Inflation Comes Skulking Back

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Like the proverbial frog that does not notice the rise in water temperature until it’s too late, investors seem to be experiencing a similarly stealthy rise in inflation. Changes in headline inflation measures suggest a gentle firming in prices. However, underneath the surface there is evidence that inflation may continue to rise past the steady 2% nirvana that central banks prefer. Consider the following:

Housing costs are now rising at the fastest pace in nearly a decade.

Housing is a major component of core inflation, i.e. inflation without volatile food and energy prices. The main housing component in the Consumer Price Index (CPI) is Owners’ Equivalents Rent (OER). As overall housing costs make up over 40% of core inflation, this is a key metric to watch. Last December OER rose over 3.5% from the previous year, the quickest pace in nearly 10 years (see the accompanying chart).

Owners' Equivalent Rent

Medical inflation is not as contained as many had hoped.

A few years back it seemed that medical costs were finally under control. That conclusion now appears premature. CPI for medical care has been rising at roughly 4% year-over-year for the past six months. With the exception of a brief period in 2012, medical costs have not been rising at this rate since early 2008.

Wages are rising.

One of the defining aspects of this recovery has been persistently sluggish wage growth, even in the face of a strong labor market. That is slowly changing. While still muted by historical standards, average hourly earnings are rising by 2.9% year-over-year, the fastest pace since the spring of 2009. A potential bolster to the trend: 20 states raised their minimum wage rates as of the first of the year.

Consumer inflation expectations are also starting to tick higher.

Up until recently consumer expectations for inflation remained muted. This was arguably a function of plunging oil and gasoline prices, which seem to exert an oversized importance in consumer perceptions of inflation. With oil and gasoline more stable, expectations are changing. The University of Michigan’s one-year inflation expectation survey is now at 2.6%, up 0.4% from the previous month.

None of this signals ’70s style inflation; it does suggest inflation may surpass still modest market based expectations. While 10-year inflation expectations, measured by the Treasury Inflation Protected Securities (TIPS) market, recently rose to 2.05%, they remain well below the 2.6% level reached in early 2013, a time when core inflation was roughly 50 basis points lower than it is today.

To the extent realized inflation and inflation expectations continue to rise, investors may want to consider several themes in their portfolios: a preference for TIPS over nominal Treasuries, an overweight to financial stocks, typically beneficiaries of higher interest rates, and an underweight to bond market proxies, such as utilities and consumer staples. Finally, should inflation expectations rise faster than nominal rates, gold is likely to continue to merit a place in most portfolios.

Russ Koesterich, CFA, is Portfolio Manager for BlackRock’s Global Allocation team and is a regular contributor to The Blog.

 

Investing involves risks, including possible loss of principal. Past performance is no guarantee of future results.

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of January 2017 and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this post is at the sole discretion of the reader. Past performance is no guarantee of future results.

BlackRock makes no representations or warranties regarding the advisability of investing in any product or service offered by CircleBlack. BlackRock has no obligation or liability in connection with the operation, marketing, trading or sale of any product or service offered by CircleBlack.

©2017 BlackRock, Inc. All rights reserved. BLACKROCK is a registered trademark of BlackRock, Inc., or its subsidiaries in the United States and elsewhere. All other marks are the property of their respective owners.

5 Questions to Ask Your Advisor About ETFs

Have A Break...

Exchange traded funds (ETFs) have joined mutual funds and individual stocks as mainstream investment tools, and their popularity is only growing. The past year saw record flows into stock and bond ETFs. Today, one in four U.S. investors owns ETFs, according to BlackRock’s ETF Pulse survey; half of all investors plan to purchase them in the next 12 months.

Whether you’re already an ETF investor or have just been hearing about them, you may be curious to know more or understand them better. This is a great conversation to have with your financial advisor.

Here are five questions (and brief answers) to help you get started.

1. What’s the difference between an ETF and a mutual fund?

ETFs and mutual funds have a lot in common: They’re both diversified, managed bundles of securities that are divided into shares, and bought and sold by investors. ETFs are traded on an exchange just like a stock and usually track an index; however, they’re also structured somewhat differently. These features mean they’re typically cheaper to own than mutual funds, through lower annual management fees and potential tax efficiency. For more information on the differences between ETFs and mutual funds, click here.

2. How do I use ETFs?

A key feature of ETFs is their versatility. Our Pulse survey found that the top ways investors use them are to increase diversification (53%), and gain exposures to broad market indexes (43%) and specific sectors (36%). What’s more, because there’s an ETF for almost any market sliver you can think of, many investors also look to ETFs as replacements for individual stocks (42%) and mutual funds (44%).

3. How might ETFs fit into an overall portfolio?

Think of ETFs as yet another powerful investment tool at your disposal, alongside mutual funds and other vehicles. As just one example, ETFs could be a cost effective way to build a diversified core portfolio, combined with actively managed mutual funds that target specific outcomes or manager skills. It’s ultimately about what you hope to achieve as an investor and getting the best value for your money.

4. Aren’t these risky?

Investors often use ETFs to mitigate risks in their portfolios through diversification. However, like mutual funds, they carry similar market risks to their underlying securities so they’ll be subject to forces such as interest rate changes, geopolitics and industry trends. So when you’re thinking about risk, it’s important not to shoot the messenger. It’s also important to know that ETFs aren’t exotic instruments: They operate within a well-functioning, well-tested infrastructure with a lot of oversight.

5. Are ETFs trading vehicles or buy-and-hold investments?

The answer is yes. You can easily trade them in your brokerage account (and they’re sometimes available commission-free) just as you would a stock, making it easy to express a short-term market conviction. However, there might be an even stronger case for ETFs long term, namely in the cost savings, which can really compound over time. Investor behavior bears that out. According to our survey, the average holding period for ETFs is about five years; and more than a third of ETF owners have held their investments for six years or longer.

Of course, the “right” way to build a portfolio depends on your particular goals. As more and more people turn to ETFs for a variety of uses, the best way to find out how they could work for you is to ask.

Hollie Fagan is the Head of BlackRock’s Registered Investment Advisor business and a regular contributor to The Blog.

About the survey

The BlackRock 2016 U.S. ETF Pulse survey was conducted from September 12–26, 2016, by TNS, an independent research company. The survey interviewed over 1,000 individual investors and 400 financial advisors, from nationally representative online samples of household financial savings/investment decision makers age 21–75, with $100K+ in investable assets and aware of ETFs; and financial advisors age 21–75 with $25MM+ in assets under management.

 

Carefully consider the Funds’ investment objectives, risk factors, and charges and expenses before investing. This and other information can be found in the Funds’ prospectuses or, if available, the summary prospectuses which may be obtained by visiting www.iShares.com or www.blackrock.com. Read the prospectus carefully before investing.

Investing involves risk, including possible loss of principal.

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of the date indicated and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any of these views will come to pass. Reliance upon information in this post is at the sole discretion of the reader.

The strategies discussed are strictly for illustrative and educational purposes and are not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. There is no guarantee that any strategies discussed will be effective.

Investment comparisons are for illustrative purposes only. To better understand the similarities and differences between investments, including investment objectives, risks, fees and expenses, it is important to read the products’ prospectuses. When comparing stocks or bonds and iShares Funds, it should be remembered that management fees associated with fund investments, like iShares Funds, are not borne by investors in individual stocks or bonds.

Transactions in shares of ETFs will result in brokerage commissions and will generate tax consequences. All regulated investment companies are obliged to distribute portfolio gains to shareholders. There can be no assurance that an active trading market for shares of an ETF will develop or be maintained. Diversification and asset allocation may not protect against market risk or loss of principal.

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BlackRock makes no representations or warranties regarding the advisability of investing in any product or service offered by CircleBlack. BlackRock has no obligation or liability in connection with the operation, marketing, trading or sale of any product or service offered by CircleBlack.

©2017 BlackRock, Inc. All rights reserved. iSHARES and BLACKROCK are registered trademarks of BlackRock, Inc., or its subsidiaries in the United States and elsewhere. All other marks are the property of their respective owners.

Why Reflation Has Room to Run

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The recent jump in global bond yields represents a reflationary reawakening just a year after deflation and recession fears were dominant. Is this another false dawn? We don’t think so. This is an important psychological shift for investors previously obsessing over downside risks to growth and inflation, typified then by the talk of “secular stagnation” and “liquidity traps.”

The latest trend started in July when bond yields bottomed at record lows. Signs of a global growth pickup stoked the more confident mood, as did Donald Trump’s surprise U.S. presidential victory. We believe this reflationary phase, which central banks have been trying to achieve with years of ultra-easy monetary policy, has further to run.

Wage growth, long missing in the post-crisis expansion, is a crucial part of the reflationary dynamic, as we write in our new Global Macro Outlook Waking up to reflation. U.S. wage gains are feeding higher inflation and solid consumer spending, supporting profits in the face of rising labor costs. We believe companies have scope to tolerate even higher wage inflation in a stronger growth environment, either by hiking product prices or through a modest decrease in profit margins. Our analysis shows that profits can improve even with rising wages—indeed, this is a hallmark of reflationary economic phases.

Labor vs Capital

Wages and profits can, and typically do, rise together during the reflationary phase of economic expansions. In the U.S., this was the case in the late 1980s, late 1990s and the mid-2000s. The key ingredient? Solid and rising aggregate demand.

The lack of stronger wage growth was a root cause behind fears of the U.S. economy’s fragility and the downside risks to inflation. Thus, it would be misleading to think that rising wages have a direct link with subsequent economic downturns. Economic cycles do not die of old age, as the Federal Reserve has repeatedly noted. In this case, we see no reason to believe that the seeds of reflation will sow the expansion’s demise just now. Most recessions can be explained by a sudden hit to aggregate demand, either due to some external, financial or policy-related shock.

This U.S. profit-wages dynamic has the potential to broaden and go more global. Any uptick in U.S. capital investment or productivity kick would give companies even more flexibility to lift wages. Elsewhere, this virtuous cycle is starting to take shape. In Europe, the slack created by the 2007-08 and 2011-12 crises is slowly being taken out. Labor market reforms have expanded the workforce in Japan, helping explain why wage growth remains limited even with the country’s unemployment rate at three-decade lows. A better synchronized global recovery would make this bout of reflation more powerful.

Global structural challenges do remain, particularly the record debt levels across the world. Combined with low growth and aging population, this is likely to hold down long-term bond yields in Europe and Japan. With financial markets much more tightly integrated globally, these external forces should limit how high U.S. yields can rise. And even in the U.S., where household debt levels have been reduced, leverage remains higher than at the start of previous tightening cycle. This implies any given increase in policy interest rates is likely to have a bigger economic impact than was the case pre-crisis.

There are risks to our outlook. U.S. President Donald Trump has raised hopes for looser fiscal stimulus, but the makeup of any changes is key. His approach to trade and foreign policy could present risks. Unexpectedly rapid U.S. dollar appreciation could cause emerging-market instability with global spillovers.

But we believe a moderate rise in the dollar is more likely, and the support for profit margins from better wages, spending and nominal growth reinforces our broadly positive view on risk assets and equities in particular. This has been far from a typical recovery: Healing the post-crisis economic wounds has meant U.S. businesses and consumers took longer to regain confidence and animal spirits. These now seem to be revving up.

The revival of animal spirits may start to drive more investors out the risk spectrum, reinforcing our expectation that there’s potential for a risk appetite recovery. Finally, modestly higher bond yields support our view that the rotation into value and momentum shares away from low-volatility equities likely isn’t over. Read more market insights in my full Global Macro Outlook.

Jean Boivin, PhD, is head of economic and markets research at the BlackRock Investment Institute. He is a regular contributor to The Blog.

 

Investing involves risks, including possible loss of principal.

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of January 2017 and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this post is at the sole discretion of the reader.

BlackRock makes no representations or warranties regarding the advisability of investing in any product or service offered by CircleBlack. BlackRock has no obligation or liability in connection with the operation, marketing, trading or sale of any product or service offered by CircleBlack.

©2017 BlackRock, Inc. All rights reserved. BLACKROCK is the registered trademark of BlackRock, Inc., or its subsidiaries in the United States and elsewhere. All other marks are the property of their respective owners.

3 Telltale Signs the Japan Rally May Not Be Over

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Last year, the markets were distinguished by a lack of persistence. In many respects, investor behavior in the second half of the year was the mirror image of the first six months. However, one element remained consistent, at least among U.S. investors: a preference for domestic over international equities.

With U.S. stocks having a strong start to 2017, many are likely to remain committed to a big home country bias. I think this is a mistake. As I discussed last fall, relative performance is starting to shift. Since last summer’s lows, Japanese equites are up roughly 25% in local currency terms. Europe is up over 20% (gains are lower in dollar terms). Going forward, I still believe that Japanese stocks in particular merit a larger allocation.

Japan still the cheapest developed market

While Japanese stocks bottomed in 2012, Japan remains reasonably priced in contrast to the U.S., just about every other developed market and even many of the emerging markets in Asia (see the accompanying chart). Other markets, notably the United States, have seen prices driven primarily by multiple expansion, i.e. paying more for a dollar of earnings, though Japan has benefited from rising earnings.

BlackRock Valuation Chart

Supportive monetary policy and rising inflation

Headline inflation (measured by the Consumer Price Index) in Japan is rising at the fastest pace since early 2015. Not only is this good news for a country long mired in deflation, it is particularly important in the context of the Bank of Japan’s commitment to keeping interest rates close to zero. To the extent inflation continues to rise, real interest rates (the interest rate after inflation) move deeper into negative territory, suggesting ultra-accommodative monetary conditions and a weaker yen. The latter is key for an economy geared toward global trade.

An improving corporate sector

Historically, one of the many challenges facing Japan was a relatively unprofitable corporate sector. That is in the process of changing. Improving corporate governance coupled with Japan’s own buyback trend has pushed the notoriously low return-on-equity (ROE) up to around 7%. While still low by U.S. standards—partly a reflection of a multi-decade deleveraging by Japanese corporations—this is well above the 20-year average of 4%.

For U.S. investors, it is instructive to compare the bull market gains in the United States to those in Japan. Here in the U.S., the price-to-earnings (P/E) ratio on the S&P 500 Index has risen by roughly 75% since market bottomed in 2009. In contrast, since bottoming in 2012 Japanese equity valuations are relatively flat. As a result, Japan remains a value play in an increasingly expensive world.

To be sure, there are risks. First and foremost, a thriving Japanese stock market is most likely predicated on a weaker yen. This suggests that dollar-based investors will want to at least partially hedge their foreign currency exposure.

Still, investing outside the U.S. may not seem obvious in the midst of a still strong U.S. bull market; perhaps that is exactly the time when investors should seek more diversification.

Russ Koesterich, CFA, is Portfolio Manager for BlackRock’s Global Allocation team and is a regular contributor to The Blog.

 

Investing involves risks, including possible loss of principal. Past performance is no guarantee of future results. International investing involves risks, including risks related to foreign currency, limited liquidity, less government regulation and the possibility of substantial volatility due to adverse political, economic or other developments. These risks often are heightened for investments in emerging/developing markets or in concentrations of single countries.

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of January 2017 and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this post is at the sole discretion of the reader. Past performance is no guarantee of future results.

BlackRock makes no representations or warranties regarding the advisability of investing in any product or service offered by CircleBlack. BlackRock has no obligation or liability in connection with the operation, marketing, trading or sale of any product or service offered by CircleBlack.

©2017 BlackRock, Inc. All rights reserved. BLACKROCK is a registered trademark of BlackRock, Inc., or its subsidiaries in the United States and elsewhere. All other marks are the property of their respective owners.

5 Big Things to Know About the Bond Market in 2017

High Angle View Of Red Number 5 On Walkway

Welcome to 2017! It is time to take a look into the crystal ball and try to figure out what the bond market has in store for us this year. Here are the five big things you should keep in mind.

1. Interest rates will likely continue to go up, but don’t panic.

The Federal Reserve (Fed) raised interest rates this past December, and more increases are likely on the way. The futures markets currently predict two more Fed rate hikes this year (source: Bloomberg). Increased inflation and higher longer term interest rates are also expected at the same time. But remember, we live in a global world and interest rates remain low in most large developed bond markets including Japan, Germany and the UK. Higher U.S. interest rates will likely attract foreign investors, which would push U.S. bond prices up, and yields down. The net will be higher U.S. rates, but not exorbitantly higher than where they are today. The U.S. 10-year Treasury yield may approach 3%, but it shouldn’t be anywhere near 5%. And, although higher yields result in declining bond prices, they can lead to higher income in the longer term.

2. The uncertainty of uncertainty is on the rise.

Right now both the bond and stock markets are reflecting low levels of volatility. This is surprising given that there is a new administration about to take office. Markets appear to be pricing in a lot of anticipated positives from policies that have yet to materialize, but we all know politics can be messy. Even if things turn out as good as they promise, the ride along the way will probably be bumpy. Higher volatility is likely across financial markets, especially in the first and second quarters as new policies and their implementation come into focus.

3. Inflation is finally moving up.

Despite years of strong job growth, it has not translated into higher prices in the form of inflation. But this trend is beginning to change: As of 10 January, the expected 10-year inflation rate rose to 1.98% (source: Bloomberg data). This may not seem very high, but prior to this past November we hadn’t seen the 10-year rate above 2% since September 2014. Inflation has been boosted by the stabilization of energy prices, consecutive years of 2% (and above) real gross domestic product (GDP) growth and the continued rise of wage inflation. According to the last payroll report, average hourly earnings were up 2.9% year over year. Higher inflation will put additional pressure on bond yields, and could also push the Fed to raise rates more quickly.

4. Don’t forget about municipal bonds, despite the likely headlines.

Muni bonds had a tough time in the fourth quarter of 2016 as rising interest rates and expectations of lower income taxes discouraged some investors. Looking ahead, we may see rising yields along with a continued focus from the government on tax reform, and such a move could hurt the relative attractiveness of muni bonds. That said, the asset class remains a good source of income potential for taxable investors. 10-year AA muni bonds offer yields above those of U.S. Treasuries, even before accounting for their tax advantage (source: Bloomberg). The asset class will likely be subject to its share of market volatility this year, but for taxable, income seeking investors, don’t snub muni bonds.

5. 2017 will be about yield, not price return.

Given the low level of yields as we enter the year—and the expectation that they will rise—many fixed income asset classes are unlikely to deliver strong total returns. It’d be hard for any fixed income asset class to match the 2016 performance of the Markit iBoxx USD Liquid High Yield Index, which returned 15.31% (source: Bloomberg). Investors should think about bonds as a potential source of yield and income, but probably not as a strong source of total return.

So where does that leave us?

As always, I urge investors to think hard about what role they want bonds to play in their portfolio—be it to mitigate stock volatility, diversify a portfolio or offer steady income potential—and make sure that their investment matches that goal. We may be in for a bumpy ride, and it is time to make sure that everything is in order before takeoff.

Matt Tucker, CFA, is the iShares Head of Fixed Income Strategy and a regular contributor to The Blog.

 

Index returns are for illustrative purposes only. Index performance returns do not reflect any management fees, transaction costs or expenses. Indexes are unmanaged and one cannot invest directly in an index. Past performance does not guarantee future results.

Fixed income risks include interest-rate and credit risk. Typically, when interest rates rise, there is a corresponding decline in bond values. Credit risk refers to the possibility that the bond issuer will not be able to make principal and interest payments. Non-investment-grade debt securities (high-yield/junk bonds) may be subject to greater market fluctuations, risk of default or loss of income and principal than higher-rated securities. Diversification and asset allocation may not protect against market risk or loss of principal.

There may be less information on the financial condition of municipal issuers than for public corporations. The market for municipal bonds may be less liquid than for taxable bonds. Some investors may be subject to federal or state income taxes or the Alternative Minimum Tax (AMT). Capital gains distributions, if any, are taxable.

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of the date indicated and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any of these views will come to pass. Reliance upon information in this post is at the sole discretion of the reader.

BlackRock makes no representations or warranties regarding the advisability of investing in any product or service offered by CircleBlack. BlackRock has no obligation or liability in connection with the operation, marketing, trading or sale of any product or service offered by CircleBlack.

©2017 BlackRock, Inc. All rights reserved. iSHARES and BLACKROCK are registered trademarks of BlackRock, Inc., or its subsidiaries in the United States and elsewhere. All other marks are the property of their respective owners.

January 2017 Investment Commentary

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As we begin 2017, it is valuable to take a minute to sit back and reflect on the past year.  To say the least, it was quite a year.  In fact, some have termed it the year of the “unexpected” with Britain voting to leave the European Union, Donald Trump defeating Hillary Clinton in the Presidential election, and the Chicago Cubs winning the baseball World Series.  Yet, to define the year with such a single theme would not do justice to the wide spectrum of events, both positive and negative, that we have witnessed.  One only needs to think of Pope Francis’ world tour of mercy, exploding Samsung phones, the attempted military coup in Turkey, the impeachment of President Rousseff in Brazil, the spread of the Zika virus, the deaths of Fidel Castro and Mohammad Ali, and the announcement that Harriet Tubman’s image will replace that of Andrew Jackson on the $20 bill to appreciate where we have been.  Yet, even as we think about 2016, we look forward to what will come in 2017.

As the common dictum goes “the past is where you learn the lessons, but the future is where you apply the lessons.”  What lessons can we, as investors, take with us as we enter into the new year?  We see two major lessons: first, that we are often surprised by individual events and that some of these, such as the British vote to leave the European Union or the election of Donald Trump, can have significant short-term effect on markets; secondly, that macro trends are just that – macro and tend to influence markets over time despite short-term surprises.

We believe there are five macro topics from 2016 that can help investors track a successful path within an increasingly noisy world:

  • Interest Rates: The Federal Reserve, under the leadership of Janet Yellen, announced in December that the key interest rate would rise by 0.25%.  While this increase was modest, it is important because it marks the second time in over a decade that the Federal Reserve has been willing to make such a move, signaling growing confidence in the strength of the US economy.  If the Federal Reserve pursues subsequent interest rate increases, as they have indicated is their plan, then the financial sector, in particular, will benefit from the rise in interest rates as banks earn revenue on the spread between what they pay to depositors and what they are able to earn on loans.  Contrastingly, the real estate and utility sectors, which historically have high debt burdens and pay high dividends, will become less attractive as the interest payments on their debt grows and investors move their assets into other investments as the rate of interest they yield becomes more competitive with the dividend rates of these companies.
  • American Fiscal Policy: Although there is still some uncertainty around what the agenda of President Trump and the Republican-led congress will be, there are strong indications that there will, at a minimum, be a focus on deregulation and lower corporate taxation.  Deregulation will help the healthcare and financial industries which have been investing significant resources since the 2008 market crash in both fiscal and human capital to comply with an increasingly complex regulatory environment.  Tax deductions, meanwhile, will be beneficial to American corporations as a whole.  Currently, the US has one of the highest corporate tax rates in the world.  If there is a dark cloud to this story, however, it is that rising interest rates will increase what the federal government pays to borrow money, and lower taxes will likely result in less tax revenue in the short run.  The net result could be a ballooning federal
  • Inflation: Inflation in the US is now around 1.7% and is expected to continue rising to just above 2% in 2017. Historically, inflation occurs when the market is growing and companies begin to charge higher prices for the products they sell, or when there is an expansion in the amount of money being circulated in the market.  While we do believe the US economy is growing, we also think that inflation will rise, in large part because of the billions of dollars that the Federal Reserve pumped into the economy during the recovery.  Up until now that money has largely been on the sidelines but may be increasingly in circulation in 2017.  In general, we believe that higher inflation should encourage investors to allocate assets more heavily in equities, which rise with inflation, rather than bonds, which pay investors at a fixed rate.  Similarly, TIPS, or Tbe more attractive as investors, particularly those in need of consistent income levels, demand more safety.
  • China: The Chinese economy continues to slow from the average 10% annual GDP growth rates of the early 2000s. Since 2008, the Chinese government has tried to counter the decrease in exports and rising value of the currency by pumping debt-financed money into less efficient state-owned enterprises in an attempt to avoid an economic downturn and leading their country’s debt level to skyrocket to over 250% of the total annual GDP. Consequently, foreign investors and the Chinese elite have continued to move capital out of China.  For example, in 2015 over $670 billion dollars in investments flowed out of the country and this trend appears to have accelerated in 2016.  While we continue to believe that China is a good long-term investment, we believe that recent economic developments, combined with the likelihood that there will be an increasingly unstable US-China political relationship, warrant caution in the near term.  As a result, we would avoid industries, such as those connected to the commodities industry, which rely heavily on a thriving export-driven Chinese economy.
  • Europe: Britain’s decision this past summer to leave the European Union signals a new phase of uncertainty in the region unlike anything seen in the past two decades. While Britain will still be a dominant economy, we expect that the European Union will try to make the separation painful in an attempt to show other members that departure from the Union is not an option.  Unfortunately, however, the region has a significant number of other obstacles it must deal with, including an extremely fragile Italian banking system, an aging population, the rise of right-wing extremist political parties, terrorism and the rise of a more aggressive Russia to the East.  If on top of these challenges, should Germany’s chancellor Angela Merkel, who has been acting as a supreme leader in the region, lose her re-election in 2017, we can expect a period with a leadership vacuum.  While this does encourage some caution and makes the US market comparatively more attractive, we do see selective opportunities in some European blue-chip equities, ETFs, and mutual funds that are less expensive on a historical basis and provide yields of between 3% and 7% as a result of their discounted prices.

Final Thought

At Glen Eagle, we recognize that no one can accurately predict the future in detail, but we do believe that by understanding the past and analyzing the present, one can pave a path to successful investing.  We hope that the above five topics, although not fulsome of everything happening around us, is helpful to you as you think about investment opportunities in this new year.  If 2017 is anything like this past year, it should be quite a ride. We look forward to helping you navigate the ever-changing environment.

Wishing you a prosperous 2017.

Susan McGlory Michel

 

Disclosure: This commentary is furnished for the use of Glen Eagle Advisors, LLC, Glen Eagle Wealth, LLC and their clients. It does not constitute the provision of investment advice to any person. It is not prepared with respect to the specific objectives, financial situation or particular needs of any specific person. Investors reading this commentary should consult with their Glen Eagle representative regarding the appropriateness of investing in any securities or adapting any investment strategies discussed or recommended in this commentary.

A New Year’s Resolution You’ll Actually Keep

new-years-2017

I don’t know about you, but I personally am not a fan of New Year’s resolutions. I find that I start off every year excited about my pledge to lead a healthier lifestyle—promises like eating better, exercising regularly and getting more sleep. But then by March, when that gym membership or “healthy eating” regimen hasn’t gone according to plan, I feel guilty for not following through on what I promised. That’s not a great feeling.

The problem is that most resolutions set us up for failure by demanding too big a change in our routine to keep. Fortunately, resolutions to get financially fit for your retirement are easier to keep than heading to the gym at 5 a.m., thanks to a few simple habits that fit easily into your current routine. Here are six steps you can take today to start 2017 off on the right foot and become a more confident retirement saver:

1. Start early

They say people who work out first thing in the morning are more likely to stick to their routine. And the same principle applies to saving for retirement. If you’re early on in your career, starting to contribute now (even just a little bit) is important. If you’re more established in your career, now’s the time to think about upping your contributions.

2. Don’t forget to stretch

If your employer offered you a raise, how likely would you be to turn it down? If you don’t stretch your contribution to maximize the company match, it’s like turning down a raise. Don’t leave any money on the table. Take advantage of all your plan’s benefits.

3. Pace yourself

How do you run a marathon? You warm up, start slow and then pick up the pace as soon as you can. The same goes for retirement saving. Your plan’s auto features (like auto-escalation) are a relatively painless way to help increase the pace of contributions. So is increasing your contributions with your annual raise. Retirement savings is a marathon where the pace you set today pays off tomorrow.

4. Monitor your progress

When you review your investments, remember markets are unpredictable. It’s all too easy to get hung up on a dip here or there. Instead, focus on what you can control: Have you set a retirement income goal? Are you maxing out the match? And, if you’re at the IRS limit for contributions, have you considered saving in other tax advantaged accounts, like an IRA?

5. Know your strengths

Even the most successful athletes need a great coach. They know what they can do, and they know where they need help. Considering the importance of your retirement savings, do you really have the time to actively manage and monitor your asset allocation? If not, your plan probably needs some “coaching.” For example, a target date fund automatically aligns your risk exposure to where you are in your career. There may also be other options to help you manage your portfolio.

6. Keep your eye on the ball

Take advantage of retirement income calculators, like CoRI, to understand how far your savings are actually going to take you. The earlier you identify if you have a gap, the more time you have to get back on track.

This year, let’s all invest in our financial well-being. Use the game plan outlined above to get a head start on saving for retirement. Adopting these habits is easy to do—and can be a New Year’s resolution you actually keep.

Anne Ackerley is the Head of BlackRock’s U.S. & Canada Defined Contribution (USDC) Group and a regular contributor to The Blog.

 

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This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of January 2017 and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this post is at the sole discretion of the reader.

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