With a robust recovery in the US, signs of a recovery in continental economies and ongoing growth in Japan, one might expect synchronised global growth in the second half of 1997, a shift to more neutral monetary policies worldwide and rising bond yields.
Robeco’s Investment Policy Committee (IPC) still believes, however, that the US economy will lose momentum this year, while European economies, and possibly Japan, will further improve. As there are still substantial output gaps in a number of countries, inflationary pressures on a global level are not expected very soon.
After the recent correction, stocks have become slightly less expensive in absolute terms. However, in relative terms, stocks remain expensive as interest rates have gone up. In the asset mix real estate is overweighted, bonds neutrally weighted and equities underweighted.
Despite the recent correction in bond markets, the IPC prefers to keep Robeco’s bond portfolios slightly above benchmark duration level as we think that the background for bond markets is still constructive in the longer run. The absence of global inflationary pressures is important in this respect. In a large number of markets, bonds offer value as yield curves are quite steep. Anglo-Saxon markets are overweighted as a whole, which is consistent with the view that the economies in most of these countries are likely to decelerate during the remainder of the year. Europe and Japan have a duration-neutral position in the model portfolio.
The recent stock market corrections have resulted in less overvalued conditions in a number of markets. The market reaction to the rise of the Fed Funds rate was consistent with Robeco’s view that the rally in the stock markets, at least in North America and Europe, had reached the stage at which prices are driven more by liquidity than by economic fundamentals. Still, we would not be surprised to see a rebound in stock markets in the short run, certainly if bond markets should stabilise.
In North America corporate earnings are a cause of concern. While analysts predict a double-digit rise in earnings in 1997-98, strategists are more conservative. Our expectations are in line with these strategists and earnings could therefore disappoint in the coming quarters. Absolute and relative valuations and technical analysis are on balance neutral.
In Europe we have slightly changed the composition of the portfolio. After the stellar performance of most European stock markets, valuations have become stretched. In our stock selection process, we adopt a strategy to overweight the more defensive sectors such as energy, food and beverages, telecoms and retail. These sectors with stable earnings growth are expected to outperform in a more uncertain stock environment. We also overweight the late-cyclical capital goods sector.
The outlook for Japanese stocks remains uncertain. Although valuations have become relatively more attractive and a weaker Japanese yen is a supportive factor, we do not want to take a large bet in favour of or against the Japanese market. Poor sentiment, lack of confidence and an unfavourable demand/supply situation remain. Economic developments in the second quarter will be crucial.