As the US this weekend celebrates its Independence Day, fund managers on this side of the Atlantic are also being sucked into the Yankee fervour and are taking stock of the US equity market.
They may find the celebrations overdone, however. With the US economy still on the mend, the equity market is likely to remain choppy and difficult to navigate for some time. And a number of pessimists subscribe to the theory that, much to the chagrin of Americans, China is likely to be the first market to emerge from the downturn and lead the recovery.
“We’re in a holding pattern when it comes to the US. I worry that the market will carry on drifting,” says Antony Gifford, manager of Henderson’s Horizon American equity fund. “We’re feeling more comfortable than we were about companies because they have cut costs. But there’s no real return to the growth we once saw. I don’t think I’ve met enough managers of companies who talk about improving revenues.”
He adds: “I don’t think we’ll see a sustained upward trend from here for some time to come.”
In the last year, the S&P 500 – a key barometer for measuring the strength of the US market – has fallen more sharply than the FTSE 250, down 28.2 per cent compared with a 18.9 per cent fall in the UK index. And in the last six months, the S&P 500 is up just 1.8 per cent while the FTSE 250 gained 16.6 per cent in the period.
The two questions hanging in the air are the degree to which President Obama’s efforts at fiscal and economic stimulus will offer relief and how long interest rates will remain low.
“We would like low interest rates to be in place for a relatively long period of time,” says Cormac Weldon, a US fund manager with Threadneedle. “We don’t believe inflation will be an issue in the US for some time. There’s lots of excess manufacturing capacity and employee pricing capacity.”
In recent months, the US market has shown improvement. Optimists cite the ease with which the S&P 500 – now at about 900 – has rebounded since hitting a low of 666 in March. “Clearly, we are in a better place now than we were,” says Weldon of Threadneedle. “The second quarter is likely to be negative in terms of growth for US companies, but it could well turn positive in the third and fourth quarter.”
Some go so far as to suggest the long-term falls in the S&P 500 and expected volatility should whet investors’ appetites.
Excluding reinvestments for income, the S&P 500 is at the same level it was in 1997, according to calculations by Tim Cockerill, head of research at Rowan, the advisory company. This, he says, is an attractive proposition.
Also, the pace of negative economic reports – such as this week’s news that US unemployment hit 9.5 per cent in June – is slowing, the bulls argue. They add that the Federal Reserve’s aggressive programme of interest rate cuts should stimulate economic growth in the coming months. Predictions of improved results from Goldman Sachs and other investment banks also hint that US financial stocks are on a more stable footing.
“These are the first positive earnings revisions for over a year, suggesting that estimated profit decline is too pessimistic. Absent a further decline in economic conditions, unemployment must be very close to reaching its high,” claims Simon Laing, investment director North American equities at Newton Investments. “We expect many rallies and pullbacks through this period – fertile ground for active fund management,” Laing adds.
Concerns about the skittishness of US consumers should not deter investors, they say. The blue-chip companies listed on the S&P 500 (which include Exxon Mobil, Microsoft, Johnson & Johnson, Procter & Gamble, Wal-Mart and AT&T) receive more than 30 per cent of sales from overseas and just 15 per cent of earnings are tied to discretionary spending by US consumers, according to research by Newton, the fund house. “Far more important for US companies is business spending, exports and government investment,” says Newton’s Laing.
The market offers a mix of attractive cyclical and defensive stocks, which positions it well for a rebound. Among the sectors poised to fare better in a recovery is IT – with companies such as Oracle, which recently reported an operating margin higher than 50 per cent, and Apple (which has seen its fortunes boosted by the popularity of its iPod and iPhone) steadily gaining ground.
In preparation for a recovery, Sebastian Radcliffe, manager of Jupiter’s North American income fund, is increasing his exposure to financials and tech stocks (his portfolio was underweight in both last year) and reducing his defensive holdings. “Companies like Microsoft and Cisco have big global end-markets and their shares have traded down to levels you haven’t seen in a couple of decades,” he argues. “Despite the fact that these companies’ fundamentals have deteriorated in the recession, all the big tech companies still make operating profits and their balance sheets are absolutely pristine.”
CVS, the drug store, Raytheon, Occidental Petroleum, Cisco, Goldman Sachs and Microsoft rank high on the list of 66 stocks in his portfolio. Top holdings in M&G’s American fund, run by Aled Smith, are split across the IT, healthcare, energy , industrial and financial sectors and include Chevron, JP Morgan Chase, Coca-Cola, Wells Fargo and Oracle.
