Investment Directions
Investment Directions – May 2012
The 2012 rally ended in early April and just as we predicted, stocks haven’t experienced smooth sailing so far in the second quarter. Markets bounced between modest gains and losses last month amid strong earnings, mixed economic data and renewed concerns about Europe and the strength of the US and global recoveries.
Global equity markets finished April down 1.1% and then fell 2.5% in May through May 7. With investor sentiment turning more cautious, the yield on the 10-year Treasury retreated in April to nearly 1.92%. Recent market performance has left many investors wondering: is it time to "sell in May and go away"?
- We believe the answer is a qualified yes. Investors should consider lightening up on certain positions such as technology, for which we are now advocating a benchmark weight rather than an overweight, and consider adding more defensive positions. However, our view is based on current market volatility rather than on the month of the year.
- We expect recent higher equity market volatility to continue and we wouldn’t be surprised if volatility rose even further. While market conditions remain stable, they are not so strong as to justify volatility being below its long-term average as it was in the first quarter. Credit market investors still appear somewhat more nervous than equity investors—traditionally a warning sign of higher volatility. Economic conditions have also not improved sufficiently to justify low volatility levels. Since rising volatility tends to be associated with equity market corrections, we advocate a relatively defensive positioning. We prefer defensive sectors such as global telecommunications, global mega capitalization (mega cap) stocks, high dividend equities and minimum volatility funds. We also prefer to get equity exposure through select developed and emerging markets that have robust growth prospects and fewer debt and banking sector problems.
- That said, we continue to hold an overweight long-term view of global equities, which we believe can post additional gains in 2012, especially relative to bonds. But in addition to being accompanied by higher volatility, the gains will likely come at a much slower pace than in the first quarter.
- In addition, assuming that Europe manages to muddle through without a full-blown eurozone breakup, we continue to expect that the global economy will most likely experience slow, but positive growth this year. Of course, risks still loom. Our major concerns remain Europe, a potential energy shock originating from Middle Eastern unrest, and US fiscal issues that could pose a headwind to global markets later this year.
- Finally, while we do like equities better than bonds, we continue to see certain opportunities within fixed income including investment grade credit and municipal bonds.
