The US poses a unique dilemma for multi-managers. On one hand it has proved defensive, is home to some of the world’s leading companies and its economy is not as bad as some of its developed-market peers. On the other, it has had a strong run, it now looks expensive, and the widely-feared ‘fiscal cliff’ is looming. The election resolved only one of the many problems for the US. With this uncertain backdrop, how are multi-managers positioning themselves?
The US economy has been giving conflicting signals. The third-quarter GDP saw a year-on-year rise of 2 per cent compared with expectations of 1.8 per cent. However, early estimates for the fourth quarter show growth plateauing and recent retail sales figures were disappointing, showing the first drop since June. The jobs and housing market data is better. The US economy added 171,000 jobs in October and house prices rose 5 per cent in September, the most since 2006. But overall, the best that can be said is that it is a mixed bag.
Then there is the fiscal cliff, which may prove almost as dramatic as it sounds. BNY Mellon chief economist Richard Hoey estimates that the combination of the expiration of the Bush era tax cuts, expiry of the temporary 2 per cent Social Security tax cut, the failure to pass the Alternative Minimum Tax ‘fix’ for the 2012 tax year, the sequester of defence and non-defence spending and a number of other items could cut about 5 per cent off US GDP this year.
Of course, no one believes that this will actually happen, but it is likely to keep markets exercised until the final outcome is agreed.
BlackRock senior economic adviser Bob Doll believes that the market is currently factoring in a middle path.
“It does not appear to us that the market is pricing in either a significant chance that some sort of ‘grand bargain’ can be reached or a high likelihood that absolutely nothing will be done,” he says. “Rather, markets seem to be predicting that Congress and the Obama administration will be able to engineer some sort of short-term stop-gap measures that delay or dull the immediate impact of the fiscal cliff, leaving many of the hard decisions on hold until next year.”
US funds have been among the strongest over three years. The North America sector is the fourth best performing sector over three years, with the average fund returning 29.3 per cent, compared to 22 per cent from the UK All Companies sector. The North American Smaller Companies sector is top of the heap, with an average return of 43.8 per cent. More recently momentum has been with more cyclical, less defensive markets, such as the Hang Seng and Dax, which have returned 11.6 per cent and 18.6 per cent over the past year, compared to just 7.6 per cent for the S&P 500. That said, it is still ahead of the FTSE 100, which is up only 2.48 per cent.
Equally, the US market still trades at a premium. This has moderated somewhat with the recent weakness of Apple, the largest component of the US indices and of most US funds, but the US market as a whole still trades on a price-earnings ratio of 15.5x, compared to 12.1x for the UK and Germany, 7.8x for China and 13.7x for Japan.
Within the North American sector, the top funds have tended to be growth funds, with GAM North American Growth, Axa Framlington American Growth and Baillie Gifford American all among the best performers over three years. The strong standing of the Vanguard US Equity Index fund (10th in the sector) illustrates the often-quoted view that it is very difficult to beat the US market.
With the market providing few clear signals, multi-managers are understandably divided on the outlook for the US. Some remain resolutely positive, believing it offers the chance to participate in a recovering global economy while offering some downside protection. Others believe that its outperformance has gone too far and it now looks unjustifiably expensive.
Berry Asset Management chief investment officer Mark Robinson is firmly in the first camp. He says: “The US economy is very versatile at a business and cultural level. People have a ‘can do’ attitude and are naturally entrepreneurial. We are, therefore, retaining a good level of exposure to the US. That said, I suspect that the US, UK and Asia will see similar returns.”
London & Capital chief investment officer Pau Morilla-Giner believes that many parts of the US economy are ticking along nicely. He points out that the debt burden on the consumer is at its lowest level in 20 years, which should have big implications for consumer behaviour. He says unemployment is also starting to fall and the housing market is picking up, which should also support the consumer. “Things are certainly looking up in the housing market,” he says. “Building starts are higher, confidence is improving. There were a lot of mortgages in negative territory that are now moving into positive territory.”
He also believes that there is strength in the banking sector, with net lending figures improving. The corporate sector has been strong for some time and continues to sit on a lot of cash.
However, he admits that the real worries are in the government sector. In line with market consensus he believes that the fiscal cliff will remove between 1.5-1.7 per cent of growth next year, adding: “It will be up to the financial sector and consumer to make up for that.”
Nevertheless, he believes the US is poised to grow at 2-2.5 per cent next year. This is in line with the current International Monetary Fund prediction of 2.3 per cent growth for 2013.
Part of the dilemma for multi-managers is the extent to which the US will participate in the growth of emerging markets if global growth resumes with any vigour. Some believe that US companies will be a key beneficiary of the growth in emerging markets and therefore the US market still merits a high weighting.
Morilla-Giner says: “The area of the market on which we are most optimistic for 2013 is US equities with significant exposure to emerging markets. We believe this type of company is sitting at the sweet spot and will be growing at a faster pace next year. Emerging market equities may grow at a higher pace, but visibility is not that high and US equities offer some defensiveness.”
Others have taken a similar position, but have done so through specialist funds, such as the Morgan Stanley Global Brands fund. Investment Quorum chief investment officer Peter Lowman likes this fund as a way of accessing good-quality global companies, but he is also reassured by income and uses the JPM US income fund for his dedicated US exposure.
However, others believe that the US is not the best place to participate in any rise in global growth. OPM Fund Management chief investment officer Tony Yousefian, for example, has been significantly reducing his exposure to US equities. “This is not necessarily a valuation decision – the US doesn’t look much more expensive than some of the other regions. However, with the European Central Bank saying it will provide a backstop for the Eurozone, and the Federal Reserve opening its cheque book, it can only be good news for high beta assets. The US has traditionally been a low beta, defensive market.”
Yousefian also believes that if the US economy soars, the biggest beneficiaries are likely to be those regions that rely on US consumption, specifically emerging markets. He adds: “Emerging markets have been hit because global growth has been so anaemic. With economic growth picking up, regions such as China will be a better place to invest than the US.”
Equally, there is a question mark over whether the US will prove as defensive in the future if global growth slows. Cazenove multi-manager Robin McDonald believes that if there is a widespread sell-off in equity markets, the US could be the main target. He says: “For global investors, the US is still the largest market and there has not been enough pain for people to switch elsewhere. If the world goes wrong, what are people going to sell? They don’t own Japan and they have sold out of Europe and emerging markets. For this reason, the US is not a safe haven. Everyone owns it and the relative outperformance of its economy is certainly in the price.”
McDonald believes the US looks expensive and as a result under 2 per cent of the Cazenove Diversity fund is in US equities.
He says: “US equities have been seen as a safe haven because they are further through this crisis than other developed countries. The banking sector has been recapitalised, for example. But the market is trading at all-time highs and the Japanese and European equity markets are back where they were in March 2009.”
The US market is dividing the experts. The resolution of the ‘fiscal cliff’ and stronger economic growth may boost markets, but there could be plenty of volatility in the interim. Equally, it may be that US equities are not the biggest beneficiary of the success of the US economy.