Portfolio managers and strategists at Neuberger Berman and other asset-management shops expect more market volatility in the next few quarters thanks to the usual suspects: concerns with the Federal Reserve’s easing strategies, economic growth prospects worldwide and mixed signals for corporate fundamentals. And noted economist Nouriel Roubini added to the debate over the strength of the emerging markets with a fairly critical outlook posted Monday.
The challenge for global investors “is managing the risk/return balance against a dynamic investment environment,” Neuberger Berman explains in a recent report.
“The unprecedented involvement in the capital markets by central bankers has created a unique set of challenges to both managing risk and seeking opportunity,” said Joseph Amato, president and chief investment officer of Neuberger Berman, which launched an emerging-markets debt platform over the past year and recently hired 22 professionals to focus on it.
Asset manager Glenmede, which has $22 billion in AUM, notes that U.S. markets continue to hit all-time highs, while also cycling back to economic health and Federal Reserve tapering.
“Obsessive parsing of speeches by Federal Reserve members is daily contrasted with economic releases to balance improved growth conditions against expected withdrawal of stimulus,” said Jason Pride, director of investment strategy, in his weekly outlook published Monday.
In June, he notes, the federal government posted its biggest monthly surplus in five years, which shows the extent to which pressure has come off policymakers to address long-term budget concerns. Still, though the monthly surplus suggests budgetary healing, another debt ceiling limit approaches in two to three months, “just in time for investors to settle in after returning from the beaches.”
Looking ahead in 2013 and into 2014, managers and strategists with Neuberger Bermann, which has total assets under management of $214 billlion, have outlined the following views:
- Large-Cap U.S. Equities: Attractive valuations on an absolute and relative basis, with expected acceleration this year; U.S. valuations today still look attractive vs. those of other markets.
- Small-Cap U.S. Equities: A continued positive outlook in anticipation of a pick-up in mergers and acquisitions; the asset class remains well positioned within the context of an improving domestic backdrop, while offering good exposure to the ongoing manufacturing renaissance.
- European Equities: Economic data could be hitting the bottom as equity-risk premiums reach more attractive levels, compared with places like the United States; the focus is shifting more to growth than sovereign risk.
- High Yield Spreads: Spreads should narrow with expected continued low defaults, and bank loans, attractive given their floating-rate structure, could provide an additional buffer in the context of more prolonged and pronounced increases in interest rates.
- Global Fixed Income Opportunities: There are opportunities in local-currency emerging market debt, high yield bonds and agency mortgages.
- Emerging-Market Equities: Caution remains appropriate, with a focus on company fundamentals; and the longer-term potential for emerging market equities remains intact.
Glenmede’s Pride asks if emerging markets are “hitting a (Chinese) wall?”
The country is moving towards interest-rate liberalization. However, the analyst adds, investors should expect growth there to be “slower than the past decade, but still faster than most developed markets.”
On the upside, the longer-term story – the rise of the emerging-market consumer – is still intact, he adds: “While emerging economies continue to face a number of difficulties, the evolution of their middle class remains on track as urbanization continues and governments reorient their policies to support this new consumer class.”
Glenmede labels its current investment strategy as “selective risk-taking,” and outlines the following measures and priorities:
- Position portfolios to benefit from moderate economic growth
- Favor a constructive but not aggressive asset mix
- Emphasize higher return opportunities within fixed income
- Underweight low-yielding cash and traditional fixed income
- Allocate to bank loans, high yield bonds, and emerging market debt
- Utilize risk-managed strategies within equities and alternatives
- High quality and/or dividend growth
- Secured options/covered calls
- Absolute return strategies/hedge funds
- Enhance return prospects with select opportunities
- Emerging-market equities (with a focus on domestic consumer growth)
- Private Equity (secondaries, catastrophic reinsurance, triple-net leases)
- Maintain some cheap(er) hedge against unexpected inflation/currency devaluation, and
- Global fixed income and broad/active commodity basket.
Economist Nouriel Roubini argues in a commentary piece, Trouble in Emerging-Market Paradise, on Monday that the honeymoon may be over for the BRICS group of emerging markets: Brazil, Russia, India, China and South Africa.
“Brazil’s GDP grew by only 1% last year, and may not grow by more than 2% this year, with its potential growth barely above 3%. Russia’s economy may grow by barely 2% this year … India had a couple of years of strong growth recently (11.2% in 2010 and 7.7% in 2011) but slowed to 4% in 2012,” he wrote. Plus, China’s economy, which grew 10% per year for the last three decades, slowed to 7.8% last year and “risks a hard landing,” Roubini points out. South Africa expanded by only 2.5% last year and “may not grow faster than 2% this year.”
Other emerging markets are experiencing similar slowdowns, including Turkey, Argentina, Poland and Hungary.
Among the many reasons for this emerging-markets slowdown cited by Roubini are: monetary tightening (in 2011); a less than complete decoupling from the more developed and weak larger economies (U.S., U.K. and Japan); an emphasis on state capitalism and associated policies (like resource nationalism, trade protectionism, import substitution and capital controls) that distort economic activity and depress potential growth; the apparent ending to the commodity “supercycle;” the U.S. Federal Reserve’s signals that it will end quantitative easing earlier than expected, and the growing trend of current-account deficits in the emerging-market economies.
“These countries share other weaknesses as well,” he writes, “excessive fiscal deficits, above-target inflation, and stability risk (reflected not only in the recent political turmoil in Brazil and Turkey, but also in South Africa’s labor strife and India’s political and electoral uncertainties). The need to finance the external deficit and to avoid excessive depreciation (and even higher inflation) calls for raising policy rates or keeping them on hold at high levels. But monetary tightening would weaken already-slow growth. Thus, emerging economies with large twin deficits and other macroeconomic fragilities may experience further downward pressure on their financial markets and growth rates.”
These factors, the economist says, are both cyclical and structural in nature. “Thus, many emerging markets’ growth rates in the next decade may be lower than in the last—as may the outsize returns that investors realized from these economies’ financial assets (currencies, equities, bonds and commodities),” he wrote.
Still, the better-managed emerging-market economies should continue to experience rapid growth and asset outperformance, Roubini notes. “But many of the BRICS, along with some other emerging economies, may hit a thick wall, with growth and financial markets taking a serious beating.”
Check out Roubini and Bremmer Warn of ‘New Abnormal’ on ThinkAdvisor.