Stocks and bonds won’t outperform in 2016, say analysts and mutual fund managers. They’re telling investors to expect lower returns from stocks and bonds, and are predicting more severe swings in prices.
But there’s good news: few economists are predicting a recession in 2016. That means stocks and other investments can avoid a sustained slide and may even grind higher, say analysts.
However, “you have to be realistic and think the outsized runs we’ve had in [past years] are pretty unlikely,” says Mike Barclay, portfolio manager at the Columbia Dividend Income mutual fund.
The list of reasons for muted expectations is long. To start with, economic growth around the world remains frustratingly weak, while earnings growth for big U.S. companies has stalled. And, stock prices aren’t cheap when measured against corporate earnings, unlike the early years of this bull market.
Further, analysts say markets may be more volatile due to rising rates that could hurt the prices of bonds in investors’ and mutual funds’ portfolios.
The main dangers to watch out for, they add, are spikes in inflation that impact investments, as well as a further slowdown in China.
“We think investors will be rewarded over the next five to 10 years with decent inflation-adjusted returns,” says Joe Davis, global head of the investment strategy group at mutual-fund giant Vanguard. “That said, they will likely pale in comparison to the strong returns we’ve had over the last five.”
Here’s a look at what analysts predict for 2016:
U.S. stocks
Corporate profit growth hit a wall in 2015. That was due to the plunging prices of oil and metals, and to the stronger dollar hurting exporters. Also, economic growth remained tepid throughout the year. So, even though analysts expect profits to stabilize this year, companies across many industries may grope for revenue growth.
As well, stocks in the S&P 500 are no longer cheap relative to their earnings. The index is trading at 17.2 times its earnings over the last 12 months, higher than its average of 14.5 over the last decade. A measure that looks at price and longer-term earnings trends popularized by economist Robert Shiller, a Nobel prize winner, is also more expensive than its historical average.
Since expensive stocks have little room to gain, investors should brace for dips. The market’s big drop in August was so rattling because it hadn’t happened since October 2011, which was an abnormally long gap. Since World War II, investors have been hit with drops of at least 10% every 19 months, on average.
But, Goldman Sachs strategists are forecasting the S&P 500 will end 2016 at 2,100, which would be a 4% rise from Monday’s close of 2,021. Barclays expects the index to rise 9%, and Deutsche Bank expects it to rise 11%.
Foreign stocks
Investors poured a net US$208 billion into international stock funds in the last year, while pulling US$56 billion from U.S. stock funds. One reason for that migration is investors want to make their portfolios look more like the broad market—foreign stocks make up about half the world’s market value.
Also, central banks in Europe, Japan and elsewhere are pumping stimulus into their economies to drive growth, when the Federal Reserve is moving in the opposite direction.
Further, earnings growth in Europe and other regions looks to be accelerating more strongly. Dale Winner, portfolio manager at the Wells Fargo Advantage International Equity fund, expects profits for European companies to grow in the neighbourhood of 15%. For U.S. companies, meanwhile, he’s expecting close to zero growth.
However, investing in foreign stocks can introduce new risks. Changes in the value of currencies can skew returns, and growth from country to country can be uneven. For example, as China shifts toward consumer spending and away from heavy industry, it’s hurting Brazil and others that produce the commodities that China used to be so voracious for.
Bonds
Bond investors may be nervous about the Federal Reserve raising rates, but they must remember that the central bank plans to increase short-term rates slowly and by very small increments.
But longer-term rates depend on inflation as well as the Fed. The good thing is many investors don’t see inflation getting out of hand.
And, higher interest rates mean bond investors will eventually be rewarded with higher income. Many analysts say that rising bond income payments could offset the gradual decline in bond prices enough to produce positive total returns.