Outlook 2021: Experts differ on appeal of US, EM equities
While investors generally agree that 2021 will be a positive year for equities, their opinions diverge on which geographies to focus – except for a consensus regarding China.
A Natixis survey released on December 8 found that 32% of institutional investors were looking to decrease allocations to US equities. Instead, they are looking to shift their focus to European and emerging markets (EM), as well as Asia Pacific stocks.
They might have good reason. Southeast Asian stocks have risen drastically after a steep fall in March. For example, the MSCI Asean Index rose 14%, nearly double the MSCI Asia Pacific Index over eight days in November, according to Bloomberg.
Even though Asia is recovering, markets are doing so with great variance, according to a webinar presenting Natixis’s market outlook for 2021 on December 15. Most markets fell into a recession in 2020, and only China has seen a strong recovery and is likely to reach positive growth of nearly 5% next year, the webinar said.
“The worst affected are current account deficit countries (Indonesia, India and the Philippines), followed by those most affected by suppression of international mobility. The most important lessons we have learnt are that you need to contain the virus, and you need diversification,” Alicia García Herrero, Natixis's chief economist for Asia Pacific, said during the webinar.
JP Morgan also noted in their 2021 outlook report that diversification helped investors get through the pandemic, and that equities are expected to be the key return generator in 2021.
As 2021 is expected to be an early growth phase, risk assets such as equities are expected to be a key return generator next year, the investment bank wrote.
“A sustained medical solution to the pandemic could unleash a fresh round of risk-on rallies, with many of the worst-hit sectors again becoming more compelling to investors because of their low valuations,” the report said.
State Street also found that investors have become more willing to invest in riskier asset classes.
Using the Market Regime Indicator (MRI), a quantitative framework that tracks market risk environment based on forward-looking market indicators, State Street found that while investors became highly risk averse in the early part of the year as the pandemic started to spread, the indicator shifted particularly during the time of the US election.
“Since the first two weeks in November, we have seen the market risk appetite indicator change to reflect investors are looking to take on risk. In part, this was likely due to relief that the outcome of the US election was sufficiently certain not to give rise to widespread disruption and in greater part due to the announcements surrounding vaccine development,” Kevin Anderson, State Street's Asia Pacific head of investments, told AsianInvestor.
The rebound has been sudden Just two months ago, 66% of 600 global institutional investors surveyed by State Street in September and October said they thought equity market would enter a prolonged bear cycle due to the economic impact of Covid-19.
EM VERSUS US EQUITY
However, State Street Global Advisors does not agree with the EM approach and is looking to focus on US equity rather than EMs.
“While expected earnings over 2021 in EM are strong, we think there is less chance of these estimates being realised,” Anderson said. “On the earnings front, after lagging market developments for months, earnings expectations [from US equities] are beginning to reflect the reality of Covid-19’s impact. As we enter the next 12-month period, compared with other regions, we believe earnings in North America are least likely to disappoint in 2021.”
UBS, however, views US equities as overvalued. “The rapid run up in equities in the last few months have erased some of the premiums we expected in our May report. On an absolute basis, we view the market as slightly overvalued (especially the US)," Louis Finney and Michele Gambera, co-head of strategic asset allocation modelling at UBS Asset Management, wrote in their report on five-year capital market assumptions released this month.
Anderson also cautions that uncertainty will persist in 2021. “While the world waits for a medical resolution to the pandemic crisis, infections are once again surging and restrictions on movement are scaling up,” he said.
“Meanwhile, the liquidity unleashed to fight the crisis is triggering questions about the inflation outlook. And finally, policy uncertainty persists following tense US elections, with control of the US Senate still pending runoff elections in January. Brexit deadlines are looming; no agreement is yet in hand. As the helpful influence of earlier stimulus recedes, markets will likely face another major test in 2021,” he added.
However, he acknowledges that there are some upside risks and that the vaccine could “go a long way toward reducing the lasting scars from the Covid-19-induced recession.”
“In this environment, we believe growth and quality assets represent investors’ strongest opportunities — and we think they’re most likely to find those opportunities in the United States and China.”
STIMULUS RISK
Xu Jianwei, senior economist for Greater China at Natixis, observed that recovery is expected to continue to grow in China next year.
“Even if China is expanding its fiscal policy, you can see that it's still very cautious about financial risks. We think this will still be the case in the next year, which will mean that the fiscal policy is going to be still supportive, but not as much as this year as the government pays more attention on financial risk,” he said at the same webinar.
“We think the stable monetary policy will still be the key in a scenario that we can expect in the next year,” he said. “We can see the interest rate is gradually coming back and actually the three-month Shibor (Shanghai interbank offered rate) has already slipped past 3%, which is a normal rate in China. So, that means that the China's PBOC (People’s Bank of China) is actually quite conservative in this regard compared with the other major central banks in monetary policy.”
Central Bank stimulus is regarded as posing a risk for investors as there seems to be a disconnect between soaring capital markets and dire economies across the world.
Anderson also has a positive outlook on China. “We expect earnings growth in China to be especially resilient, supported by a resumption of growth and consumption,” he said. “Digitisation and consumption trends will warrant a reconsideration of EM equity exposures in general. In that context, we favour Chinese consumer and growth stocks.”