Manish Singh, head of Investment Services at Crossbridge Capital, gives his view on how markets could react depending on the US presidential election outcome.
Despite the macro risks, equities have done well and the rally has come to be known ‘the most hated rally”. The S&P 500 index is up +12.6% YTD and the Emerging Markets Index up +8.26%. Regular readers will recall, that apart from a period of caution in late summer, we have been positive Equities for the whole year and have recommended a long position in US Equities and, more recently, European and Emerging Market (EM) equities too. I continue to hold this view for the rest of the year.
The reason for the rally is simple – liquidity trumps. Central banks have provided the liquidity all year and reduced the incidence of “tail risk”. As US housing data continues to improve, it will be another boost to US consumption and in turn to equities and other risk assets.
The recent decline of -4% that we have seen in the S&P 500 came when the vast majority of economic data – US manufacturing, US auto sales, US jobs report, US Retail sales and US Housing were all better than expected. Last week’s FOMC meeting in the US delivered further reassurance (if anyone needed it) that policy will remain accommodative until the economic recovery is well established.
Fiscal policy uncertainty is likely to keep things volatile but I have little doubt that the “fiscal cliff” will be averted regardless of who is in the White House come January 2013. A mix of tax increases and spending cuts, will follow as compromises are made and the gridlock broken.
The sectors I prefer to be long – Technology (XLK), financials (XLF), Industrial (XLI), Energy (XLE) and Consumer Discretionary (XLY).
To play the US housing recovery, I prefer XHB as an ETF and in single stocks Lennar Corp (LEN UN, Home Builders), Pultegroup (PHM UN, Homebuilders), Emerson Electric (EMR UN, Electrical component & equipment), Owens Corning (OC UN, Building Material) and Stanley Black & Decker (SWK UN, Hand/Machine Tools).
While the US has seen disappointment on revenue front, in the case of Europe and the DJStoxx600, both EPS and revenues are so far posting positive surprises, making a further case for a higher allocation to European equities in the portfolio. I would largely have the same cyclical sector biases in Europe- Industrial (Vinci), Energy (Total), Consumer Staple (Danone, Nestle), and Consumer Discretionary (BMW). European financials (not the sector as a whole but specific stocks) are looking attractive as their business models go through a change to reflect their core strengths. UBS is my favourite financial stock in Europe. I am not convinced by UK banks yet, and would stay away from RBS and Lloyds.
The EM case will get even better post the leadership change in China. The fears of a hard landing in China have proven unfounded and economic indicators suggest China’s economic plans are on track and the “stimulus” powder is still dry, if it needs using at all. The economic slowdown is bottoming out and strong labour market conditions prevail. China’s PMI reading, though still in the contraction zone, rose to 49.1 from 47.9. China GDP growth for Q3 2012 was a healthy +7.4% year-on-year. A leadership change next week will end the uncertainty for the next ten years; and will lead to new actions and perhaps stimulus too.
For EM equities exposure, I would recommend the MSCI Asia Pacific x Japan Index, either thought an ETF, or a call spread on the Index.