Part 4 : how much upside in risky assets after their stellar 2019?
Equities enjoyed an excellent year with momentum stemming more from compressed valuation multiples than from higher earnings.
Although equity valuations in absolute terms are high across the globe, when compared with other assets, they remain attractive. Performance in 2020 is likely to be good, but current trading levels suggest that potential upside is lower than last year, and that performance can be expected to stem from corporate earnings growth.
In the last 12 months, earnings forecasts for eurozone equities have been regularly revised down and expectations for 2020 stand at around 10%. If the improved economic outlook materialises, this figure looks achievable.
Finally, if equity prices get ahead of themselves, they could create an unwelcome bubble. The Fed’s preventative rate cut policy in 1995 and 1998 pushed stock markets up by giving the impression the Fed would always stand ready in support. Furthermore, history has shown that equities always reach high end-of-cycle valuation levels.
The current equities picture is displaying some potential buying opportunities among value shares, which are trading relatively cheaper than growth shares. Similarly, small caps are offering opportunities compared with large caps. Meanwhile, UK shares are trading at a significant discount to those in the eurozone following Brexit concerns, and emerging-market stocks should benefit from the better growth story more than from trade war de-escalation.
In credit, the potential for spread tightening across the spectrum is lower than in 2019 when most segments touched their 2018 lows. High yield bonds, subordinated financial debt, and emerging-market bonds are all still offering attractive carry.
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The opinion expressed above is dated January 2020 and is liable to change. Latest available data is used.
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