Economic & Financial Market Outlook. James W. Paulsen, Ph.D. - Wednesday

Transcription

1 Economic & Financial Market Outlook James W. Paulsen, Ph.D. - Wednesday

2 U.S. faces supply-side economic challenges!!! Annualized U.S. working age population growth by economic recovery Annualized U.S. productivity growth by economic recovery 2

3 Demand-side policies for supply-side problems!?! Annualized U.S. real GDP growth vs. U.S. supply growth by economic recovery 3

4 U.S. productivity needs to be rescued!?! Detrended U.S. Productivity Index* *Percent by which U.S. productivity index is above or below its post-war trend line average 4

5 The problem is lack of INVESTMENT!!? Productivity vs. public sector real investment spending Left scale Detrended U.S. Productivity Index (Solid) Right scale Detrended U.S. Real Government Investment Spending (i.e., percent above or below its post-war trend line average) (Dotted) Productivity vs. private sector real investment spending Left scale Detrended U.S. Productivity Index (Solid) Right scale Detrended U.S. Real Private Sector Investment Spending (i.e., percent above or below its post-war trend line average) (Dotted) 5

6 Ample capability to drive investment!!? Public sector investment spending as a percent of real GDP U.S. corporate net cash flow as a percent of nominal GDP 6

7 Demand-led recovery??? U.S. demand/supply ratio 7

8 Adjusting to a demand-led economy??? U.S. demand/supply ratio S&P 500 Composite Stock Price Index U.S. 10-year Treasury bond yield 8

9 U.S. growth sustaining near 2.75%!! Annual U.S. real GDP growth 4-Quarter Moving Average 9

10 Five forces for U.S. growth!!! Finally some credit creation Better household world Capital spending cycle still coming Housing starts rise another 50% Better growth abroad 10

11 Synchronized global policy accommodation!!? WTI crude oil spot price U.S. 10-year Treasury bond yield 11

12 A synchronized global economic growth bounce??? Eurozone 10-year sovereign bond yield Bank of Japan monetary base reserve balances U.S. real broad trade weighted dollar index Chinese 10-year sovereign bond yield 12

13 Chinese policy officials have only recently began easing!!?? Chinese one year benchmark lending rate Annual Chinese M2 money supply growth Chinese U.S. exchange rate Price of one U.S. dollar per yuan Shanghai Stock Exchange Composite Index Natural Log 13

14 Eurozone showing signs of life!?! Euro area real gross domestic product annual growth Euro area real household consumption expenditure annual growth European business and consumer surveys Eurozone economic sentiment and Eurozone retail trade confidence Eurozone foreign trade balance Trailing 12-month average trade balance Solid(left Scale) Eurozone economic sentiment Dotted(right scale) Eurozone retail trade confidence 14

15 Eurozone following U.S. economy?!? Unemployment rates Eurozone vs. U.S. Solid Eurozone unemployment rate Dotted U.S. unemployment rate 15

16 U.S. Ex-Mfg is stronger than perceived!!! U.S. ISM services sector company survey Three-month moving average U.S. annual non farm payroll employment growth Total annualized U.S. auto sales Total annual U.S. housing starts 16

17 A global economic pop??? U.S. Citigroup Economic Surprise Index Canada Citigroup Economic Surprise Index Japan Citigroup Economic Surprise Index Eurozone Citigroup Economic Surprise Index 17

18 A global economic pop??? Emerging Market Citigroup Economic Surprise Index China Citigroup Economic Surprise Index 18

19 Commodity price collapse is stimulative!!? S&P GSCI Spot Commodity Price Index Annual core consumer price inflation rate U.S. 10-year Treasury bond yield 19

20 $65.00 crude oil within a year??! Crude oil price *Dark circles represents crude oil price one-year after each major bottom since

21 When will commodity prices bottom? U.S. commodity prices vs. U.S. Dollar Index Solid Line (left scale) S&P GCSI Spot Commodity Price Index, natural log scale Dotted Line (right scale) U.S. Real Broad Trade-Weighted Dollar Index, inverted natural log scale 21

22 Higher interest rates = a lower dollar!!? U.S. Dollar Index vs. Fed funds rate Solid Trade weighted U.S. Dollar Index Dotted Fed funds target interest rate 22

23 Is U.S. dollar peaking??!? U.S. Major World Currency Index (DXY Index) JP Morgan Emerging Market Currency Index 23

24 A bull, a bear, or a bunny? S&P 500 Composite Stock Price Index Natural log scale with recessions in grey 24

25 Good news becoming bad news for stock market? U.S. initial jobless claims Four-week moving average S&P 500 Composite Stock Price Index Shown on a natural log scale 25

26 Wall Street crossroad Slack to tightness?? Full employment Economic power switches to labor owner Cost push pressures/wages & price pressures/margin erosion Forced to realign interest rates Unfriendly policy officials Capital spending leads Reliance on productivity 26

27 Wage pressures finally rising!?! U.S. wage inflation 3-month average of annual inflation rate in average hourly earnings NFIB Small Business Compensation Plans Index 3-month moving average 27

28 Core Inflation a change in tone??? Eurozone annual core consumer price inflation rate Japan annual core consumer price inflation rate U.S. annual core consumer price inflation rate U.S. annual core PCE deflator inflation rate* *Assuming the PCE core deflator rose in January (reported later this month) by the same amount as the Core CPI Index rose as reported this morning (i.e., by 0.3%). U.S. Annual core services inflation rate 28

29 Crossing the threshold of full employment?!? When unemployment rate reaches 5% or less Stock returns are about 45% lower and bond returns are about 70% lower Stock falls 20% more frequently and bond yields rise about 60% of the time Bonds provide less diversification benefits On average, a recession is only 1.77 years away versus 4.18 years when unemployment rate is above 5% 29

30 Repricing bond yields post Armageddon fears!!! Real 10-year Treasury bond yield* *10-year bond yield less core consumer price inflation rate 30

31 Buy some JUNK??? U.S. Junk Bond Yield Spread* *Chase High Yield Bond Spread 31

32 Buy some TIPS??? U.S. 10-year TIPS embedded expected inflation rate 32

33 Bond yields can move fast!?! 10-year Treasury bond yield 33

34 Does this make sense??? U.S. government bond yield 34

35 Stock market vulnerabilities?!? Investor sentiment too calm and complacent Valuation too high for crossroads Interest rate structure below equilibrium Losing the Fed friend Thinning participation/concentrated leadership Pumped-up by M&As, IPOs & Buybacks An aging EPS cycle 35

36 An aging U.S. EPS cycle S&P 500 trailing 12-month earnings per share 36

37 Record profit margins and cost-push pressures?!? U.S. corporate profit margin vs. U.S. labor income share Solid (left scale) U.S. corporate NIPA profits as a percent of nominal GDP. Dotted (right inverted scale) U.S. total labor compensation as a percent of nominal GDP. 37

38 Investor sentiment has been adjusted!!? Investor sentiment AAII Bull less Bear (4-week moving average) 38

39 Median P/E = 14.5 and seldom above 20 P/E!?! U.S. stock market trailing 12-month price-earnings ratio 39

40 Rule of 20!!?! P/E Multiple vs. Rule of 20 Solid S&P 500 P/E multiple on trailing 12-month earnings per share Dotted 20 less the annual rate of core consumer price inflation Natural log scales 40

41 A market catalyst??! Atlanta Fed GDPNow GDP Forecast* This concept provides an estimate of overall economic activity. It is an estimate of current quarterly GDP growth updated daily as information is released during the quarter. 41

42 How to play coming year? Invest to a year-end target of 2050 Maximize overweight to international stocks Overweight mid and small caps Add some real asset exposure Emphasize manufacturing, commodity, energy, technology and financials Raise proceeds on rallies from consumer discretionary, consumer staples, utilities, and health care 42

43 Overweight overseas!?! Under owned Better relative values Hospitable policy officials No negative full employment fallout Companies in younger part of earnings cycle 43

44 Stock market leadership shift??! Core consumer prices vs. core crude producer prices Natural log scale Solid: Core Consumer Price Index Dotted: Core Crude Producer Price Index (Crude non food materials less energy) 44

45 Go international and industrial!?! U.S. / ex-u.s. total return stock performance vs. CPI/PPI Ratio Consumer / industrial total return stock Performance vs. CPI/PPI Ratio Solid (left natural log scale): MSCI relative total stock market return: U.S. stock market vs. global ex-u.s. stock market in U.S. dollars Dotted (right natural log scale): Ratio of Core Consumer Price Index divided by Core PPI Index for crude non food materials less energy Solid (left natural log scale): Relative total return performance of consumer sectors vs. industrial sectors. Data from Kenneth French 12 sector U.S. universe. Consumer sectors include consumer non durables, consumer durables, telecom, utilities and shops (retail). Industrial sectors include manufacturing, energy and chemicals. Sectors are equal weighted. Dotted (right natural log scale): Ratio of Core Consumer Price Index divided by Core PPI Index for crude non food materials less energy 45

46 A cascade of change?!? Relative S&P 500 dividend Aristocrat stock performance and commodity prices Solid (left scale) Relative stock price performance. S&P 500 Dividend Aristocrat Index compared to S&P 500 Composite Index. Dotted (right scale) S&P GCSI Spot Commodity Price Index, natural log scale. Relative foreign stock performance and commodity prices Solid (left scale) MSCI World Ex. U.S. Stock Price Index relative to S&P 500 Index. Dotted (right scale, log) SPGS Commodity Price Index. Relative producer to consumer stock performance and commodity prices Solid (left scale) Performance of transports, materials, energy, and industrial sectors relative to consumer discretionary, consumer staples, and health care sectors. Dotted (right scale, log) SPGS Commodity Price Index Relative small cap to large cap stock performance and commodity prices Solid (left scale) Relative small cap (Russell 2000 Index) to large cap (S&P 500 Index) performance Dotted (right scale, log) SPGS Commodity Price Index. 46

47 U.S. productivity and the stock market? Detrended productivity vs. S&P 500 Stock Price Index Left scale Detrended U.S. productivity index (solid) Right scale S&P 500 Stock Price Index, natural log scale (dotted) 47

48 Investment themes BONDS? 10-year needs to reprice to between 4% to 5% Bullet now & barbell as Fed gets in game Stay below average duration Overweight lower quality (junk) Buy some TIPS 48

49 Investment themes STOCKS? Maintain secular overweight to stocks Manage 2016 to a 2050 S&P target Expect 5% to 7% buy and hold returns for balance of bull market Diversify away from U.S.A. To a different policy cycle Japan & eurozone To resource-based economics Canada & Australia To emerging world In U.S. market Long term emphasize, manufacturing, commodity, energy, technology, and financials Overweight small and mid caps Underweight consumer discretionary, consumer staples, utilities, and health care 49

50 Questions? 50

51 Disclosures Wells Fargo Asset Management (WFAM) is a trade name used by the asset management businesses of Wells Fargo & Company. WFAM includes Affiliated Managers (Galliard Capital Management, Inc.; Golden Capital Management, LLC; Nelson Capital Management; Peregrine Capital Management; and The Rock Creek Group); Wells Capital Management, Inc. (Metropolitan West Capital Management, LLC; First International Advisors, LLC; and ECM Asset Management Ltd.); Wells Fargo Funds Distributor, LLC; Wells Fargo Asset Management Luxembourg S.A.; and Wells Fargo Funds Management, LLC. Wells Capital Management (WellsCap) is a registered investment adviser and a wholly owned subsidiary of Wells Fargo Bank, N.A. WellsCap provides investment management services for a variety of institutions. The views expressed are those of the author at the time of writing and are subject to change. This material has been distributed for educational/informational purposes only, and should not be considered as investment advice or a recommendation for any particular security, strategy or investment product. The material is based upon information we consider reliable, but its accuracy and completeness cannot be guaranteed. Past performance is not a guarantee of future returns. As with any investment vehicle, there is a potential for profit as well as the possibility of loss. For additional information on Wells Capital Management and its advisory services, please view our web site at or refer to our Form ADV Part II, which is available upon request by calling