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Market Realist Chronicles: Global investment strategy and outlook for 2014, Part 1

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Dec. 4 2020, Updated 10:52 a.m. ET

This is an excerpt from our Market Realist Chronicles newsletter, delayed by one week. Register for free to join 3,000+ investors who receive up-to-date Market Realist Chronicles insights in their inbox—immediately when each issue is published.

Global equities went gangbusters in 2013

At the close of December 2013, the S&P 500 was up 29.5%, the Dow Jones Industrial Average (DJIA) was up 26.5%, the Nasdaq was up 38.2%, and the Russell 2000 was up 37.0%. Global central banks were successful in their efforts to suppress interest rates and drive capital into risky assets. Since interest rates were at generational lows, even conservative investors were driven to chase yield and equity performance. Equity markets were also helped by tempered inflation and falling global commodity prices. The price of crude (WTI) fell below $95 at the end of 2013, given the fact that U.S. inventories were at seasonal highs and domestic drilling grew substantially.

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From an economic perspective, the market was supported by strong Case-Shiller readings, steady PMI data, and ISM manufacturing survey strength. In December, Markit’s PMI reading came in at about 55 and ISM survey results came in at about 57, both signaling an expanding economy. Consumer confidence in the U.S. also rose 6 points in December to end the year at 78, a relatively high reading for our post-crisis economy. The FOMC minutes released today affirmed the fact that the Federal Reserve is cautiously optimistic for the outlook of the U.S. economy in 2014, even though members have brought down initially optimistic growth estimates.

Investors should be wary of initial jobless claims on Thursday and the nonfarm payroll data being released on Friday. If data is too strong, the ten-year treasury could continue its rise above 3.0%, which would be negative for investment-grade bonds and certain high dividend–yielding stocks such as mortgage REITs.

What should U.S. investors look for in 2014?

In our previous issue, we discussed that the outlook for 2014 should be more favorable, given the fact that fiscal drag should wane in the new year. Effectively, we should see at least 3% nominal GDP growth by the end of the year, driven by positive results in the construction sector and a resurgence in capital investment. While U.S. GDP growth saw a negative 2.4% drag from austerity in 2013, the drag should be closer to only 0.7% in 2014. The impact on the U.S. consumer from both higher taxes and the government sequester should also be much less going forward. The housing price recovery should also continue in 2014, despite a brief slowdown in mid-2013 caused by tapering fears. As housing prices continue to rise, perceived wealth should continue to improve, and an increase in housing construction should increase employment as well as GDP growth. In the first nine months of 2013, we estimate that U.S. household wealth increased by over $5 trillion, due to a combination of real estate appreciation and rising equity prices.

As our analyst Brent Nyitray explains in an earlier article, the fastest home price appreciation is occurring in the Western states, including California, Nevada, Arizona, Oregon, and Washington.

Brent Nyitray also recently showed that housing starts hit a new post-2008 high, supporting homebuilders.

This is an excerpt from our Market Realist Chronicles newsletter, delayed by one week. Register for free to join 3,000+ investors who receive up-to-date Market Realist Chronicles insights in their inbox—immediately when each issue is published.

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Capital spending or capital expenditures are necessary for the economy to accelerate its growth, but we’ve seen a lack of investment in 2013. For the first three quarters of 2013, we only saw 1.6% annualized growth in capex spending, but this probably accelerated in the fourth quarter. Peak margins for U.S. corporates, along with a low cost of capital, should support further capital spending in 2014. This spending  will be necessary to sustain the economic recovery and sales growth.

Despite tapering fears, low interest rates will continue in 2014

The economic recovery to date has been relatively weak over the past five years, and although unemployment has been falling and should fall to 6.5% soon, U6 (which includes part-time and discouraged workers) has still been stubbornly high, at 13%. Along with U6, the labor participation rate has also fallen to 63% from 67% in 2006. As a result, in the labor market, price setters have had very little pricing power. Wage inflation has been weak, giving the Federal Reserve the ability to continue to keep short-term rates low, despite fears of tapering. Even though the Fed recently announced a $10 billion tapering program, it will probably continue to maintain low rates through 2015. Rates will especially remain low in response to the recent rise in mortgage rates and a temporary delay in the housing recovery.

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In addition, since core CPI fell from almost 2.0% in 2012 to 1.7% in the third quarter of 2013, the Federal Reserve should have no impetus to raise rates in the near term. The core PCE price index, which the Federal Reserve pays more attention to, also fell to 1.1%. The lack of inflation will allow the new Federal Reserve Governor Janet Yellen to continue Bernanke’s low interest rate policy. The strengthening of the dollar will also lower import and commodity prices, which should make the Federal Reserve’s job even easier.

This is an excerpt from our Market Realist Chronicles newsletter, delayed by one week. Register for free to join 3,000+ investors who receive up-to-date Market Realist Chronicles insights in their inbox—immediately when each issue is published.

Due to the slack in the labor market, consumer spending over the past five years has grown at a slow pace. In 2013, spending grew at a modest 2% pace, but it accelerated in the past quarter. In 2014, consumer spending should increase due to the lack of the fiscal burden in 2013. We estimate that higher payroll and income taxes in 2013 took away almost $250 billion from consumer discretionary income last year. Although some drag should continue in 2014, due to the expiration of unemployment benefits of 1.3 million citizens, the drag will be much lower than in 2013. This recovery will gain steam in the second half of the year, since the first half will be stifled by slow wage growth and a weak holiday shopping season. Hopefully, strengthening consumer confidence and wage inflation will bolster spending by the third quarter of 2014.

In the intermediate term, the economy should normalize as housing supply falls and household formation accelerates. Household formation has been delayed for the last five years due to hardships faced by younger Americans recovering from the financial crisis.

Looking back: Global GDP growth probably slowed to 2.2% in 2013

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According to economists, global real GDP could fall to as slow as 2.2% in 2013, the lowest it has fallen to since 2009. This is primarily due to slowing emerging market growth, combined with the temporary fiscal drag the U.S. economy faced in 2013. As this normalizes, 2014 should be a brighter year, but not as strong as economists originally predicted in 2012.

Since its December 2012 meeting, the Fed has been lowering its estimates for 2014 GDP growth. Find out why here.

This is an excerpt from our Market Realist Chronicles newsletter, delayed by one week. Register for free to join 3,000+ investors who receive up-to-date Market Realist Chronicles insights in their inbox—immediately when each issue is published.

Global market outlook for 2014

In 2013, although the Shanghai Composite Index in China retreated almost 7.0%, the Nikkei rallied 57.0%, driven by Abe’s aggressive monetary policy. This bifurcation in East Asian equities will probably continue in 2014. In response to Japanese stimulus, local unemployment fell to 4.0% from higher readings in the third quarter. Japanese CPI was also up 1.6% year-over-year, driven by an almost 8% jump in local energy prices.

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Emerging markets should continue to be weak in 2014 due to fundamentally weak growth, inflation troubles, and fund outflows triggered by rising rates in developed markets like the United States. Chinese PMI (HSBC) actually slowed to 50.5 in December, while official manufacturing PMI fell to 51.0; services PMI there also fell to a two-year low at year end. As a result of weak economic data, Chinese Premier Li Keqiang promised to keep market liquidity a relatively high levels in 2014 to ensure local economic stability while keeping credit growth in check. This will help ensure that the financial reform package that the government passed at the end of the year will not be hindered by both asset bubble and liquidity fears.

On the other hand, Europe started turning the corner in 2013, with Eurozone manufacturing PMI finally touching 52.7 in December. The only laggard there was France, which surprisingly contracted at a faster pace by the end of the year, with its PMI falling to 47, a contractionary reading. On the equities front, the DAX (Germany) was up 26% in 2013, the FTSE (the UK) was up 14.5%, and the CAC (France) was up 18%. We will expand on our global outlook further in our next Chronicles report.

Happy hunting in the new year!

~Liam Odalis

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