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Multi-manager View: Time to look at US equities again

In New York last week the temperature was 70oC and people were walking around in shirtsleeves. New Yorkers cannot understand what is happening to their climate.

Investment consultants are scratching their heads too, but not because of unusual weather patterns. Traditional value stocks are being valued like secular growth companies and technology stocks have underperformed for so long now that even US value funds are buying tech stocks like never before.

The compression in valuations between traditional growth and value stocks that has occurred in recent years threatens the very existence of style investing and the consultant-driven approach to mandate allocation. One thing is certain, however: stock selection and fund managers’ ability in this area will determine like never before where funds sit in the performance tables over the next few years and investing purely by reference to style and historic biases could be a dangerous game to play.

Much, of course, depends on the view of the US Federal Reserve and how much further it will raise interest rates. Consensus suggests that short-term rates will settle around 4.75 per cent from the current 4 per cent. What is perhaps less obvious is that while clearly concerned about the threat of commodity induced inflation, the Fed is more concerned with achieving a repricing of risk both in the domestic economy and the world at large.

But an interest rate-led slowdown in the economy is not necessarily bad news for the stockmarket. The US equity market has had to endure much over the past five years and a lot of bad news is already priced in. Y2K, the dotcom collapse, September 11, corporate accounting scandals and global terrorist attacks have all taken their toll on investor confidence. US corporate health could not, however, be better. Balance sheets are strong, cashflows and return on equity at attractive levels, earnings quality much improved, corporate debts reduced and valuations now back at sensible if not cheap levels. Add the increased focus on shareholder value, stock buybacks and merger and acquisition activity and the outlook seems rosier.

The time to review market allocations is approaching. In the light of US equity underperformance on the international stage, the big call is surely when to start reallocating capital back into US stocks. Whenever this occurs, the better value lies in bigger-capitalised high-quality growth companies.


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