Inducing economic growth turned out to be the hard part of easy monetary policy. As central banks across the developed markets (DM) acknowledge the limits and risks of low and negative interest rates, policymakers and investors are beginning to turn their attention to fiscal policy.
A potential transition from monetary to fiscal stimulus would be gradual and we believe the environment of low rates, low growth and low returns is likely to continue for some time. In this context, we believe equities still offer the best return prospects among the major asset classes (see Macro Insights: A Turning Point in Policy and GSAM’s Global Fixed Income Outlook: The Long and Short of It).
As we noted in January, we believe equities are likely to deliver low-mid single-digit returns this year, and we continue to hold that view. In this outlook we discuss our updated views on five equity themes in an environment of low growth and shifting policy:
- A fiscal boost for equities and infrastructure-related investments: Expansionary fiscal policy could benefit equities if it is successful in stimulating economic growth. Initially, we think the “repairers” and “builders” of infrastructure will be the main beneficiaries, followed by “owners” of infrastructure over the longer term.
- No need to stretch for yield: While many high-yielding stocks now look expensive compared to their history and to the broader equity market, we think equities with bond-like attributes should also be valued relative to bonds. Looking past the highest-yielding stocks, many equities offer attractive yields at reasonable valuations, particularly versus credit.
- Banking dividends while fundamentals improve: Low rates and increased regulation are significant headwinds for bank profits, but we believe that many banks have fundamentals that are stronger than valuations suggest and that attractive dividend yields are compensating investors while rates remain low.
- The elusive European earnings recovery: Political and economic risks have delayed the earnings recovery that we had been expecting. We believe the ability of European companies to realize earnings growth through their relatively high operating leverage remains intact and a few headwinds, such as emerging market (EM) weakness and some political issues, may be abating. Meanwhile, European equities offer attractive yields.
- A broader EM rally: Stronger commodity prices have been a key driver of the EM equity rally. As risks across EM countries stabilize, recent earnings upgrades and the rally in commodity-related equities could broaden to other EM sectors.