Natalie Trunow is senior vice president and chief investment officer, equities, at Maryland-based Calvert Investment Management.
Harlan Levy: Give me a prediction for 2015.
Natalie Turnow: We've been positive on the U .S., especially versus Europe since the financial crisis and increasingly so in the last two to three years. Things have been getting progressively better in the U.S. and worse in Europe. We expect this dichotomy to continue for some time because of the euro zone's inability to enact much needed structural economic reforms.
We just got some very healthy Gross Domestic Product numbers in the U.S., the third quarter GDP is up 5 percent. I think an above consensus GDP growth of 3.5 percent is quite realistic next year absent a repeat of the extreme weather conditions from last year and significant geo-political crises.
If we see weather pattern from last year recurring this winter we could be entering a broader trend in climate change, which would be a very worrisome sign. If it's a trend, that could shave off a significant portion of GDP growth globally similar to what happened last year with one percent of U.S. gdp being removed.
This could mean significant supply chain disruptions globally effecting entire sectors of the global economy. In a global economy we operate in, companies depend on the interconnected supply chains with significant bottlenecks often located in areas that are susceptible to severe impacts from severe weather conditions, such as Taiwan and Japan. This dynamic is evident in auto components and manufacturing, energy and many other sectors.
But absent extreme weather conditions and a big geopolitical flare-up, we think the U.S. is in a good position to continue to produce healthy economic growth and is likely to continue to perform well in 2016.
Q: What about stocks?
A: As far as stocks and the U.S. market's performance I think we still have room for some multiple expansion. We have already seen significant multiple expansion in the last few years, and because corporate earnings and margins are likely to continue to stay healthy next year we think that economic fundamentals will support the equity market performance.
Having said that, we don't expect 2015 to be a stellar year with returns likely in 5 to 10 percent range, a milder year than the past couple of years, because the P/E multiples are now more extended, corporate profit margins are at their all time peak (especially for the large cap U.S. companies), and global economic growth is still quite anemic.
Since the U.S. economy is relatively well insulated, we think that it will likely do well next year, and that the U.S. stocks can post decent performance, but probably not as good as what we saw in the past couple of years.
Q: What sectors may suffer next year?
A: Auto part suppliers, farm equipment, construction companies, capital goods manufacturers, chemical companies, metals, and energy sectors are likely to continue to experience some negative pressure.
On the positive side, companies that rely less on external demand should do better, especially if dollar continues to stay strong. Some of these companies are in consumer staples companies, retailers and health care companies
Q: Are good and good-paying new jobs increasing significantly enough?
A: The overall job picture has been improving foe some time, and it will continue to improve, because you have quite positive economic data coming out of the private sector, where a great deal of job creation occurs in this country, in smaller private companies. That engine is likely to continue to accelerate and create jobs.
As for good jobs , the long-term trend is continued polarization of job quality and incomes. We will likely continue to see more jobs available in the higher paid "value-added" category while lower-paid jobs that are not "value-added will continue to shrink.."
New technologies, robotics, and efficiency will continue to replace traditional low value added activities, so the U.S workforce will need to become educated.
Meanwhile, the jobless rate will probably continue to inch down the way it has been so far and could end up next year as much as one half to one percentage point lower.
Q: What will the Federal Reserve do on rate hikes?
A: Because of the high dollar and because of low energy prices inflation in the U.S. will likely remain quite low in the U.S. with deflationary threats very real in many parts of the world.
This may give the Fed pause in how soon and how high they want to raise the rates, because global economic conditions can have an impact on the U.S., and it is probably unlikely that we will see robust economic growth outside the U.S. next year. I believe the Fed will consider the global economic environment and not just the U.S. Current market consensus points to mid year next year as the time for the Fed rate hike. We believe that when the hikes come they will be more meaningful than 25 bps increases but think that there is a risk to the consensus expectation in that U.S. Fed may actually raise rates later than the consensus expects and keep them lower longer.
Q: What does the oil price collapse mean for Russia? Will it fall apart?
A: Russia has almost every natural resource under the sun - from gold and natural gas to strategic metals, which means they have other significant sources of revenue. However, oil is a very significant part of Russia's exports, so sustained declines in oil prices coupled with the collapse in the ruble and negative impact on the economy from sanctions will likely keep Russia's economy in a recession longer than most anticipate. I think that the economic recession in Russia can become very severe which could result in further geo-political flare ups in the region.
Some say that Russia is more likely to go to war if its economy goes bad as one way the administration can garner more support and stimulate the economy. But I personally don't assign a high probability to that outcome, because the ruling elite has a great deal to lose economically if they become too aggressive on the geopolitical front, beyond what has already been done in Crimea and Eastern Ukraine.
Q: You probably know Russia better than most, since you came to the U.S. from Moscow. Do you foresee a change in the Putin government?
A: If something happens it's not going to be a gradual change. It will be very abrupt and violent. But I don't think it will happen, because the support that Putin has currently is very, very high throughout the population.
They don't like the recession, but Russia as a country and as a nation has always had imperialistic ambitions. It's a part of the Russian culture, so Putin's activities in Ukraine have huge support internally. I doubt there will be much appetite for change in leadership in this environment.
The sad part about Russia, and it is quite sad, is that people who support country's political stance will suffer a lot from the recession but will be reluctant to support change. And people who disagreed with the current regime who could leave the country have left, so the remaining population is more supportive of Putin. Russians unfortunately are very patient people. They've lived through generations of extreme repression, the revolution, the czars, a great deal of suffering. So tough times are not news to the Russian people. They can stand a great deal of pain for a long time. For the opposition to become strong and powerful and in a position to overturn the current regime the economic pain would have to be very severe and must last a very long time -- years, not quarters.
Q: Is Europe getting worse?
A: Since the financial crisis we've been negative on Europe and the euro zone's ability to get it together. We've been in that camp for some time now, and we continue to be negative on Europe.
We feel that the economic conditions in the euro zone are continuing to deteriorate, and even if the European Central Bank institutes quantitative easing early in 2015, it may not be effective and too late six years after the financial crisis. This QE will not be complemented by meaningful structural reforms, so it's even less likely to be effective. Europe is still going to be challenged, although European financial markets might have a rally in the first quarter when the QE measures are announced and then trade off the rest of the year. We don't think fundamentally that QE is going to be a successful strategy. We still don't think Europe is an attractive market for longer term-oriented investors quite yet.
Q: Will China deteriorate or rebound?
A: As in China and Japan, you have central banks all across the major economies easing monetary conditions, while the U.S. is going to potentially start raising rates next year. Overall that means the U.S. dollar will continue to stay elevated relative to most major currencies. It also means that individual easing efforts will be less effective. With everyone easing at the same time, no one will get the stimulative impacts that they're attempting to get.
Q: What's likely to happen if the nascent global initiative to combat global warming is inadequate, and are you optimistic about the U.S. and the world getting it done?
A: I think we are unlikely to get a workable solution on a global scale any time soon. The way nations treat climate issues is to kick the can down the road until they can't do it any more. Unfortunately we may have to wait until a major environmental crisis before a solution emerges, and a lot of people are going to get hurt, especially poor people.
People who get hurt from extreme weather conditions the most are those who can afford it the least. Poorer nations and regions will suffer the most, especially the coastal countries and areas prone to drought.
If we see more extreme weather conditions around the globe, severe disruptions in food supplies are likely to follow. A lot of people can get wiped out. This can cause social unrest in areas where large populations depend on basic food supplies. Geopolitical flare-ups and military conflicts may follow.
Countries with self-sufficient economies, like the U.S., will likely weather the storm better. However, if the first quarter of 2014 was an indicator of the impact on GDP growth from extreme weather conditions, we can predict as much as 1 to 1.5 percent of GDP growth erased as a result.
It will take global cooperation to impose global standards, and this will be difficult to do. Look at the euro zone. It can't seem to implement the needed structural reforms to help the economy, with its multiple countries unable to agree. Extrapolate that dynamic on the global scale, and it becomes clear that the solutions to climate issues will be slow to come.
Q: Is that your biggest worry?
A: Extreme weather conditions globally can result in some of the events that most people don't anticipate and could really throw the global economy for a tailspin. We got a taste of that during the first quarter, and if that starts happening on a regular basis it will make the economic environment grim for a long time.
In my mind, the situation is becoming more and more of a threat. If we're getting more of a pattern of accelerating climate change, whether you agree with that or not, we'll have to deal with it.
I have faith we'll figure it out as a species, eventually, but we'll need a clear sense of danger before we act, unfortunately. Ultimately we'll survive, and we'll be better for it and figure out ways not to harm the environment the way we have been. But we'll get there.
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