Disruption and consumer spending – are these the two key trends to watch in 2020? In this video, portfolio managers Marc Pinto and Jeremiah Buckley discuss why they believe US equities should remain an attractive choice for investors over the next 12 months.

Key takeaways: 

• US equity valuations are reasonable, remaining well within their historical range. The S&P 500 dividend yield has not compressed as much as yields on US treasuries, suggesting greater relative opportunities for prices to rise.
• Consumer spending has been a core driver behind economic growth performance in 2019. Whether or not that continues will depend in part on wage growth.
• Disruption is a multi-year trend with global ramifications: those companies with superior earnings and revenue growth are those that may be best positioned to benefit.

 

Transcript:

Chapter 1: What are your expectations for 2020?

MARC PINTO: Hi, I’m Mark Pinto. This is Jeremiah Buckley. We’re going to talk a little bit about how we see 2020 evolving, and what some of the things we’re going to do in the portfolio to position ourselves well for the upcoming year.

I think in 2020 we’re going to continue to see a lot of the same themes that we saw in 2019, both on the positive and potentially on the negative. I continue to believe that we will see a benign interest rate environment. I mean, inflation really hasn’t been a factor. We continue to see very, very benign inflation data, both from the CPI and PPI. So I think bond yields are going to still be below 2% on the 10-year.

And then remember, we’ve got trillions of central bank debt overseas that’s trading at negative interest rates, and that’s going to keep, I think, a lid on our interest rates. So good interest rate environment I think bodes well for growth equities. So I like that. On the negative side, or on the area for concern side, the two big things that we’ve been talking about in 2019, the trade war with China and the upcoming general election in the US, I think are going to continue to weigh on the market.

Chapter 2: What do you see as the key market factors driving performance?

JEREMIAH BUCKLEY: I think one of the areas that really drove economic growth and performance in 2019 was consumer spending. And so I think we need to continue to watch wage growth. We’re currently at 2% to 3% – not too high. That’s driving inflation – that hopefully will keep rates low. But I think we also need to focus on what happens with the trade war and how that impacts the industrial and manufacturing economy to make sure that those companies don’t get into a place where they need to start cutting employment, which could disrupt this strength that we’re seeing in consumer spending through 2019 that we expect to continue into 2020.

MARC PINTO: And I think, also, when you look at it in the context of – we’ve talked a lot about disruption, right? And we’ve talked about, who are the companies doing the disrupting? Who are the companies that are being disrupted? And maybe even more importantly, who are the companies that are benefiting from the disruption? The companies that we’re talking about that have the superior earnings and revenue growth are generally the companies that are either disrupting, or benefiting from the disruption, and conversely the companies that you mentioned – sort of the ‘haves’ and ‘have nots’. The have nots are the ones that are being disrupted.

JEREMIAH BUCKLEY: That’s why security selection continues to become even more important every year, because of some of those companies that are being disrupted by digital transition, and what’s happening, and how products are being distributed, and where consumers are spending their time. And so that’s an important part of our process that we need to continue to be sharp on.

MARC PINTO: Yeah. And I would also mention that I think if there’s one lesson we learned in the last couple of years it’s the importance of brands and consumer awareness. And when we see disruption in the retail chain, and we see disruption in general, companies with strong brands that have an ability to go direct to the consumer, and essentially bypass the retail channel, have been the real winners. And I think we need to continue to focus on that.

Chapter 3: Where does the market stand in terms of valuations?

MARC PINTO: So I think a lot, obviously, about valuations. And I know we both do, because we have the opportunity to go back and forth between equities and bonds. And I think historically, asset allocation, we’ve used that effectively to drive returns. I look at valuations today and continue to believe that equity valuations are very reasonable, well within the historical range that we’ve seen. And those valuations in the context of lower interest rates and still decent earnings growth, maybe it’s slowed a little bit, but still decent earnings growth among US corporates. I think those valuations are very reasonable and defendable.

And frankly, I think there’s potential for upside. On the flip side, we look at where treasury yields are consistently below 2% with the ceiling that we’ve talked about with negative interest rates in other markets. And as we talk to our colleagues in the fixed income side, credit spread’s still very tight, both in investment grade and high yield. For me, it just continues to drive home the point that I think equities are where you want to be relative to bonds.

JEREMIAH BUCKLEY: Yeah. And I think it’s important to think about, as equity markets over the last couple of years have certainly had good performance, a lot of that has been driven by the earnings growth, and the cash flow growth, and the dividend growth that we’ve seen. And so you haven’t seen the S&P 500 dividend yield compress that much. It’s certainly compressed less than what US treasuries have compressed over the last couple of years. And so I agree, I think US equities continue to present attractive relative opportunities. And the absolute yield of the S&P 500 around 1.9% today, plus a number of those companies have a large amount of excess free cash flow that they can continue to deploy back in the business and give themselves opportunities to grow over time, I agree.

I think equities continue to be attractive relative to fixed income on that basis.