Morningstar's "Perspectives" series features investment insights from third-party contributors. Here, David Marchant, CIO of Canada Life Investments gives his stock market outlook for the second half of 2017.
With less dovish tones starting to emanate from central banks globally, relatively high valuations across equities and a cooling off in the London property market, it is safe to say that we are not spoilt for choice in terms of attractive opportunities.
That said, global economic growth remains ok with China surprising on the upside and the Eurozone maintaining its strong momentum, with strong Purchasing Manager Index (PMI) readings across both manufacturing and services. Inflation also appears to be rolling over in both the UK and US whilst, for the time being, monetary policy remains supportive.
Where Next for Equities?
Global equities have been on a fairly significant bull run since 2009, which have left many parts of the market – particularly in the United States – trading on above average valuations. The concern is that lacklustre economic growth could put these valuations under pressure and cause a correction, but we are finding some bright spots.
Europe remains our most favoured region, as growth continues to tick along nicely. Consumer confidence and retail sales are also on the rise, which has provided a backdrop of positive earnings growth forecast for 2017 and 2018. The market also looks cheap, with the 10-year average price-to-book (P/B) ratio trading at a significant discount to the US. Although Italy looks to be concern, the political situation has stabilised, reducing the risk to European equities in general
We also believe fundamentals are improving in China, ahead of the Party Congress in mid-October. Furthermore, the MSCI has announced that Chinese ‘A’ shares will now be admitted to key emerging market indices, which marks an inflection point in attitudes. With the weighting to ‘A’ shares likely to increase significantly over the next 2-3 years, this should provide a further boost to the equity market.
Elsewhere, we are relatively sanguine on the prospects for Japan, which tends to be more geared in to the global economic cycle. Although recent indicators have been positive, there has been no sign of wage inflation and Abenomics is struggling to make much of an impact. Nevertheless, it remains one of the cheapest markets and profitability is gradually improving, so some selective opportunities remain. In the UK, although the Brexit-related economic panic we witnessed during the second half of 2016 has subsided, politics still remain the concern.
The uncertainty surrounding the longevity of the current government and its plans for leaving the EU has left investors nervous, so we expect some volatile trading ahead. Pleasingly, the equity market has remained resilient, and a high dividend yield is proving adequate compensation for long-term investors.
The US remains our least attractive market, primarily on a price basis. We are not forecasting a dire economic outlook for the US as, despite some concerns over the housing sector and auto sales, the economy itself appears to be relatively strong.
PMI’s have recovered and employment continues to improve. However, the S&P 500 Index is at record highs and the market is 28% more expensive than its 10-year average from a P/B perspective and is 22% higher on a 10-year price-to-earnings (P/E) basis. We do, however, expect value to outperform growth during the second half of 2017 as higher interest rates benefit sectors such as financials, whilst putting pressure on the valuations of more defensive names.
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