We moved to a neutral view on U.S. equities, believing that gains may be harder to come by, and believe non-U.S. developed market equities appear more attractive, particularly in Europe.
U.S. Large Cap Equities
The fourth quarter market rebound sent U.S. large cap equities back to levels that we feel are fully valued, prompting us to shift our view to neutral.We believe that U.S. large company stocks could again produce positive returns in 2016, and anticipate improved internal market dynamics such as breadth and less disparity between style (growth/value). Profit margins are unlikely to collapse, but may be difficult to maintain due to changing tax structures, rising wages, interest rates and energy costs-all of which have been generally favorable to corporations in recent years. Recent corporate earnings have been in line with expectations, and we anticipate modest mid-single digit growth in 2016, coupled with muted multiple expansion.
U.S. Large Cap Equities: Narrow Market Breadth Presents Challenges
Source: Factset. Data as of November 30, 2015.
U.S. Small Cap Equities
In line with U.S. large cap equities, we have moderated our view for small caps and are mindful of valuations, which appear more extended in the small and mid-cap segments. Still, tailwinds remain in the form of exposure to a strengthening U.S. economy and robust mergers and acquisitions activity, and we continue see the potential for gains in the year ahead.
Master Limited Partnerships
MLPs continued to experience volatility in the fourth quarter, but recouped some losses to finish the quarter down 2.8% for the Alerian MLP Index. Factors contributing to the renewed pullback included ongoing commodity price declines in the oil and natural gas segments; increased tax-loss selling approaching year-end; volatility related to the Fed's interest rate decision; and concerns about MLPs' access to capital markets. Still, fundamentals of many well-run MLPs remain intact, and attractive valuations underscore the long-term return potential for MLPs. While we believe the choppy trading environment will continue in the near term, we are maintaining our slight overweight to the segment.
Developed Market Non-U.S. Equities
Europe: The ECB's announcement of additional stimulus at its December meeting included a deposit rate cut further into negative territory and a six-month extension of their asset purchase program. The ECB also broadened the scope of asset purchases to include local government bonds. Overall, the announced measures slightly disappointed based on market expectations, which were also looking for an expanded pace (up from current €60 billion per month).
Although we are surprised Draghi did not fully live up to the expectations he largely set, it is important to note that the ECB's quantitative easing is becoming more open-ended, similar to what we have seen from the Fed, BOJ and Bank of England. As such, we believe further easing in the coming quarters is likely. Additional stimulus, along with resilient economic data in the eurozone, should lend support to the equity markets in 2016.
Japan: Our neutral view of Japanese equities remains intact. The country's economy is experiencing a soft patch after registering a second consecutive quarter of negative growth. Japanese equities offered investors an unpredictable ride in 2015; while valuations are reasonable and earnings growth is robust, we would be encouraged to see a more meaningful pick-up in wage growth, increased redistribution of corporate profits and further progress on the third arrow of Abenomics.
Developed Market Non-U.S. Equities: U.S. Dollar Strength Has Been A Key Headwind
Source: Factset.
Emerging Markets Equities
Overall, we continue to hold a neutral outlook for emerging markets equities. Many of the risks we discussed in recent quarters-China's slower economic trajectory, commodity weakness and subdued corporate profitability-remain in play in early 2016. We hold a specific underweight bias toward commodity-exporting countries given the difficulty in predicting prices amid a demand slowdown that is exacerbated by a slow supply response.
Brazil: We regard Brazilian equities with some pessimism, seeing elevated near-term risks that are likely to continue as long as oil prices remain under pressure, the economy is mired in recession and political scandals dominate headlines.
Russia: We are retaining a cautious, underweight view of Russian equities for the time being based on the potential for ongoing geopolitical risk and further oil price declines.
India: India's ability to deliver on Prime Minister Modi's reform agenda will be a key component of promoting structural growth in the country. Despite current uncertainty, we hold a favorable view of the country's equities due to the domestically driven infrastructure and consumer investment opportunities available.
China: Risk remains but has diminished somewhat, largely due to regular announcements of stimulus measures, including the People's Bank of China's late October decision to cut 1-year rates by 25 basis points and its reserve requirement ratio by 50 basis points. This represents the sixth cut to benchmark rates in the last year and provides fodder for both China bears and bulls. While the bearish camp argues that the litany of interest rate cuts underscores the true and anemic state of growth in China, the bullish camp believes PBOC stimulus measures should support a pick-up in growth. Although we are skeptical of China's published growth rate (6.9% in the third quarter), we are more constructive on the country's economic prospects, particularly given that there is ample room to ease further. We will continue to monitor data releases out of China, but we believe their policymakers have sufficient resources and a strong track record of acting to stabilize growth.
About the Asset Allocation Committee
Neuberger Berman's Asset Allocation Committee meets every quarter to poll its members on their outlook for the next 12 months on each of the asset classes noted. The panel covers the gamut of investments and markets, bringing together diverse industry knowledge, with an average of 24 years of experience.
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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
