Investment managers remain generally optimistic regarding the U.S. economy but are reassessing U.S. equity valuations, according to the quarterly Investment Manager Survey by Northern Trust Asset Management.
After a 10 percent-plus gain in U.S. equities following the November election of President Trump and a Republican-controlled Congress, more than half of those surveyed (59 percent) said an inability to move key legislation forward is the biggest threat to the rally. A geopolitical incident, trade policy concerns and equity market valuations are considered the next most likely risks to the U.S. market, according to the survey of approximately 100 investment firms taken March 14-27, 2017.
“Low interest rates, slow but steady economic growth and improving corporate earnings along with a Republican led pro-growth policy agenda have bolstered markets,” said Christopher Vella, Chief Investment Officer for Multi-Manager Solutions at Northern Trust Asset Management. “Our survey respondents, however, view U.S. equity valuations as getting less attractive and see a risk to the markets trajectory if the administration cannot enact legislation that supports improved economic growth.”
The portion of investment managers that expect the U.S. economy to accelerate over the next six months decreased to 44 percent from 55 percent in the previous quarter. Half the managers expect U.S. economic growth to remain steady. Fewer than half (46 percent) of managers expect U.S. corporate earnings to accelerate over the next three months, comparted to 62 percent with that view last quarter. The outlook for job growth also moderated, but was still strong: 61 percent of managers expect job growth to remain stable over the next six months.
Eight of ten respondents (79 percent) expect interest rates will increase over the next three months, up slightly from the previous quarter and the highest reading on this measure since Northern Trust’s survey began in the third quarter of 2008. Most investment managers, 63 percent, expect inflation will also rise over the next six months – down from 78 percent with that view last quarter.
Investment Risks and Portfolio Positioning
In the quarterly ranking of risks to global equity markets, trade policy remained in the top spot, with geopolitical risk ranked second, rising from third last quarter, and a rise in interest rates ranked third, down from second in the previous survey. Trade policy was added to the list of potential risks to equities in the fourth quarter after it became a central issue in the presidential election.
While 82 percent of investment managers report portfolio cash levels in line with historic norms, a sizeable minority are somewhat defensive in their positioning: 17 percent have cash levels above normal levels. This is down from a historic high of 23 percent in the third quarter of 2016, but still above the historic average of 13 percent of manager holding higher cash levels.
Equity Valuations by Region
More than half (51 percent) of managers believe U.S. equities are overvalued, the highest percentage in the survey’s history and a significant increase from the previous quarter, when 39 percent saw U.S stocks as overvalued. Valuations held up better in other markets, 37 percent of managers believe equities in Japan are undervalued, in line with last quarter; 80 percent believe European equities are undervalued or fairly valued, down slightly from 89 percent the previous quarter. Just under half (48 percent) see emerging market equities as undervalued, compared to 61 the previous quarter.
Looking at the bond market, 52 percent of managers believe U.S. high yield is overvalued following strong performance in 2016, but credit spreads are likely to remain at historically lower spreads over Treasuries. Nearly a quarter (23 percent) see U.S. high yield as overvalued and expect spreads to widen soon, while another 22 percent believe U.S. high yield is fully but fairly valued given the low interest rate environment.
“Managers view valuations as stretched in some markets,” said Mark Meisel, Senior Investment Product Manager for Multi-Manager Solutions at Northern Trust Asset Management “Although this raises the risk of a correction, valuations can remain extended for a long period of time.”
Managers are most bullish on emerging market equities, followed by non-U.S. developed markets. TIPS jumped to third among asset classes, up from sixth last quarter. Looking at sectors, managers were most bullish on the information technology sector, which rose from fifth place previously. Financials dropped from first to second place.
For its survey, Northern Trust polls investment firms that participate in its multi-manager investment programs and funds. The select group of respondents includes fixed income and equity managers across value and growth styles, with a bias toward fundamental, bottom-up stock picking strategies. The survey is conducted quarterly so that Northern Trust and participating managers can examine trends in attitudes and allocations. The full Investment Manager Survey Report and a video on survey highlights can be found on Northern Trust’s web site at www.northerntrust.com/managersurvey.
Northern Trust Asset Management is composed of Northern Trust Investments, Inc., Northern Trust Global Investments Limited, 50 South Capital Advisors, LLC, Northern Trust Global Investments Japan, K.K., NT Global Advisors, Inc. and investment personnel of The Northern Trust Company of Hong Kong Limited and The Northern Trust Company.
About Northern Trust
Northern Trust Corporation (Nasdaq: NTRS) is a leading provider of wealth management, asset servicing, asset management and banking to corporations, institutions, affluent families and individuals. Founded in Chicago in 1889, Northern Trust has offices in the United States in 19 states and Washington, D.C., and 22 international locations in Canada, Europe, the Middle East and the Asia-Pacific region. As of March 31, 2017, Northern Trust had assets under custody of US$7.1 trillion, and assets under management of US$1 trillion. For more than 125 years, Northern Trust has earned distinction as an industry leader for exceptional service, financial expertise, integrity and innovation. Visit northerntrust.com or follow us on Twitter @NorthernTrust.
Northern Trust Corporation, Head Office: 50 South La Salle Street, Chicago, Illinois 60603 U.S.A., incorporated with limited liability in the U.S. Global legal and regulatory information can be found at https://www.northerntrust.com/disclosures.