Although expectations for government bond yields continue to be near historic lows and concerns about low growth persist
Argentina, Bermuda, Brazil
LONDON, Monday 24 February, 2014 - Fund managers are more optimistic about the prospects for equity returns in most markets, while remaining concerned about world growth and medium-term government bonds, according to a global survey of investment managers conducted by Towers Watson. The survey also highlighted the most important issues investment managers expect to face in 2014, which are government intervention, inflation, global economic imbalances and financial instability, with government intervention being a very significant concern for them in the next five years.
Matt Stroud, Head of Investment Strategy – Americas at Towers Watson, said: “It is not surprising that managers have expressed such unease at developed market governmental intervention, including monetary, fiscal, legislative and regulatory measures – given the impact such developments as QE tapering, fiscal spending going into sequestration and the Volker Rule have had on global markets. The knock-on effects from some of these, particularly QE tapering on some fragile emerging markets and the Volker Rule’s impact on certain Over the Counter markets, such as the corporate bond market, have been significant.”
The global survey, including responses from 128 investment managers (the majority having institutional AuM above US$5 billion and retail AuM above US$1 billion) showed that almost half (44%) of managers believe that the investment strategies of their institutional clients will become more aggressive next year, up from a third of managers in 2013. During the next five years, the majority of managers expect the world’s largest economies to experience mild growth, with the exception of the Eurozone where they expect unemployment to remain in the low double digits in the short term and at a relatively high 9.5% in the medium term.
Matt Stroud said: “During the last quarter of 2013, when this survey was held, developed market equities had performed very well, leading to improving consumer confidence. Towards the end of the year, there was revitalized growth in the US and China, as well as growth acceleration in the UK and Japan. So while these are positive signs which will have influenced managers’ outlook for 2014, the global economic recovery, while still somewhat fragile, is looking more sustained.”
In contrast to last year, managers expect better equity returns this year in most markets with the exception of the US and China. They expect equity markets in 2014 to deliver returns of 6.9% in the U.S. (compared to 7.0% in 2013); 7.0% in the U.K. (6.0%); 8.1% in the Euro zone (7.0%); 6.4% in Australia (6.0%); 7.3% in Japan (6.0%); and 8.4% in China (10.0%).
Most managers in the survey hold overall bullish views for the next five years on emerging market equities (76% vs. 83% in 2013), public equities (78% vs. 78%) and private equity (59% vs. 53%). For the same time horizon, the majority remain overall bearish on nominal government bonds (81% vs. 80% in 2013), investment-grade bonds (58% vs. 47%), high-yield bonds (42% vs. 39%) and inflation-indexed government bonds (42% vs. 47%).
Matt Stroud said: “An interesting surprise to us is the increase in survey participants who believe that investment strategies of their institutional clients will become more aggressive next year (44% vs. 34% last year). This catches our attention as we rate equities ‘neutral’ as of January 2014 as opposed to ‘moderately attractive’ a year ago, reflecting the change in our view of valuation levels year over year. Not to mention the capital flight we are seeing in certain jurisdictions, such as Turkey and South Africa, in response to shifting expectations around Fed tapering. So the ‘buy’ side of this ‘risk-on’ posture that some expect, calls for high selectivity, in our view.”
In a significant shift from previous years’ studies, real GDP growth expectations for 2014 are now showing an upward trend and range from just above 1% in the Euro zone (0% in 2013) to 7.0% in China (7.5%) followed by 2.4% in Australia (2.5%), 2.4% in the US (2.0%), 2.2% in the UK (1.0%) and 1.6% in Japan (0.9%). With the exception of China and Japan, investment managers’ medium-term GDP growth forecasts are slightly above their one-year view and in the years ahead they expect growth to slow in China, while Japan and Eurozone growth is expected to lag for years to come. The United States’ economic competitiveness is expected to increase in the coming years, though most respondents feel it is likely to have a weak but manageable fiscal situation with mild growth.
The survey shows that managers expect unemployment to remain a tough challenge for some Western economies, especially for the Eurozone countries implementing fiscal austerity measures. According to managers, expansionary monetary policies are expected to hold in 2014, with exceptionally low interest rates in some Western economies, but to gradually tighten in the years ahead. Inflation is viewed as a moderate near-term risk, with some very concerned about long-term inflation risk in both the US and Europe.
Turning to ten-year government bond yields, managers predict yields stabilizing at historic lows in 2014 reflecting a mix of economic strengthening in key markets but with continued central bank asset purchases. Reflecting year-end 2013 yields in many countries, many managers are predicting yields on ten-year government bonds will increase, with predictions for the US 10-year yield rising from 2.0% to 3.0%, mirrored by the UK from 2.0% to 3.1%, the Eurozone (2.0% to 2.4%), Australia (3.3% to 4.1%) and China (3.8% to 4.6%). Managers are predicting a small drop in bond yields for Japan (1.0% to 0.9%).
Matt Stroud said: “Managers are bearish about developed-market government bonds and investment grade bonds, even with expectations that interest rates will not move much over the next year. Investors may find these asset classes less attractive due to current rate levels and central bank action, though respondents were also bearish on high yield, even more so than money market, perhaps reflecting the deterioration in valuation as well as terms of certain ‘covenant-lite’ and ‘payment-in kind’ deals during 2013.”
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