I believe that equities can continue to move higher, but it's going to be a very different market—it already has been a very different market—than it was in 2013. 2013 was a fantastic year for stocks, particularly U.S. stocks—up 30-35 percent for some segments of the market. This year is a much different start.
The big difference is that valuations are starting at a much higher level today than they were, let's say, two years ago in the summer of 2012. What that means is that while stocks can and probably will go higher as the economy improves and assuming rates stay low, they're going to move higher at a slower pace. And the reason for that is you're no longer going to have this tailwind of multiples expanding. In other words, stocks will go higher because revenues and earnings will rise rather than because investors are willing to pay more for a dollar of earnings—which really drove stocks higher in 2013 and in 2012.
I think investors will want to stick with equities with a couple of caveats. One, neither stocks nor bonds are as cheap as they were. Certainly bonds are fairly expensive. So one consideration is trimming back a bit on stocks, still remaining overweight stocks relative to bonds and cash but using that slight trimming to allocate to alternatives.
The second thing is look for parts of the equity market that still offer relative value. In the United States I think that means larger, more cyclical companies. It also means having more of an allocation to international stocks that are generally much cheaper than stocks in the United States.
Related by Topic: Economic Outlook , Equities
Although last week was a challenging one for investors, we do not believe the sell-off reflects a fundamental shift in market conditions. However, Chief Investment Strategist Russ Koesterich discusses how it points to three important lessons to be mindful of going forward.
After stocks' strong performance this year, is it time for investors to be a bit more cautious? In their latest Investment Directions market outlook, Russ Koesterich and his Investment Strategy Group provide their take and detail where they see investing opportunities today.