Economic resilience and global stimulus provide tailwinds for equities
The S&P 500 Index recorded its ninth consecutive quarterly gain in Q1.
Government stimulus and low commodity prices may support stocks in Europe and Japan.
U.S. equities can benefit from a resilient economy.
Volatility may continue for emerging markets.
Download: Equity Outlook (PDF)
- U.S. equities
- Non-U.S. equities
A lackluster start to 2015 for U.S. equities
In many respects, the first quarter of 2015 was strikingly similar to last year's first quarter for U.S. stocks. Market conditions were somewhat turbulent, the S&P 500 Index ended the quarter barely in positive territory, and investors were considering the potentially chilling effects of an unusually harsh and snowy winter on U.S. economic growth. At the same time, two additional factors weighed on investors' minds in the early months of 2015: U.S. dollar strength and energy sector weakness.
Small-cap stocks, seen by investors as having less exposure to the negative effects of the strong U.S. dollar, outperformed large-cap stocks for the quarter. Growth stocks outperformed their value counterparts, and investors focused heavily on growth potential while interest rates remained at historic lows. In terms of sectors, health care and consumer discretionary were the top performers while industrials, utilities, financials, and energy stocks declined. Although overall equity returns were tepid for the quarter, the S&P 500 Index recorded its ninth consecutive quarterly gain, major indexes saw new record highs, and the bull market for U.S. equities entered its seventh year.
The strength of non-U.S. currency weakness
Near the end of 2014, many investors acknowledged that although they could see there were interesting investment ideas outside the United States, they couldn't bring themselves to invest there. Why? Because they felt that continued depreciation in non-U.S. currencies — particularly the euro — would consume all of their returns when translated back into dollars.
However, currency weakness has not cancelled out positive non-U.S. market performance; rather it has helped to brighten the earnings picture, driving share prices higher and outweighing the negative currency effect year to date. In Europe, investors had policymakers to thank for the weak euro. The European Central Bank (ECB) launched its latest round of economic stimulus, which this time includes a steady and significant bond-buying program that extends to corporate and sovereign debt. This led directly to a weaker euro relative to other major currencies, boosting expectations for export growth, which would support eurozone gross domestic product and the earnings of exporters, and reducing deflation pressure.
In Japan, stocks rose even more sharply than in Europe, with exporting companies continuing to perform particularly well. Although the yen did not depreciate as much as the euro versus the surging U.S. dollar on a year-to-date basis, a variety of Japanese companies continued to benefit from depreciation last year when they translated dollar-based earnings back into yen. Indeed, many companies have successfully grown their profit margins, given the benefit of yen depreciation over the past several years. What's more, improved corporate governance, spurred in part by government efforts to encourage companies to improve investors' return on equity, has led to increased dividends, more share buybacks, merger activity, and corporate spinoffs. For these reasons, and given the low historical valuations of Japanese stocks, we continue to like their prospects.
When a sector is struggling as energy has been, it can be an exciting time for our fundamental research team to find market inefficiencies and capitalize on them.
The views and opinions expressed are those of the authors (Simon Davis and Shep Perkins, Co-Heads of International Equities, and Robert D. Ewing and Nick C. Thakore, Co-Heads of U.S. Equities) as of March 31, 2015, are subject to change with market conditions, and are not meant as investment advice.