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2016 Investment Outlook: Crosscurrents January 13, 2016
Celia Dallas Chief Investment Strategist
Wade O’Brien Managing Director, Global Investment Research
Christopher Hunter Managing Director, Head of Cambridge Associates Beijing Office
MODERATED BY:
Copyright © 2016 by Cambridge Associates LLC. All rights reserved. This report may not be displayed, reproduced, distributed, transmitted, or used to create derivative works in any form, in whole or in portion, by any means, without written permission from Cambridge Associates LLC (“CA”). Copying of this publication is a violation of US and global copyright laws (e.g., 17 U.S.C. 101 et seq.). Violators of this copyright may be subject to liability for substantial monetary damages. The information and material published in this report is nontransferable. Therefore, recipients may not disclose any information or material derived from this report to third parties, or use information or material from this report, without prior written authorization. This report is provided for informational purposes only. The information presented is not intended to be investment advice. Any references to specific investments are for illustrative purposes only. The information herein does not constitute a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual clients. This research is not an offer to sell or the solicitation of an offer to buy any security in any jurisdiction. Some of the data contained herein or on which the research is based is current public information that CA considers reliable, but CA does not represent it as accurate or complete, and it should not be relied on as such. Nothing contained in this report should be construed as the provision of tax or legal advice. Past performance is not indicative of future performance. Broad-based securities indexes are unmanaged and are not subject to fees and expenses typically associated with managed accounts or investment funds. Investments cannot be made directly in an index. Any information or opinions provided in this report are as of the date of the report, and CA is under no obligation to update the information or communicate that any updates have been made. Information contained herein may have been provided by third parties, including investment firms providing information on returns and assets under management, and may not have been independently verified. Cambridge Associates, LLC is a Massachusetts limited liability company with offices in Arlington, VA; Boston, MA; Dallas, TX; and Menlo Park, CA. Cambridge Associates Fiduciary Trust, LLC is a New Hampshire limited liability company chartered to serve as a non-depository trust company, and is a wholly-owned subsidiary of Cambridge Associates, LLC. Cambridge Associates Limited is registered as a limited company in England and Wales No. 06135829 and is authorised and regulated by the Financial Conduct Authority in the conduct of Investment Business. Cambridge Associates Limited, LLC is a Massachusetts limited liability company with a branch office in Sydney, Australia (ARBN 109 366 654). Cambridge Associates Asia Pte Ltd is a Singapore corporation (Registration No. 200101063G). Cambridge Associates Investment Consultancy (Beijing) Ltd is a wholly owned subsidiary of Cambridge Associates, LLC and is registered with the Beijing Administration for Industry and Commerce (Registration No. 110000450174972).
Economic Crosscurrents
Slowing Economic Growth
Struggling Emerging Markets
Commodity Price Weakness
Widening Credit Spreads
Concerns
Shrinking Global Trade
The Bright Side Growth Stabilizing
Wealth Transfer Supports Consumer/Services Sectors
Developed Markets Still 2/3 of Global GDP
Defaults Remain Low and Focused in Commodities
More Importantly, Services Growth Remains Strong
What do credit spreads price in? Barclays High-Yield Option-Adjusted Spread December 31, 2004 – December 31, 2015 • Basis Points
US High-Yield Five-Year Cumulative Breakeven Default Rates As of December 16, 2015 • Percent (%)
583 660
1,296
0
500
1,000
1,500
2,000 Barclays High Yield ex EnergyBarclays High YieldBarclays High Yield Energy
40 44
61
0
10
20
30
40
50
60
70
High Yield ex Energy High Yield High Yield Energy
Sources: Barclays, Bloomberg L.P., J.P. Morgan Securities, Inc., and Lombard Street Research. Note: Breakeven default rates assume a 30% recovery rate.
Pace of Fed rate hikes will be gradual Federal Reserve Median Fed Funds Rate Projections As of December 16, 2015 • Policy Rate (%)
0.4
1.4
2.4
3.3 3.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
2015 2016 2017 2018
Median Annual Projections
Median Longer-runProjection
Source: Federal Reserve. Note: Longer-run projections represent each participant’s assessment of the rate to which each variable would be expected to converge under appropriate monetary policy and in the absence of further shocks to the economy.
Stocks and bonds often rise after rate hikes Cumulative US Market Performance Around Fed Rate Hikes
Sources: Standard & Poor's and Thomson Reuters Datastream. Notes: Data are daily. One month represents 20 weekdays. Average return is arithmetic mean.
60
70
80
90
100
110
120
130
140
150
Time in Months From First Hike
S&P 500
Jun 2004
Jun 1999
Feb 1994
Mar 1988
Average 12-Month Return: 7.1%
60
70
80
90
100
110
120
130
140
150
Time in Months From First Hike
Ten-Year US Treasury
Average 12-Month Return: 8.5%
EM Asia’s outperformance is less dependent on commodities Rolling 12-Month Correlation of Emerging Markets Regions Equities Excess Return vs Developed Markets to Commodities December 31, 2004 – December 31, 2015 �• US Dollar
-0.4
-0.3
-0.2
-0.1
0.0
0.1
0.2
0.3
0.4
0.5
0.6
2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
EM Asia
EMEA
EM LatAm
Sources: Bloomberg L.P. and MSCI Inc. MSCI data provided "as is" without any express or implied warranties. Notes: Data are daily. Rolling 12-month returns reflect the performance during the previous 261 weekdays. Commodities are represented by the Bloomberg Commodity Total Return Index; EM Asia by the MSCI EM Asia Index; EMEA by the MSCI EMEA Index; and EM LatAM by the MSCI EM Latin America Index.
Emerging Markets Debt to GDP Percent (%)
EM debt levels: more manageable than assumed
Non-Financial Corporate Debt to GDP As of Second Quarter 2015 • Percent (%)
61
91
38 43
21
33
0
10
20
30
40
50
60
70
80
90100
Non-Financial CorporatesGovernmentHouseholds
163
58 57 50 49 46 42 35 23 23
020406080
100120140160180
China Turkey Russia India Brazil Poland Saudi Arabia South Africa Mexico IndonesiaSource: Institute of International Finance.
Q2 2007 Q2 2015
Effects of Yen and Euro Depreciation on EPS Growth
Can earnings continue to grow if currencies stabilize?
60
80
100
120
140
160
180
Jun-12 Dec-12 Jun-13 Dec-13 Jun-14 Dec-14 Jun-15
Europe June 30, 2012 – December 31, 2015
June 30, 2012 = 100
Earnings Growth
EUR/USD Spot
Sources: Eurostat, Government of Japan Cabinet Office, MSCI Inc., and Thomson Reuters Datastream. MSCI data provided "as is" without any express or implied warranties. Notes: Europe earnings and GDP represent the 19 members of the Eurozone. GDP data are quarterly and through September 2015. Spot rate and earnings growth data are monthly.
60
80
100
120
140
160
180
Nov-10 Nov-11 Nov-12 Nov-13 Nov-14
Japan November 30, 2010 – December 31, 2015
November 30, 2010 = 100
Earnings Growth
JPY/USD Spot
Small-Cap Equity Trailing P/E Ratios As of December 31, 2015 • Local Currency
Japanese small caps stand out Small-Cap Equity P/B Ratios As of December 31, 2015 • Local Currency 31.5
21.5
17.9
26.8
0
5
10
15
20
25
30
35
United States United Kingdom Japan Europe ex UK
Current Median
2.1
2.4
1.2
1.9
0.0
0.5
1.0
1.5
2.0
2.5
United States United Kingdom Japan Europe ex UK
Current Median
Sources: MSCI Inc. and Thomson Reuters Datastream. MSCI data provided "as is" without any express or implied warranties. Notes: Total returns are net of dividend taxes. Median data calculated from January 31, 2003, to present.
Performance of Japanese Yen and Global Equity Markets in Up/Down Markets First Quarter 1996 – Fourth Quarter 2015 • Percent (%)
Japanese Yen tends to appreciate in down markets
-0.9
6.6
-8
-6
-4
-2
0
2
4
6
8
Yen/USD
MSCI World
1.8
-7.4 -8
-6
-4
-2
0
2
4
6
8Up Equity Markets Down Equity Markets
Sources: MSCI Inc. and Thomson Reuters Datastream. MSCI data provided "as is" without any express or implied warranties. Notes: Up and down markets are defined by the quarterly total return of the MSCI World Index in local currency. Performance of yen is in US$ terms. Average return is based on arithmetic mean.
Ave
rage
Qua
rter
ly R
etur
ns
MLP fundamentals are holding up Historical Distribution Growth of Wells Fargo MLP Index As of December 11, 2015 • Percent (%)
1.0
5.0
4.0
5.0 6.0
9.0 10.0
11.0 10.0
3.0 3.0
5.0 5.0 5.0 6.0 6.0
5.0 5.0
0
2
4
6
8
10
12
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015E 2016E
Median Distribution Growth (2000–2014)
Quarterly Trailing 12-Month Revenue of Alerian MLP Index Fourth Quarter 2000 – Fourth Quarter 2016 • US$ millions
50,000
125,000
200,000
275,000
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016
Sources: Alerian, Bloomberg L.P., FactSet Research Systems, Tudor, Pickering, Holt & Co., and Wells Fargo Securities Inc. Notes: Orange bars are estimates. Distribution growth is based on year-over-year change in median distribution.
Year-Over-Year Change as of December 31, 2015 • Percent (%) • US Dollar
Energy stocks suffer from weak earnings
Annual S&P 500 Energy Earnings and Average Crude WTI Price 1995–2016
0
20
40
60
80
100
120
140
160
1995 1998 2001 2004 2007 2010 2013 2016 Est.
S&P 500 Energy Earnings ($bn)Avg Crude WTI ($/bbl)
Sources: Bloomberg L.P., FactSet Research Systems, MSCI Inc., Standard & Poor's, and Thomson Reuters Datastream. MSCI data provided "as is" without any express or implied warranties. Note: Percent change in forward P/E is calculated using FactSet Research Systems estimates. Percent change in forward P/E for US energy is based on November 2014 to November 2015. Estimates for 2016 earnings are calculated by Factset and are as of December 31, 2015.
-35 -25 -24
91
-27 -60-40-20
020406080
100
Brent MSCI World Energy Index MSCI US Energy Index US Energy Forward P/E MSCI US EnergyNormalized P/E
Price LevelsValuations
Brent Crude Prices Energy Equity Prices Energy Company Valuations
Wide Dispersion of Emerging Markets Economic Sector Valuations December 31, 1995 – December 31, 2015 �• US Dollar
Emerging markets sector valuations are widely dispersed
0
5
10
15
20
25
30
35
40
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
Sta
ndar
d D
evia
tion
of V
alua
tion
Per
cent
iles
Sources: MSCI Inc. and Thomson Reuters Datastream. MSCI data provided "as is" without any express or implied warranties. Note: Data are monthly.
Summary Portfolio Recommendations Overweights Underweights
Diversified Growth
High-Quality US Equities US Small-Cap Growth Equities
Eurozone Equities* Japanese Equities*
Asia ex Japan Equities
US Equities
Diversifiers Macro Protection
Deflation Hedge
Cash Sovereign Bonds
Inflation Resistant
Natural Resources Equities
Energy MLPs
Cash
Commodities
Inflation-Linked Bonds and Commodities
Currency Hedge World ex US (currency hedged)
World ex US (US$)
* Currency hedged
2016 Investment Outlook: Crosscurrents January | 2016 Thank you for joining us.
Q&A
Celia Dallas Chief Investment Strategist
Wade O’Brien Managing Director, Global Investment Research
Christopher Hunter Managing Director, Head of Cambridge Associates Beijing Office
MODERATED BY: