June 5, 2013

A Startling Illustration of Globalization’s Investment Impact

A recent panel of top managers reveals interesting facts about where we’ve been, and where we’re headed

Stock traders in Brazil. (Photo: AP) Stock traders in Brazil. (Photo: AP)

We all know about the stratospheric growth emerging markets have experienced as a result of globalization, but here’s a little statistic that illustrates the full extent of its impact.

“Just 2% of markets in the developing world were investment grade in 1993,” said Richard Lawrence, senior vice president and director of institutional client service with Brandywine Global Investment Management. “Today that figure is 60%.”

Lawrence made his comment during a panel discussion of top investment managers and executives at Curian Capital’s top advisor conference in Chicago in late May.

Moderated by Steve Young, senior vice president of asset management and chief investment officer at Curian, it boasted two panel members with more than 25 years of experience and one with 23 years.

T. Rowe Price Equity Series investment board member Stephon Jackson, who delivered the domestic equity outlook, noted that, “Currently, we’re seeing a realization among investors that equities are once again an attractive asset class. The world is seeing markets as half-full rather than half-empty.”

He said Federal Reserve Chairman Ben Bernanke has indicated he will do “whatever it takes” to keep the economy moving forward, but structural unemployment, driven by the fact that “we don’t make anything,” is acting as a drag on the economy.

Jackson said that T. Rowe Price, which has $600 billion in assets under management (70% in equities), is research-focused, and has “relatively low turnover in the portfolio. We dive deep into each holding to achieve solid, risk-adjusted returns over time.”

The firm is underweight energy, but at the same time is “positioned to move quickly into the sector if the situation warrants.” On a blue-chip basis, it’s “heavy in technology.” He added the convergence of mobile technology, in particular, is an ongoing trend, and mentioned companies like American Tower (AMT), a wireless infrastructure company.

“Be prepared to hear the word ‘taper,’ which is all about how far and how fast the Fed will eventually unwind all the liquidity and roll back the bond buying,” he concluded. “Moving forward, we see modest U.S. growth, a modest contraction in Europe, and emerging markets will do better. All of this adds up to a good environment for equities.”

Lawrence then took the global bond outlook.

“How do you make bonds interesting? Stick a bond guy between two equity managers,” he said to laughter.

He began by noting the U.S. bond market has been very good to investors for the past 25 years, with relatively low volatility and steady returns.

“We’d be the first to say if you look at bonds through the index, it’s a mediocre story,” he conceded. “But we think the index is a poor area to start in bond investing if you’re looking to give your clients what they need.”

The reason, Lawrence explained, is that U.S. bonds have returned 5% in recent years, and global fixed income has done a little less than 6%, but with far more volatility.

“If you drop it into a Monte Carlo simulation, the recommended allocation to global fixed income is zero,” he said. “Why? It’s because of the index. But bond investing is intuitively an active strategy.”

U.S. fixed income has performed well in the past, he said, but is currently one of the worst performing markets, second only to Japan.

“Additionally, you would miss out on places like Australia, Poland, Canada and Sweden. They’re all AAA-rated and have double-digit or near double-digit returns,” he concluded.

Lazard Asset Management’s Michael Powers, a portfolio manager and analyst on Lazard's global and international equity teams, rounded out the panel with a discussion of international equities.

"We invest in both developed and emerging markets," he said. When asked about investing in the Middle East, Powers explained, "we can potentially invest in emerging market countries, but a number of countries in the Middle East are considered frontier markets, which are outside of our investment universe."

Powers noted that Lazard is 165 years old and has $172 billion in assets under management. Non-US equity portfolios constitute a large percentage of that AUM.

Powers believes Europe offers attractive return prospects for the long-term equity investor, primarily based on three factors: Europe is realizing the benefits of reform, European revenue sources are increasingly global and many European countries appear to be attractively valued.

Curian's Young followed up with a question about Europe's negative tail risk.

"2012 was likely the peak intensity of Europe's sovereign debt problems" Powers answered.  "We believe the eurozone will likely remain in modest recession in 2013, with modest growth expected next year and beyond. Furthermore, the bond and stock markets in southern Europe are showing signs of improvement. The yield on 10-year Spanish and Italian sovereign debt is approximately 4% today compared to over 7% about a year ago, and the stock markets in those countries have also started to improve."

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