A new trading year began a few weeks ago. Already, it bears little resemblance to the carnage of 2022.
After faltering for most of the past year, growth stocks have soared. Tesla Inc. TSLA 11.00% and Nvidia Corp. NVDA 2.84%, for example, is up more than 30%. The outlook for bonds brightens after a historic defeat. Even Bitcoin has rallied, despite the lingering impact of crypto exchange FTX’s collapse.
The recovery was fueled by renewed optimism about the global economic outlook. Investors have welcomed signs that inflation has peaked in the US and abroad. Many are hoping that the US Federal Reserve will slow its pace of rate hikes again next week. China’s lifting of Covid-19 restrictions has pleasantly surprised many traders, who have hailed the move as a sign that more growth is on the way.
Nevertheless, there are great risks. Many investors are not convinced that the recovery is sustainable. Some are concerned about stretched stock valuations or whether corporate earnings will suffer even more in the future. Others worry that markets are not fully pricing in the possibility of a recession or what might happen if the Fed fights inflation longer than currently expected.
We asked five investors to share with us how they are positioning themselves for this uncertainty and where they think markets may be headed next. Here’s what they said:
“animal spirits” could return
Cliff Asness, founder of AQR Capital Management, admits that he didn’t anticipate the rush into speculative stocks and digital currencies that has swept markets in 2023.
Bitcoin prices are up around 40%. Some of the stocks most bet against on Wall Street are sitting on double-digit gains. Carvana Co. CVNA 19.54% is up nearly 64%, while MicroStrategy Inc. MSTR 5.32% is up more than 80%. Cathie Wood’s ARK Innovation ETF ARKK 5.54% is up about 29%.
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If the past few years have taught Mr. Asness anything, it is to be prepared for such attempts to take much longer than expected. His lesson from the euphoria about risky trades in 2020 and 2021? Don’t count the chances of the frenzy returning, he said.
“It could be that there are still these crazy animal spirits out there,” said Mr. Asness.
However, he said that hasn’t changed his belief that cheaper stocks in the market, known as value stocks, will inevitably continue to outperform their peers. More expensive segments of the market could see brief bursts of outperformance, as seen in January. But over the long term, he’s sticking to his bet that value stocks will beat growth stocks. He expects a volatile but profitable range to trade.
“I love value trading,” said Mr. Asness. “We sing about it for our customers.”
– Gunjan Banerji
Keep your eye on dollar moves
For Richard Benson, co-chief investment officer of Millennium Global Investments Ltd., no single trade over the past year has been more significant than the US dollar’s soaring rise.
Once a relatively quiet area of the markets after the 2008 financial crisis, currencies on Wall Street and Main Street have found renewed focus. Last year, the dollar’s inexorable rise weighed on multinationals’ profits, exacerbated inflation for countries importing American goods, and repeatedly surprised some traders who believed the greenback might not rise anytime soon.
The factors that drove the dollar’s rise are now contributing to its fall. Easing inflation and expectations of slower Fed rate hikes have pushed the dollar down 1.7% this year, as measured by the WSJ Dollar Index.
Mr. Benson is betting that more pain is in store for the dollar and sees the greenback weakening between 3% and 5% over the next three to six months.
“When the world’s largest central bank is on the road, look at everything through its lens and don’t get distracted,” said Mr. Benson, the London-based monetary fund manager, referring to the Fed.
This year, Mr. Benson expects the fall in the dollar to have a similar impact on global economies and markets far and wide.
“I don’t see a lot of people complaining about a weaker dollar over the next few months,” he said. “If the dollar falls, this economic situation should also mean that tech stocks should do reasonably well.”
Mr Benson said he expected the dollar’s fall to brighten the outlook for some emerging market assets and said he was banking on China’s offshore yuan as the country’s economy picks up again. He sees the euro strengthening against the dollar if the eurozone economy continues to perform better than expected.
– Caitlin McCabe
Stocks still appear overvalued
Even after the S&P 500 fell 15% from its record high in January 2022, U.S. stocks still look expensive, said Rupal Bhansali, chief investment officer at Ariel Investments, which has $6.7 billion in assets under management .
Of course, the market doesn’t appear as bubbly as it did in 2020 and 2021, but expect a steeper price correction.
According to FactSet, the broad stock market recently traded at 17.9 times its forward 12-month earnings. That’s below the high of around 24 hits in late 2020 but above the historical average over the past 20 years of 15.7, FactSet data shows.
“The old habit was to buy the dip,” Ms. Bhansali said. “The new habit should be selling the rip.”
One reason Ms Bhansali said the sell-off might not be over yet? The market still underestimates the Fed.
Investors have repeatedly misjudged how fast the Fed would move in 2022 and erroneously expected the central bank to ease its rate hikes. They were caught off guard by Fed Chair Jerome Powell’s aggressive messages on interest rates. It sparked sharp sell-offs in stock markets and led to the most turbulent year since the 2008 financial crisis. Now investors are making the same mistake again, Ms Bhansali said.
Current stock valuations do not reflect the big shift in central bank policy, which they say must be more aggressive than many are expecting. Although broader measures of inflation have declined, some segments, such as services inflation, have proved more resilient. Ms. Bhansali positions herself in areas like healthcare, which she believes would be better protected from a recession than the rest of the market, to outperform.
“The Fed is determined to win the war as it lost the battle,” Ms Bhansali said.
– Gunjan Banerji
Seen a better year for bonds
Gone are the days when falling bond yields left investors with few alternatives to stocks. Bonds are finally back, according to Niall O’Sullivan of Neuberger Berman, an investment manager with about $427 billion in client assets under management at the end of 2022.
After a turbulent year 2022 for the bond market, bonds started the new year with more promise. The Bloomberg US Aggregate Bond Index — which consists mostly of US Treasuries, highly-rated corporate bonds and mortgage-backed securities — was up 3% on a total return basis this year through Thursday’s close. According to Dow Jones Market Data, this is the index’s best start in a year since its inception in 1989.
Mr. O’Sullivan, chief investment officer for multi-asset strategies for Europe, Middle East and Africa at Neuberger Berman, said the biggest one-on-one conversation he currently has with clients is how to manage fixed income exposure could increase.
“Strategically, the facts have changed. If you look at fixed income as an asset class … they now offer all the yields and, perhaps more importantly, actual cash coupons at a significant level,” he said. “It’s a very different world than the one we’ve been in for a long time.”
Mr. O’Sullivan said it was important to reconsider the advantage equities have over bonds today given the risks he believes are looming for the stock market. He predicts that inflation will be more difficult to control than investors currently expect and that the Fed will keep its top interest rate stable for longer than currently expected. Of even more concern, he said, it will be harder for companies to pass price increases on to consumers, meaning profits could be hit more in the future.
“That’s why we’re cautious on the stock side,” he said.
Among the products Mr. O’Sullivan favors in the fixed income space are higher quality, shorter dated bonds. Still, he added, finding portfolio diversity outside of bonds is important for investors this year. On the other hand, he sees commodities as attractive, especially metals like copper, which could continue to benefit from China’s reopening.
– Caitlin McCabe
Find the fear and find the value
Ramona Persaud, portfolio manager at Fidelity Investments, said she can still spot bargains in an expensive market by looking in less optimistic places. Find the fear and find the value, she said.
“If the fear really ramps up, you can buy some very well run companies,” she said.
Take Taiwan’s semiconductor companies. Concerns over global trade and tensions with China have weighed on shares in island-based chipmakers. But those fears have caused many investors to overlook the competitive advantages these companies have over peers, she said.
“It’s a good setup,” said Ms. Persaud, who considers herself a conservative value investor and has more than $20 billion under management across multiple U.S. and Canadian funds.
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The S&P 500 is trading above fair value, she said, which means “there just aren’t any widespread opportunities,” and investors may be underestimating some of the risks that await.
“That tells me the market is optimistic,” Ms Persaud said. “That would be fine if the risks weren’t exogenous.”
These challenges, whether they be rising interest rates and Fed policy or Russia’s war in Ukraine and concerns about energy security in Europe, are complex and in many cases interrelated.
It’s not all bad news, she said. China ended its zero Covid restrictions. A milder winter in Europe has mitigated the impact of the war in Ukraine on energy prices, helping the continent avoid recession and inflation is slowing.
“These are reasons why the market is so happy,” she said.
– Justin Baer
Write to Caitlin McCabe at [email protected], Gunjan Banerji at [email protected] and Justin Baer at [email protected]
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