 was the third-largest fiscal drag in the past 50 years because of increased taxes, spending cuts and government shutdown.

Several factors show a realistic economic growth rate of about 3 percent in mid-2014 is likely:

  • Cash held by households and companies, with low corporate debt levels
  • Continual easing in bank lending standards
  • State and local payroll growth increasing for the first time since the crisis
  • Cheaper electricity costs across the U.S. 
  • New and existing homes for sale as a percentage of households is very low.

The U.S. economic growth should help the market grow, Flick said, as will International Monetary Fund growth, corporate earnings strength and the continued flow of capital into equities.

Still, the evaluation of market position of individual investors is important, Flick said.

“The market will be volatile, and the pullbacks will create opportunities to get new high-quality market positions,” he said. “But it depends on the risk perspective. If your balance is good and in alignment with your views, then this just may be an opportunity to ride through.”

Flick took a macro approach to the market, saying many industries will see plenty of positive growth, but that it will all depend on the investor and individual companies.

Edward Jones generally recommends companies that are high quality, have a growing dividend payout and have an international footprint. 

“It’s all about what an investor has in the portfolio already,” Flick said. “If they’re already loaded with one industry, maybe it’s not the right sector for them and they can use the opportunity to diversify with some high-value stock.”

Flick also said to be wary of industries that aren’t known to an investor.

“That’s when you have to ask: Do I want to gain exposure to that sector through an individual stock, ETF or a mutual fund?” he said. “It all has to do with the level of involvement they want and the time and temperament they have.”

With key indicators such as electricity production up in China, a GDP growth of 8 to 9 percent there is possible, but according to the report risks stand because credit expansion and loose fiscal policy shadow the real growth of China’s economy.

For emerging markets, countries that run account surpluses of a small deficit are suggested, such as Mexico, Korea, Czech Republic, Taiwan and the Philippines.

The overall market outlook is positive, however, and there is no concern of recession or debt service coverage, according to JP Morgan. “2014 might be a good year to make sure portfolios do not own too much credit that is priced for perfection.”

But, Flick said, “Never say never. Unpredictable acts are unpredictable.” 

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