Astute investors take cues from history as they analyze the present to detect prospects for the future. It’s a delicate balance and one that’s particularly critical in anticipating what is in store for the U.S. economy and securities markets in 2015.
In mid-October, our sharp-sighted Research Roundtable of experts held forth on their predictions for the coming year. Some panelists were bullish; none was exuberant.
Against today’s backdrop of elevated U.S. equity valuations, one of the brighter spots for 2015, the experts say, are emerging markets. But also bearing some bullish promise are the U.S. financial, energy and health care sectors.
Most of the experts are not forecasting rising inflation nor—on the basis of the Fed’s vow to keep rates low for a “considerable time”—rising interest rates, at least for the first half.
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What they do see en route are muted earnings, heightened market volatility and a continuing slow-growth economy that might dip into another recession.
Below are our panelists’ predictions, articulated just as the market was rocked by a brief correction, a few weeks before the Fed halted its lengthy quantitative easing bond-buying program.
ROB ARNOTT (Newport Beach, California) Founder-chair, Research Affiliates, managing $182 billion in assets; manager PIMCO All Asset Fund, with $33 billion in assets as of Sept. 30, 2014.
JOHN BUCKINGHAM (Aliso Viejo, California) Chief investment officer, Al Frank Asset Management, managing about $700 million in assets. Editor, The Prudent Speculator newsletter. Forbes blogger. Manager, the $90 million Al Frank Fund, with an annualized 10-year return of 7.83% through Sept. 30, 2014; since its inception, the fund has averaged a 10.93% return.
MEBANE FABER (El Segundo, California) Co-founder-CIO, Cambria Investment Management, with AUM of $400 million. Manager of ETFs, including the actively managed Global Momentum fund (set to launch 11/4/14). Author of “Shareholder Yield” (The Idea Farm, 2013).
NICOLE GELINAS (New York City) Chartered financial analyst (CFA) charterholder. Senior Fellow, The Manhattan Institute. Contributing editor, The Manhattan Institute’s City Journal. Author “After the Fall: Saving Capitalism from Wall Street—and Washington” (Encounter Books, 2009).
ROBERT RODRIGUEZ (Los Angeles) CEO-managing partner, First Pacific Advisors; strategic advisor to FPA Capital and FPA New Income funds. Firm manages assets of $33 billion. FPA Capital’s compounded rate of return from July 1984 through Sept. 30, 2104, is 14.65%. FPA New Income hasn’t had a negative year in three decades.
What’s the current state of the economy?
Rodriguez: I don’t know what people are smoking! Is this a vibrant economy? Absolutely not. Earnings growth is being driven by a fair amount of financial engineering on the part of the Fed and corporations. When history is written, the Fed presidents and those who have deployed quantitative easing will be glorified as great snake-oil marketers. We’re in a different and fundamentally more volatile environment than any prior to 2008.
Buckingham: Muddling along, doing pretty well but not growing anywhere near as fast as one might think in a recovery off the Great Recession.
Arnott: Addicted to fiscal and monetary stimulus and not as healthy as people would like to believe. Unemployment has come down below 6%—because a lot of people gave up looking for work and are on the dole.
Gelinas: Doing better than a lot of other Western countries. We’re still too dependent on consumer debt. Cheap financing is back: In the auto industry, we see subprime lending coming back. GDP growth has not been reflected in broad-based income gains. The middle class has not regained its income of a decade ago. Some good things are going on, but they’re overshadowed by our continued dependence on very low interest rates.
What’s the state of the stock market right now?
Faber: In an uptrend and getting to the point of being expensive.
Arnott: Indecisive, confused by the cross-currents of too-high valuations paired with an easy-money, stimulated bull market in risk assets.
Gelinas: An illusion. Is it overvalued? Is it undervalued? Is it rightly valued? Nobody really knows. One thing is certain: It’s not for real. It’s a creation of central banks.
Buckingham: We’re enduring a correction that’s probably long overdue.
What’s your outlook for the economy?
Arnott: GDP growth expectations of about 3% are unlikely; 1% to 2% are far more likely. I wouldn’t go so far as to suggest recession, although it’s certainly possible.
Gelinas: We can keep growing steadily the way we’ve been growing if we don’t see a real interest-rate shock. If we can’t stand higher interest rates, then we’ll probably have another recession.
Buckingham: Three percent growth is a reasonable guess. You’ll have more people working, but the unemployment rate could go up because more people are in the pool trying to find jobs.
What’s your forecast for the stock market in 2015?
Rodriguez: Lower! The market could easily be 20% or 30% lower from where it is now. We’re living on borrowed time. When this market breaks, you’re going to see so many money managers and others washed out to sea who will never see land again. It will happen between now and 2018.
Faber: For the next 10 years, we expect stocks to do maybe 3% a year in the U.S. based on long-term valuations.
Buckingham: Given that it’s the third year of the presidential cycle, which, historically, has been positive, and that we’re in the middle of a correction, between now and a year from now stocks will be higher and in line with the historical 10%–12% return—maybe a little better.
Arnott: I’m a cautious bear on U.S. equities. Now that the monetary stimulus [has been] lifted, the market anticipates robust growth to bail out current investors. But that’s likely to disappoint. We’re still in an environment of hyper-regulation and gotcha-rulemaking, where folks who thought they were abiding by the law suddenly find that a reinterpretation of the rules has them on the wrong side. That makes people cautious.
Gelinas: [The market is] dependent on the very low interest rates. It really says nothing about the underlying companies themselves.
Your outlook for bonds?
Faber: Not super-attractive, but we do consider bonds to be reasonable to include in a diversified portfolio.
Rodriguez: Bond exposure should be maintained only in the highest quality areas. The big spread expansion and deterioration in credit quality is something that you will see more frequently over the next couple of years, and the high-yield market is going to get hammered.
Arnott: Very mildly bullish on bonds mostly because of an expectation of a weak economy. Essentially 100% of the bond pundits are bears, which means that the extremely limited roster of bulls are probably the ones on the right side of the trade. My cautious bullishness on bonds is predicated on an assumption that inflation remains benign for a little while.
Buckingham: The bond market has confounded even the bond experts. Next year you’re not going to make very much money investing in bonds. Interest rates could actually go lower depending on what happens in the economy.
Gelinas: It’s dependent on the very low interest rates. I don’t know who buys a 30-year New York State bond for 5%! Do they really think interest rates will never go above 5% over the next three decades? My big concern is that people don’t understand what they’re investing in.
How do you see earnings coming in next year?